The pros and cons of withdrawing from your EPF savings for home loan down payment

A home loan is your immediate need, while your PF balance is your retirement need. How to decide whether you should divert a part of your retirement benefits towards your current need of buying a house?

Purchasing a house is one of the biggest dreams for any individual. While it’s an emotional decision for many, it also comes with big financial implications. It starts with arranging money for the home loan down payment. If your house purchase decision is a few years away, you can systematically plan to accumulate the down payment. But if you have got a good deal and need the money immediately, you can dip into your investments for the time being and replenish them later. 

One of the investments you can rely on is your Employee Provident Fund (EPF). This article will discuss the pros and cons of withdrawing your EPF for a home loan down payment.

What is Employee Provident Fund (EPF)?

The Employee Provident Fund (EPF) is a retirement benefit scheme offered by the Employees’ Provident Fund Organisation (EPFO) on behalf of the Government. Under the EPF scheme, the employer deducts a specified percentage (currently 12% of basic pay and DA) of the employee's monthly salary and deposits it with EPFO. The employer also makes a matching contribution towards the employee’s EPF account. The EPFO invests the amount collected from all its members and pays them an annual interest rate. On retirement, the employee gets the accumulated amount along with interest. 

Income tax benefits on EPF

An employee can claim deductions from taxable income for annual contributions made under Section 80C of the Income Tax Act. In a financial year, the maximum deduction allowed is the annual contribution made or Rs 1,50,000, whichever is lower. Withdrawals from an EPF account are also tax-free if done after five years of continuous service.

Withdrawals from EPF for housing needs

While an employee contributes to their EPF account every month, they can also make partial withdrawals for specified purposes, subject to certain terms and conditions. The EPFO introduced the ‘EPFO Housing Scheme for PF Members’ to facilitate housing needs by allowing members to withdraw funds from their EPF account. Let us look at the salient features of this scheme:

• The withdrawal can be made for the purchase/construction of a house, including the purchase of a plot. 
• The member can purchase the house from the Government, any housing agency under any housing scheme, or any promoter/builder.
• The EPF member can apply for withdrawal up to 90% of the accumulations in the PF account.
• Withdrawal will be allowed only once.
• The person should be an EPF member for a minimum of 3 years, and the minimum PF balance in the account should be Rs 20,000
• The EPF member should be a member of a registered society having 10 or more members.
• Apart from lump sum withdrawal, members can opt for full/part repayment of home loan out of monthly EPF contributions.
• The EPF member can also avail of EMI facility from the EPF account for repayment of a loan.

(Source: https://www.epfindia.gov.in/site_docs/PDFs/MiscPDFs/EPFO_Housing.pdf)

Related: 8 Situations In Which You Can Withdraw Your PF Early

Should you use your EPF money for a home loan down payment?

Before using your EPF money for a home loan down payment, you should consider the pros and cons of this decision. Let us look at the pros first:

• Easy availability: The EPF money is your own money that is easily available for you to use at any time (subject to eligibility criteria) for specified purposes. You don’t need to pay any interest to use this money. You don’t even need to return this money.
   
• Quickly bridges the gap if the requirement is small: There can be a situation wherein you have already accumulated a significant portion of the required money, and the shortfall is a small amount. In such a case, you can rely on your EPF balance to bridge the small gap.

These are some of the cons of using EPF money for home loan down payment:

• Reduction in retirement corpus: Your retirement corpus will get reduced by the amount you withdraw. Future compounding will happen on the balance, so the compounding effect will reduce as the balance will be lower. In effect, you can fall short of your retirement fund target if you withdraw money from EPF for a home loan down payment.
   
• Opportunity cost: If the rate of interest that you are earning on your EPF balance is higher than the rate of interest that you will be charged on your home loan, then withdrawing EPF money is not a good economic decision. For example, for the last financial year 2020-21, the interest rate payable on EPF balance was 8.5% p.a. As of September 2021, many banks and NBFCs are offering home loans in the range of 6.5%–7.0% p.a. So, as of today, home loans are available at a lower rate than what you earned on your EPF balance in the last financial year.
   
• Restrictions on when and how much money can be withdrawn: To withdraw money from your PF account for reasons like buying a house or repaying a home loan, you should have completed at least three years of your PF membership. For the purpose of housing, the amount that you can withdraw is restricted to 90% of the PF balance.
   
• Tax implications: If a withdrawal is made before you complete five years of continuous service, then the amount will be taxable as follows. The interest earned on your EPF contribution will be taxed under the head "Income from other sources". Employer's EPF contribution and interest earned on it will be taxed under the head "Salary". For your EPF contribution, if you had availed deduction under Section 80C earlier, then that will be treated as if Section 80C benefit was not claimed and taxed accordingly.

Related: How does a lower EPF contribution impact your retirement savings?

To dip into the PF or not?

Whether you should make an EPF withdrawal or not depends on certain factors like the balance accumulated in your EPF account, your current financial situation, how far you have reached with your financial goals, how will your financial goals be affected due to the EPF withdrawal, etc. 

• If you are nearing retirement and if your retirement fund won’t be affected much by the withdrawal, you should go for it. 
   
• If you are in your 30s and have a long career in front of you wherein you can replenish the EPF withdrawal amount in the future with increased contributions, you can go ahead. If increased EPF contributions are not possible, you should think of other ways to generate funds for your retirement.
   
• Consider the EPF interest rate and home loans rates. If the EPF rate (8.5% p.a. for the last financial year 2020-21) is more than the home loan rate (as of October 2021 most banks are giving home loans at 6.6-7.0% p.a.), you should not make an EPF withdrawal. Instead, you should go for a home loan as it can help you get additional income tax benefits. 
   
• On the other hand, you should let the EPF accumulation build your retirement fund. Withdrawal from EPF should always be kept as the last option.

Last words

You need to strike a fine balance between your housing need and your retirement need. Both have a lot of financial and emotional value. For many individuals, the decision to buy a house comes early in life, say, around 30 years or so, and retirement actually starts much later, at around 60. This one point - home needs coming first and retirement coming later - might tilt the balance in favour of current housing over future retirement.

Related: Lost Your Job Or Planning To Quit? Here's How You Can Benefit From Your EPF