If you were planning for your retirement and depended heavily on the Employee Provident Fund (EPF), then it is time you did your financial planning again.
The government has brought down the interest rate on EPF and has left many salaried employees who get EPF a bit peeved. Suddenly, there are other investments out there which seem to be having a better rate of interest.
What is the Employee Provident Fund (EPF)
The Employees’ Provident Fund Organisation (EPFO) manages the EPF of around 4.6 crore subscribers. EPF is a social security avenue for employees in India. The EPF covers organizations that have 20 employees and those having earnings upto Rs 6,500 per month are eligible to be covered.
The employee contributes 12% of his basic salary each month and the employer also adds another 12%. That is a meaty 24% each month invested for long term for retirement. Since this is a forced saving in a risk free investment avenue, it works well for investors in the long run.
In 2010-2011, the EPFO had upped the interest rate from 8.5% to 9.5% after it found Rs 1,700 crore surplus in its books of account though the finance ministry was not happy with the move as it suspected that there could be a shortfall.
This week, the government cut the interest rate on EPF savings for 2011-12 to 8.25%.
The move came at the back of the fact that the surplus was not enough to support the 1% difference that was promised last year and income estimates done were incorrect leading to a Rs 500 crore shortfall.
The impact of down interest rate on EPF
Within 10 years, the EPF rate has come down from 11.25% in 2000-2001. To the current interest rate of 8.25% for 2011-2012. So it is obvious that you cannot depend on EPF to provide money for you for your retirement. You need to depend on other investment avenues like diversified equity mutual funds. This help in long term investing and beat inflation.
So what is the impact ? If this rate of interest is to continue in the future always, then the impact is huge. Now historically, when reserves have been found to be available with the EPFO, they have jacked up the interest rate. However, if that was not to be done. We were to continue with the same rate in the future, let us see what the impact will be.
Assume a basic pay of Rs 10,000 per month which increases 5% year on year. For a person who has just started his career, he might might have 35 years to go before retirement.
The first column in table below show “Total no of years” depicts the number of years for which the EPF will accumulate.
The second column depicts the maturity value which EPF fund would have fetched you had it remained at 9.5%. Similarly, the third column depicts the fund value that will accumulate in your EPF account if the rate of interest is 8.25%.
Finally, the fourth column defines the decrease in percentage terms due to the new interest rate.
The longer your money is to grow at the current lower rate of 8.25%, the larger will be the decrease in fund value. An approx. 22% decrease over 35 years. And 18.8% over 30 years is a very large reduction in corpus.
Impact of EPF Rate cut from 9.5% to 8.25%, values are approx.
Given this, it is best if investors look at equity. This is to build up a corpus that will help them in their retirement.
The current rate of 8.25% is lower than the other small savings interest rates making EPF look a bit pale in comparison. Even FDs deliver better than this. I sincerely hope we see better interest rates on the EPF otherwise investors will be left stranded.
Hi,
Great to see you being on top of the updates. However, I think the government may continue to moderate the interest rates for EPF. I got a call from one of my client who after reading the reduced rates for PF wanted to transfer the PF balance into PPF which still continues to pay 8.6%. It was nice to see that my client was on top of his finances and wanted to take proactive steps to get the best out in the market.
However, my view is that there are some things which you don’t have control upon and interest rates are one of these aspects. Hence the best aspect is to have a command on how much you are investing rather than what you would get at the time of retirement. Aim for the best investment channel so that it can give the best value for your money. After all money creates money !
These days, I am liking tax free NRE Deposit rates (http://insight.banyanfa.com/?p=123) much better than any other interest rate products available in the economy. Alas, it is only available for NRIs. Options available for residents are tax free bonds which give tax free around8.25% returns and no one tends to beat the rates provided by PPF.
Regards
BFA
@BFA,
Thanks for sharing your views. A lot of people had hopes on EPF since its savings towards retirement. Government has come up with quite a few tax free bonds in the last couple of months, more to follow in the future but it would have been nice to see interest rate @ 9%. Make it par with FD.
@Banyan Financial Advisors, Yes the govt will moderate it no doubt but the fact that it came down from 11.25% to 8.25% in 10 years shows where we are going.
To have a command on how much you are investing, you need to know what you are targeting for in the future and in this case, that milestone of retirement has now new figures !
@TheWealthWisher,
Agree when you said, milestone for retirement now has new figures. We would have to invest somewhere else to bridge the gap.
@Banyan Financial Advisors, So, would you advise to move EPF money to PPF for 0.1% benefit?
@Vivek K, Sorry I meant to write 0.35%
@Vivek K,
Hi Vivek,
I have not advised my client to shift his funds from PF to PPF. I just asked a reverse question – what if on 1 April government reduces PPF amount equal or less than PF ? Would he think about reshuffling his PPF amount back in PF (which is not very much possible).
Regards
BFA
@Banyan Financial Advisors, haha good question! I think these kind of questions will make people literate and move away from impulse.
I think you are doing things the right way.
@BFA,
I think investors should start investing in MF with a long term horizon and forget about PF/EPF rates, just keep investing in them as before. MF will definitely beat PF/EPF by a long way.
@Rakesh, Not everyone has appetite for MFs. The debt instruments are necessary for portfolio diversification and low risk investors.
@Vivek,
Yes very few people invest in MF. I think people should be educated about MF. Only investing in PF/EPF/PPF won’t help us in the long run.
@Rakesh
Correct but it will take time. First people need to educate themselves about inflation eating their money.
@Vivek,
Yes majority of people do not know how inflation effects their financial planning. When i closed my LIC endowment policy, my relatives said that i was a fool and that i would get double the amount after 20 years.
I tried to convince them but to no avail.
@Rakesh,
Show them the IRR but even then I don’t think it would matter to them. They would say something is better than nothing and according to them equity gives nothing, it’s a place to loose all your money.
@Vivek,
They said the same thing, they are well aware that i am into equity and they gave me reason of 2008 crash too.
@Radhey,
Thanks for the detailed explanation. Its very disappointing to see the rates come down. You mentioned
“The move came at the back of the fact that the surplus was not enough to support the 1% difference that was promised last year and income estimates done were incorrect leading to a Rs 500 crore shortfall.”
So was this their mistake or it could be another scam in the making?
@Rakesh,
What happened was this –
Last year the int rate was 9.5% but it is being paid out of income from this year. That is because of the fact that the extra 1% that is being paid, could not come from last year’s income because most of the EPF accounts were not updated and the surplus found was not really surplus as many accounts were still to be updated.
To make matters worse, they made some income calculation error which led to another shortfall of 500 crore – hence the low interest rates this year.
@TheWealthWisher,
Thanks for the explanation, so they got their calculations wrong. To reduce EPF rates by 1.25% at one go was not warranted for.
@TheWealthWisher, This is heights of sloppiness.
Where did you find the information Radhey? Was it published somewhere or some inside information you got?
@Vivek K, No it is there in the papers everywhere. Search for it on the net.
The only reason they mentioned was it was a demand in time and if they have surplus in future they will increase the rates.
http://zeenews.india.com/news/delhi/cut-in-epf-rate-a-demand-of-time-labour-minister_764833.html
Even though the employer contribution is 12%, all does not go towards EPF, a certain percentage goes to gratuity. And gratuity is paid only on completion of 5 years which is rare in case of private employers. Very seldom you see employees sticking to same employers these days.
So this money goes back to employer’s kitty.
@Rakesh,
Dear Mr. Rakesh,
As far as I know, out of 12% of Employer’s contribution, 8.33% goes to Employee Pension scheme (& not in Gratuity), & remaining is deposited in EPF account. When an employee resigns, & withdraws the EPF amount, he has the option to withdraw whole 24%.
Gratuity is a separate component in CTC which comes in picture only when an employee completes his 5years of service with the same employer.
Regards,
Aparna Nema.
@Aparna,
Thanks for the explanation. Do we get a separate statement for pension account? Is the interest rate earned the same? Because in the EPF statement there is always a difference in Employer and Employee contribution.
@Aparna Nema, You are right Aparna.
Employers contribution – 8.33% goes to EPS and 3.67% to EPF
Employees contribution – 12% goes to EPF.
Good contribution, way to go !
@TheWealthWisher, So, the EPF statement we get contains EPF balance only or EPS is included in it?
@Vivek,
I think only EPF balance is included in EPF statement. There is always a difference in amount between employer and employee contribution.
@Rakesh, Then how do I check and access my EPS money? 8.33% is a big amount!
@Vivek,
I have no clue, that’s the reason i posed the question after looking at the difference in employer/employee contribution.
Maybe Radhey can assist.
@Rakesh, Another Lifeline!
Our experts – Radhey? BFA? Pattu?
@Rakesh, As far as I know, it is the full amount that is given in EPF statement.
@Radhey,
No, i don’t think the full amount is given because there is difference between employer and employee contribution.
@Radhey,
Here is the info i got from the net.
Out of 12% of Employer contribution, 3.67% is contributed to EPF and 8.33% to EPS(Employee Pension Scheme). However this is limited to 8.33% on Rs.6500 i.e., Rs.541/- contributed by Employer. For example, if your basic salary is Rs.10000/- then employer can deposit maximum Rs.541/- in EPS and rest of the amount (Rs.1200 – Rs.541 = Rs. 659) will be deposited in EPF. Hence, in a year, the employee’s contribution to EPF will be Rs.1200 * 12 = Rs.14,400, however employer’s contribution to EPF will be Rs.659 * 12 = Rs. 7,908.
This is the reason, in EPF statement, you see a difference in Employee and Employer contribution as amount deposited in EPS is not shown in EPF statement.
@Rakesh, Sorry, you are right, the full amount is not reflected in the statement. Good one Rakesh, keep up the RnD and good work – really appreciated.
@Rakesh, Good one Rakesh. Did you find anything about EPS statement?
@Radhey,
Thanks. I got confused between Pension and Gratuity.
@Radhey,
Thank you, just doing my part. Have learned quite a few things here.
@Vivek,
Could not get any information on EPS, still searching.
@Aparna Nema, Not bad Aparna, thanks for sharing :).
@Rakesh, I don’t think EPF and gratuity are inter-related. For me EPF and gratuity are shown as different components in my CTC and as rightly pointed gratuity is given after 5 years of service. Earlier it was 4 years in my company but now it has been increased to 5.
Below link contains more information on the break-up of employer contribution.
http://www.epfindia.gov.in/payments.htm
@Rakesh, Good one.
We can get our EPF balance instantly via sms from the below link.
I did it for myself and got an SMS in 5 minutes.
http://www.epfindia.com/MembBal.html
But the data updated in the system is until 31/03/2011, so the EPF authorities have a lot of catching to do.
@Rakesh, With issuance of monthly statement I am sure they will catch-up pretty soon.
@Vivek,
Yes, i hope they do that first. One year lag is way to much.
@Rakesh, Still a lot better than PF slips.
@Vivek,
Monthly PF slips is too much to ask for, at least once every quarter or half-yearly. Moreover we can always get the balance via SMS.
Let them save trees…
@Rakesh, When government banks can email monthly account statements, why can’t they? I think they can and they should.
@Vivek,
Yes email is more better, if they can have SMS then implementing Email would be easier too.
@Rakesh, That’s the whole idea to move to monthly email statements.
@Rakesh, The SMS facility is amazing, looks like our government is becoming advanced. 🙂
@Vivek,
Yes this a very good facility provided by the government. Few years ago no one would have thought about it.
@Rakesh, Yes, all departments slowly but steadily getting computerized. It is for our own good.
@Vivek,
Yes you are right. Post office should be computerized very fast. They are still way behind. KVP,NSS,MIS all need to be centralized.
@Rakesh, Yea, I need to travel to my home town every time to sign and get my NSC maturity money. It’s frustrating!
@Vivek,
Same here, I have been through a lot of pain too. If they centralize it, no matter in which state you are, you can just go and encash the same.
If Banks could get it done, why not Post office.
@Rakesh, I think they are getting to it. Before computerization they have lot many other things to fix.
@Vivek,
They have already computerized some of their centers in big cities. I have seen it for MIS. Earlier they used to manually check the registers. They only have to get the whole thing centralized.
Getting whole thing centralised is not an easy task, it will take time but it will happen for sure.
@Rakesh, Actually IT people did think even a few years ago. 🙂
@Vivek,
Life will become more easier then. I think the coming generation will have everything in their palette.
@Rakesh, They will have their own set of problems to deal with. Life is never easy for anyone.
@Vivek,
Yes that’s true but with most of the government services being centralized it will save a lot of time and effort.
@Rakesh, You never know, it’s just a speculation.
@Rakesh, I also got the data and it is updated till 8/3/12, pretty impressive!!
After all some advantage of staying in IT capital of India. 🙂
@Vivek K, Vivek/Rakesh, why don’t any1 of you do a post on how to do this step by step with pictures in a word document and send to me, I will put it as a guest post.
No hurry or no force, I think it will be very very useful to everyone.
@TheWealthWisher, Good idea!
Done and sent ;).
@Vivek K, Rocket speed !
@TheWealthWisher, Let me know how you find it.
@Radhey,
Manish@Jagoinvestor had already done this sometime back and i must say it was an excellent post. You can ask his permission and put the link. It will save a lot of time.
@Vivek,
Are you sure you got the data updated till 8/3/12 because at the end of sms they mention that accounts updated upto 31/03/2011.
@Rakesh, Yes, I am sure. It is different for different cities. The updated date is also mentioned on the link you provided when you select the city.
@Vivek,
Thanks for the confirmation. If the accounts are updated till 8/3/2012 then that’s great news, only 10 days lag. You get accurate data.
Nice article Radhey. People in their 40s who wholly depend on EPF are quite frankly screwed. Retirement planning is the scariest financial goal to plan and implement. There are way too many parameters to take into account. Underestimate returns and annuities. Overestimate inflation, expenses, and time in retirement as much as you can. Even then you cannot be sure.
Only way out is to start early, invest enough in equity and be alert.
@Pattu,
Thanks for sharing your views. Start early and investing in equity is a must, I started late so i have my work cut-off.
@pattu, You have raised valid points Pattu. Depending only on PF money is the biggest mistake for any retirement, it is definitely going to make you poor.
One has to educate himself/herself and invest smartly.
@pattu, Glad to have received your comments. Yeah it is one of the most challenging goals to target for.
Is overestimating inflation a bad thing Pattu as long as one does not compromise on current lifestyle ?
@TheWealthWisher @Pattu, What should be the anticipated inflation while calculating for long term goals? I am sure general inflation and education inflation would be different.
@TheWealthWisher, I think I didn’t make myself clear. I meant:
one should overestimate inflation as much as one can for getting a safe corpus estimate. Many plans assume 6%. Personally I could increase it only to 8.5%. Any higher than that the monthly investment reqd becomes too big (power of negative compounding!)
@ Vivek, for goals like marriage and education I have assumed 10% inflation. I would love to assume 10% inflation for retirement. But this is possible only if you want constant pension during retirement.
if you want inflation indexed pension you would need to assume lesser inflation at least during retirement
@pattu, Sorry what do you mean by “inflation indexed pension”..?
@Vivek K, It just means that your pension will increase each year at some fixed rate which will be equal to or close to inflation. Inflation indexed annuities are available in the US. Not sure about India
Govt employees who have the EPF option will get a DA twice a year. This is a form of inflation indexation. So the govt pay the employee until death. Since this too much of an expense this was done away with in the NPS
@Pattu,
Thanks once again for clarification, learned something new today.
@pattu, Thanks Pattu, I wasn’t aware of this. I guess no benefits for private employees? We have to fight our own battles.
@pattu, In reality does the pension really increase with inflation? If inflation is 10% for a particular year, will the government increase the pension by 9-10%?
@Vivek,
I don’t think the government increases pension, its fixed. I remember my neighbor used to crib about the pension he used to receive.
@Rakesh, As per Pattu’s definition it does, let’s wait for him to confirm.
@Vivek,
Hmm, that should be interesting then. What if inflation falls to 6% will the pension be reduced then?
I think Pattu will be in a better position to advise as he is a central government employee.
Ideally it should.
@Vivek K,
The dearness allowance given twice a year takes the cost inflation index into account. If inflation is 10% DA will be as close to it as possible.
@pattu,
My mother a state govt employee receives pension and I have seen the DA rate range from 5-8% depending on inflation. Such a justification will be given by the govt press release.
The basic pension depends on the last basic pay drawn while in service and is constant for life. The DA will change. But that is good enough.
@pattu, Thanks for sharing a real life example 🙂
@Pattu,
Thanks for the explanation. I knew about pension, but was not aware of DA. Basically no relatives in Govt. sector so do not know what benefits they get.
@pattu, Thanks for the clarification Pattu. This is indeed one good feature about government pension.
@Pattu,
I too have taken inflation @ 9% while calculating my goals. It looks realistic.
Radhey, do you think that EPF interest rates will be increased once economy improves? Has any such happened in the past?
@Vivek K, EPF rates have fluctuated. So last year only it went from 8.5% to 9.5% but that was due to another reason.
In the future, it can actually keep fluctuating.
@Radhey,
Agree that EPF rates have fluctuated. But don’t you think a cut of 1.25% at one go was required. I don’t think its fair. They could have cut it by 0.5% each year. This huge cut has left a lot of people worried.
@Rakesh, Life is not fair my friend.
@Radhey,
Looks like some technical glitch, the site was down for few hours.
Good to be back up & running now……
Currently, this won’t really affect me :). After checking the amount using SMS facility, closed my EPF account few months back.
Using ELSS. Let’s see how it goes.
@Chirag,
Yes you mentioned that your current employer does not provide EPF. I guess it made sense to close the account. But in future if you join an organization which provides EPF facility then there would be compulsory deductions towards EPF.
For now ELSS is the way to go……..
Value research doubts the credibility of EPF authorities.
http://www.valueresearchonline.com/story/h2_storyview.asp?str=19483
@Rakesh
Thanks for sharing. It is unbelievable [discovered a surplus Rs 1750 crore lying around somewhere] to see such an important component of peoples’ retirement planning is handled in such a sloppy manner.
Good that these labour representatives are keeping them on their toes. And even value research is doing a good job in exposing them.
@Radhey,
IT will be great if you could tell us about EPS. How do we get to know the balance of the same. Did not get much information from the net.
@Rakesh,
Yes, even I tried but nothing useful, why is it kept hidden? Do people even know that money belongs to them?
Hi Radhey,
I thought to paste this link to show a sharp contrast between the downturn of PF rates and the increase made to PPF / NSC / Postal deposit schemes by the Government.
http://insight.banyanfa.com/?p=626
Not sure why they reduced the PF rates when they wanted to increase the other PPF, etc. rates.
Regards
BFA
@Banyan Financial Advisors, Good summary BFA of all the recent changes in the interest rates. This can be used as a ready reckoner by the readers.
Even I am baffled why EPF rates were brought down so drastically and other are increased? I think they are just juggling the money without any “net benefit” to the public. Take from one hand and give from the other – iski topi uske sar.
@Vivek K,
Hi Vivek,
I think it has more to it. EPF authorities may be sitting on a deficit which is forcing them to reduce the interest rates below the prevailing 10 year bond yields. Totally unimpressive !
Regards
BFA
@Banyan Financial Advisors, Deficit? Are you sure?
Sometime back they revealed that they found some 1750 crores lying somewhere and now all of a sudden they have a deficit. It sounds pretty funny way of dealing with public money to me.
@Vivek K,
Yes, I too read that they had Rs. 1750 crores of surplus and later they said that they got all their calculations wrong.
Hmmm, strange though…… playing with people’s money.
Just an enquiry.
Will this rate cut affect private trusts (PF not managed by EPFO)?
Not sure buddy, I think it is better to check with the respective trust.
My guess would be yes because everyone follows the market trend. One company cannot keep the rates stable when others are moving in upward or downward direction.
EPF interest is again revised to 8.6% for this year.
http://zeenews.india.com/business/news/economy/epf-interest-rate-will-be-raised-to-8-6-this-year_46609.html
That’s slightly better than 8.25%, the more the better. Did the EPF authorities again find surplus funds 🙂
LOL !! This time they say it has nothing to do with surplus or anything. It is all revenue based.