Voluntary Provident Fund Tax Treatment
Voluntary Provident Fund (VPF) allows salaried employees to contribute above the mandatory 12% EPF limit, with contributions up to ₹2.5 lakh per year in aggregate (across EPF and VPF) earning tax-free interest post-Budget 2021.
The Voluntary Provident Fund is an extension of the Employees' Provident Fund. An employee can voluntarily contribute any amount beyond the mandatory 12% of basic salary, up to 100% of basic and dearness allowance, directly to the EPF account. Historically, VPF carried a triple tax benefit (EEE): contributions qualified for Section 80C deduction, interest accrued tax-free, and the final withdrawal was also tax-exempt.
Budget 2021 introduced a significant change: interest on employee contributions exceeding ₹2.5 lakh per year became taxable in the hands of the employee from FY 2021-22. This threshold applies to the combined employee contribution across EPF and VPF. If the employer does not contribute to EPF (in cases of partnerships or sole proprietorships), the threshold is higher at ₹5 lakh.
Pre-Budget 2021 contributions continue to earn tax-free interest — the change is prospective. EPF accounts are now bifurcated into two sub-accounts for computation purposes: one for contributions up to ₹2.5 lakh (tax-free interest) and another for excess contributions (taxable interest). The taxable interest is calculated at the EPF rate and included under 'Income from Other Sources' in the ITR.
Despite the partial dilution, VPF remains competitive for many salaried employees because: (a) the interest rate (currently 8.25% for FY 2023-24) is sovereign-guaranteed and higher than most bank fixed deposits; (b) contributions below ₹2.5 lakh still enjoy EEE status; and (c) the Section 80C deduction on contributions (subject to the overall ₹1.5 lakh limit) remains intact.
High earners who were using VPF as a primary debt instrument saw the attractiveness partially diluted. For employees with basic salary above approximately ₹1.04 lakh per month, even the mandatory 12% EPF contribution crosses ₹1.5 lakh annually, leaving little room for VPF within the tax-free threshold.
Withdrawal from VPF is governed by EPF rules — it is permitted after five continuous years of service for specified reasons (housing, medical treatment, marriage), and full withdrawal is allowed on retirement, resignation after two months of unemployment, or permanent emigration.