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- | Income Tax
- 18 Mar 2015
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**Anshudeep Bajpai**

The Public Provident Fund is savings-cum-tax-saving instrument in India, introduced by the National Savings Institute of the Ministry of Finance in 1968. PPF offers an investment avenue which provides decent risk free returns coupled with income tax benefits under 80C of Income Tax Act.

There are many features which make PPF an attractive investment vehicle for many a people right from getting deduction under 80C to being one of the safe instrument for providing long term wealth. Many of these features are often talked about and discussed but two things which are talked about in parts but not as a whole are why PPF is termed as EEE kind of investment and how effective rate of return one gets from PPF may be much higher because of it being an Exempt, Exempt, Exempt kind of investment. So this article will discuss only these two salient features of PPF.

**Brief**

- Tax bracket for PPF is EEE, where EEE means Exempt, Exempt, Exempt.
- Actual rate of return on PPF is 8.7% (for current fiscal).
- If we take into consideration that PPF is EEE kind of investment the effective rate of return may be much higher (going as high as 12.59%!)

**Why PPF is termed as EEE**

Before going into why PPF is termed as EEE, first lets have a little introduction on what exactly EEE is.

There are 3 ways Govt. taxes the monies invested by public at various stages of investment.

Where as the invested amount goes through three stages, which are –

- Contribution to an investment scheme.
- Accumulation of interest.
- Withdrawal stage, when the lump sum amount (sum of money invested and accrued interest) is withdrawn.

**How does EEE relate to these stages?**

EEE stands for Exempt, Exempt, Exempt which means –

- First exempt means that the amount invested will be eligible for deduction under some section (As exp 80C) subject to the total exemption limit. The invested amount will be deducted from the total taxable income of the individual.
- Second Exempt means the accrued interest will not be added to the total income and will not be taxed. Thus in case of second exempt interest earned is not taxed.
- Third exempt means the income from the investment, at the time it is withdrawn, would be tax free.

With this information about EEE **we** **can easily see why PPF is termed as EEE?**

PPF is termed as EEE (i.e. Exempt, Exempt, Exempt) because

- Contribution to the PPF account is exempted under 80C.
- Interest earned is tax exempted, there is no TDS as in the case of FD (at the rate of 10%) if interest earned in the fiscal year is more than Rs. 10,000.
- Withdrawal from the PPF account is also tax exempted.

With this information under our belt let’s see how effective rate of return on PPF may be much higher than the actual rate of interest which is 8.7% (as per the current fiscal year).

**Effective rate of return on PPF**

Though the rate of interest we get on PPF is 8.7% but as mentioned here the PPF comes under Exempt, Exempt and Exempt investment category so the effective rate of return on PPF can be much higher depending on the tax slab a person comes under.

Current **tax slabs are 10%, 20% and 30%.** Along with the education cess, which is 3% of the total of Income Tax and Surcharge, the tax rates come to 10.3%, 20.6% and 30.9%. Noting the point that the person doesn’t need to pay any tax on the interest earned on PPF the effective rate of return can go as high as 12.59% if the person happens to fall under 30.9% tax slab.

To show it with the help of an example let us assume that person A comes under 30.9% tax slab as his taxable income is more than Rs. 10,00,000. If he has invested Rs. 1,00,000 in PPF then he earns Rs. 8,700 at the rate of 8.7%. Now if that return is not exempted but taxed then he has to pay 30.9% tax on this interest income of 8,700. In that scenario, when he has to pay tax at 30.9% on interest income, he will have to earn an interest income of Rs. 12,590 to have a post-tax return of Rs. 8,700.

Let’s do the maths!

If interest income is Rs. 12,590 which is taxed at the rate of 30.9%, the tax payable would be

** 12,590 x 30.9/100 = 3,890.31**

If we subtract that tax amount from the interest earned then we’ll get the actual amount

** 12,590 – 3,890.31 = 8,699.69**

- So with this logic the effective rate of return, for a person who comes under the 30.9% slab, comes to 12.59%.
- Effective rate of return, for a person who comes under the 20.6% slab, comes to 10.96%.
- Effective rate of return, for a person who comes under the 10.2% slab, comes to 9.69%.

The same thing can also be understood in a different way, if one hadn’t shown the investment of Rs. 1 Lakh then one would have paid taxes at 30.9% (assuming the person falls in 30.9% tax bracket) on that Rs. 1 Lakh. So in a way one is investing only Rs. 69,100 to get an interest of Rs. 8,700.

Let’s do the math again –

Amount of tax if that 1 Lakh was not invested

** 1,00,000 * 30.9/100 = 30,900**

Thus actual investment is

** 1,00,000 – 30900 = 69,100**

To get return of Rs. 8,700 on the invested amount of Rs. 69,100 the rate of return should be 12.59%.

** 69,100 x 12.59/100 = 8699.69**

By this calculation again the effective rate of return for a person who comes under the 20.6 % slab is 10.96% and for a person who comes under the 10.2% slab it is 9.69%.

Thus PPF, apart from being a safe investment avenue and having almost zero volatility can provide up-to 12.59% effective rate of return for tax payers. PPF being EEE category investment brings a huge benefit of not to pay any taxes on the invested amount at any of the three stages.

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yes 87A is still applicable, Rs. 2K can be claimed (or the tax payable) under it if taxable income doesn’t cross Rs.5 Lakhs

There won’t be any problem.

Your accunt has gone into this option “Extend the PPF account with no contribution” which is a default option if the account is not closed when matured.

Actually there are three options for subscriber once the PPF account matures.

Sir,

My PPF account matured seven years ago but I continued to remit money in to the account to get income tax exemption without requesting extension in proper form. Will there be any problem at the time of closing the account?

It seems wrong on hypothetical figure where Rs 30k gone one invested, as we are considering 69100 only but we have invested 1 lax. We believe that real rate of return would 11.39% instead of 12.59 .Here is how:

Investment Rs 100000 interest @ 8.70% = 8700 which is again Tax rate of 30.9% would = 2688 so exact maximum return would be Rs 8700+2688=1138.80or say 11.39

It is volatility proof & an unattachable asset of the contributor. Thus one can say it is a sovereign credit card for the twilight years of one’s life and a sort of an insurance policy for the dependant successors.

I am surprised on the calculations.

The prime assumption which is not highlighted and made here is that someone in 30.9% tax bracket will not make any investment under the 80C. Which is grossly wrong.

Rather your calculation should have taken cognizance of the fact that investment shall be made thus comparison should with such other investment.

Getting good information. Wheather Section 87 A is applicable for financialyear2014-2015ie (assessment year 2015-2016 )