Why Invest in a Public Provident Fund?
One lives in a very volatile World. What is there today may not be there tomorrow. The same trend is reflected in the stock markets. One can become a millionaire in an instant and lose everything in a few days. One looks for stability in life and this reflects in the financial instruments one chooses. In times of volatility Go Conservative is the name of the game. The financial instruments of choice in a volatile market are a public provident fund or a fixed deposit .Invest wisely in small quantities in a public provident fund and earn handsome returns with time.
What is a public provident fund?
This is basically a fixed income instrument where the capital invested is not only 100% safe but also earns interest. This helps to provide an income to the workers of the unorganized sector and non salaried individual’s .This is basically a statutory scheme of the Indian Government launched under the provisions of the Provident Fund Act 1968.
What are the salient features of a public provident fund?
- A public provident fund can be opened at any branch of the State Bank of India or its subsidiaries. It can also be opened at any post office and some nationalized banks which even allow one to open an account online.
- The public provident fund form can be downloaded from the SBI website. A photograph and a pan card are necessary. An identity and residence proof is a must. A passbook is given which has all subscriptions, withdrawals, interest accrued and loans which are recorded.
- The interest rate offered is 8.7% per annum valid from 1st April 2013.The interest is compounded annually. The interest for the month is calculated based on the minimum balance available from the 5th of the month to the end of the month. The interest earned is tax free.
- The minimum amount that needs to be invested is INR 500 per financial year. The maximum amount that can be invested is INR 1 Lakh per annum. This amount can be invested in a single installment or in multiple installments not exceeding 12 per financial year. It is possible to make online payments towards the public provident fund only if the account is with SBI.
- The maximum tenure of a public provident fund is 15 years .A public provident fund can be extended post the 15 year period in blocks of 5 years each. During the additional period one can earn interest as well as make contributions. Once this account expires a new account can be opened.
- Any individual be it salaried or self employed can open a public provident fund .HUF’s are no longer allowed to open a public provident fund.
- A depositor is allowed only one public provident fund is his name. If he opens another account and it is detected this account is closed and the principal is returned without any interest.
- If one forgets to make the minimum contribution of INR 500 per annum then the account is deactivated. This account can be reactivated on paying a penalty of INR 50 for each inactive year followed by the minimum contribution of INR 500 for each inactive year.
- This account can be opened only in the name of a single holder and no joint account is permitted. Nominees can be nominated for these accounts. On the death of the account holder nominees get these amounts. However they cannot keep these accounts active by making contributions. Premature closure is not permissible except on the death of the depositor.
- An account can be opened in the name of one’s minor child. An individual can open only a single account in the name of the child of which he is the guardian.
- A loan facility against the public provident fund is available from the 3rd financial year excluding the year of deposit. Loans can be taken from the third year onwards till the sixth year. Up to a maximum of 25% of the balance at the end of the second immediately preceding year would be allowed as a loan. The principal amount needs to be repaid within 36 months of the first day of the month which follows the month in which the loan was sanctioned. The interest charged is 2% per annum against the prevailing interest rate. A fresh loan is not allowed if the previous loan amounts and interest is outstanding.
- Previously NRI’s were not able to make contributions in public provident fund accounts opened before they became NRI’s. Post 2003 a resident turned NRI is able to invest in the account through NRE/NRO bank accounts till maturity. After the completion of 15 years the amounts can be remitted to the host country .No extension is permissible for the NRI beyond the 15 year term. The amount is not taxable in India but might be taxed in the country of residence.
How can one withdraw the amount present in a public provident fund?
- Withdrawal is permitted from the 7th financial year. Only a single withdrawal is permitted in a year and this amount should not exceed 50% of the balance at the end of the 4th year or the balance at the end of the preceding year whichever is lesser.
Let us consider an account opened in FY 2002-2003.It is currently December 2012.The current financial year is 2012-2013.The previous financial year is 2011-2012.The 4th financial year is 2008-2009.The amount that can be partially withdrawn would be 50% of the account balance dated March 31st 2009 or the account balance on 31st March 2012 whichever is lesser. In this case the amount under consideration is INR 180000 corresponding to 4th financial year.50% of this amount is INR 90000.This amount is eligible for withdrawal.
||PPF Account Balance (INR)
|31st March 2003
|31st March 2004
|31st March 2005
|31st March 2006
|31st March 2007
|31st March 2008
|31st March 2009
|31st March 2010
|31st March 2011
|31st March 2012
What are the tax benefits of investing in a public provident fund?
- The investments made in a public provident fund are eligible for a deduction up to a maximum limit of INR 1 Lakh per financial year under Section 80 C of the income tax act.
- The interest earned in a public provident fund is not taxed.
What are the returns obtained from a public provident fund?
Mr Rajesh invests INR 1 Lakh for a period of 15 years. He gets a tax deduction on 1 Lakh invested per financial year under Section 80 C. The interest paid under public provident fund is 8.7% per annum. What amount accrues after 15 years?
As seen from the table the amount accrued after a period of 15 years of investment is INR 31,17, 276.Mr Rajesh invests 15 Lakhs which has become 31.17 Lakhs.
What happens if the public provident fund is extended beyond 15 years without any further contribution?
If the account is left as it is without any further contributions interest is earned on the amount accumulated. After a year the default option is automatically activated. The account is now considered as extended without further contribution. Now the public provident fund amount can be withdrawn but no further investment can be made in it. One can withdraw whatever amounts he wants and the balance amount left behind keeps earning interest .However only a single withdrawal is permitted per year.
What happens if the public provident fund is extended beyond 15 years with further contribution?
Let us consider the 15 year tenure is over and a further extension of a 5 year block is made. The amount accrued is INR 10 Lakhs. Only 60% of the amount accrued can be withdrawn over a 5 year block .Only one withdrawal is permitted per year. This means one can withdraw only 6 Lakhs over a 5 year tenure or about 1.2 Lakhs per year. After 5 years one can continue the above process for a further block of 5 years or leave the account as it is without further contribution.
I would like to end this article stating that public provident fund is a better bet for a conservative investor than even a fixed deposit. This is because it is a tax saving instrument and the interest earned is not taxable. This is a great retirement tool and even small amounts saved can leave a handsome amount for retirement.