You hear more about it in the first quarter of the year when investors scurry to invest in tax saving instruments. The Public Provident Fund or PPF stands out tall and mighty amongst the fixed income instruments.
Lets take a quick look at what the PPF is what it has to offer.
What is the Public Provident Fund (PPF)
This is a government run fixed income instrument started with the purpose of providing income security to workers in the unorganized sector and self-employed individuals. Unlike employees who are salaried and who save in the form of a provident fund, nonsalaried individuals don’t get the benefit of putting away money into a provident fund.
So the government established the PPF in 1968 for them for investing their hard earned money.
Where can a PPF account be opened ?
It can be opened at any branch of the State Bank of India (SBI) or its subsidiary; some nationalized banks that handle PPF accounts and any post office.
Who can open a PPF account ?
An individual can open a PPF account on his own or on behalf of his children. He obviously needs to be the guardian of the minor. In case you open an account with your children, the total investment across all PPF accounts cannot exceed the maximum limit of Rs 70,000/- per year. So you cannot open two accounts and put in Rs 70,000/- in each.
The PPF can be used by the employed, the unemployed, minors, housewives and in fact, even people without an income can open a PPF account.
What do you need for opening an account ?
You will have to fill up a form which you can download from SBI’s web site. Attach a photograph with the form and submit your Permanent Account Number.
If you do not have a PAN, then you can attach an attested copy of either your passport, ration card or voter’s identity card. After you open an account, you will get a passbook in which all contributions, interest earned and withdrawals are recorded.
How does it work ?
Each year, you need to deposit a minimum of Rs 500/- and a maximum of Rs 70,000/- in your fund account.
PPF currently offers 8% rate of interest and this is compounded annually. This rate of interest is decided by the government each year and so it is not fixed. The interest is calculated on the minimum balance between the fifth day and the last day of the month. This interest is credited to the account by the end of the financial year i.e. March 31st each year.
Tenure of PPF
The duration of investment is 15 years. After this expires, the investor has the option to extend this by a block of 5 years each. This extension can be done any number of times.
If the investor does not want to extend his PPF account, he can simply stop investing and continue with the account.
Tax Benefits of PPF
Any amount you invest each year in PPF is eligible for tax deduction under Section 80C. The maturity amount that you receive is also not taxable.
Given this double edged benefit, most of the other fixed income instruments pale in comparison to the PPF.
How liquid is PPF ?
Liquidity is defined as the ability of converting an investment into cash quickly. Having said that, PPF is an illiquid investment class. Let us see how withdrawals and loans work.
Loans and Withdrawals
A loan can be taken from the third third of opening you account and only till the sixth year. So if you opened an account in 2005-2006, the year in which you can take the loan will be 2007-2008. The amount of loan you take can be only 25% of the account balance that exists at the end of the first financial year. The rate of interest on the loan is 1% more than the rate you get on your PPF account.
You can do only one withdrawal starting anytime from the sixth year, no withdrawals are allowed before the sixth year.
You can withdraw only 50% of the the lower of
- the balance at the end of the fourth year, preceding the year in which the amount is withdraw OR
- the balance at the end of the preceding year
To take an example, if you opened the account in 2004-2005 and the first withdrawal is made in 2009-2010, then you can withdraw only 50% of the lower of
- the balance at the end of 2005-2006 or
- the balance at the end of 2008-2009
Invalid PPF accounts
If you do not pay the minimum Rs 500/- in a year, your account stands invalid. Withdrawals are not possible from an invalid account. You can revive your PPF account by paying a fine of Rs 50/- per year and all the pending minimum payments till date.
So for example, if you have not paid the minimum due for 3 years, to continue investing in your PPF account you will need to pay a total fine of Rs 150/- (Rs 50/- for three years) and Rs 1500/- (the minimum Rs 500/- due for each year).
The repayment of the contribution with interest will be made only after 15 years from the end of the financial year in which the PPF account was opened.
Who should invest ?
Anyone looking to take an exposure to debt instruments must invest in the PPF. Where would you get an investment class that doesn’t tax you on the investments made, on the interest that you earn on such investments and on withdrawals as well.
Businessmen who don’t get an opportunity to contribute in a provident fund can use this avenue to save wealth. This can be an ideal retirement planning avenue if used properly – it is essentially a long term investment avenue.
Other points to keep in mind :
There is hardly any risk attached with the PPF.
You get the convenience of investing lower amounts as and when you have the money. 12 contributions can be made in one year.
The PPF cannot be attached via a court order in case of insolvency or bankruptcy.
Nomination can be made in one or more names.
On death of PPF account holder, the nominees cannot keep on contributing on the name of the deceased person.
Once cannot have 2 PPF accounts. If found out, the second account will be closed and the principal refunded without any interest payout.
One cannot open a joint account with someone else.