Why are People So Touchy About EPF


There has been a lot of drama surrounding the changes that the Narendra Modi government has tried to introduce in the Employees’ Provident Fund(EPF) in the recent past. It started with the government trying to tax the EPF.

In the budget speech made in February, 2016, the finance minister Arun Jaitley said: “I propose to make withdrawal up to 40% of the corpus at the time of retirement tax exempt in the case of National Pension Scheme. In case of superannuation funds and recognized provident funds, including EPF, the same norm of 40% of corpus to be tax free will apply in respect of corpus created out of contributions made after 1.4.2016.”

Just the word tax was enough to get the protests going. The social media went berserk. And so did television channels as well as newspapers, protesting vehemently against this move.

In clarifications that followed the actual plan of the government came forth. The change actually applied only to private sector employees who earned more than the statutory wage of Rs 15,000 per month.

If these employees chose to withdraw 100% of their EPF corpus, 60% of the corpus created after April 1, 2016, would be taxable. Further, there was a
around it. As the clarification later issued by the finance ministry pointed out: “It is expected that the employees of private companies will place the remaining 60% of the Corpus in Annuity, out of which they can get regular pension. When this 60% of the remaining Corpus is invested in Annuity, no tax is chargeable. So what it means is that the entire corpus will be tax free, if invested in annuity.

The clarification did not help. The protests continued and the proposal to tax EPF was then withdrawn.  All this is well known by now. The question I want to ask here is, what led to the people protesting as vehemently as they did?

The middle class in this country is not known to protest against anything. They generally get around to accepting most things over a period of time. So what happened here? The answer perhaps lies in what behavioural economists refer to as the phenomenon of loss aversion.

And what is loss aversion? As economist Robert H Frank writes in his new book Success and Luck—Good Fortune and the Myth of Meritocracy: “[The] sense of entitlement to the fruits of one’s labours may owe much to the phenomenon known as loss aversion. One of the most reliable findings in behavioural economics loss aversion refers to the fact that people will fight much harder to avoid a loss than they would to achieve a gain of the same amount. Since most…people work hard for the money they earn, it feels like they own it, and that makes taxation feel like theft.

And this precisely what explains all the protests that erupted against the government trying to tax the EPF. While protests in this case were justified, what followed was uncalled for.

Before trying to tax the EPF, the government had put out a notification on February 10, 2016. As per this notification an individual investing in EPF could withdraw only his contribution made to the EPF and the interest accumulated thereon, in case he was unemployed for a period of at least two months.

Before this notification was issued 100% withdrawal was possible. Further, those who changed jobs also withdrew 100% of their accumulated EPF. All they had to do was to declare that they were unemployed. This wasn’t a healthy phenomenon given that money invested into EPF is essentially being put aside for retirement.

The Employees’ Provident Fund Organisation(EPFO) was not structured to be able to keep track of individuals changing jobs. The introduction of Universal Account Number(UAN) along with the February notification, made it impossible for those changing jobs to withdraw 100% of EPF. And this was a good move.

But there were huge protests against this as well. And the government had to withdraw this notification. In fact, this happened primarily because people saw this as another attempt of the government to play around with their EPF and loss aversion kicked in.

In fact, the media created confusion around the question, by asking questions like why an employee should not be allowed to withdraw money for weddings, education of their children, building/buying a home and medical emergencies.

Take the case of an editorial that appeared in The Times of India on April 21, 2016. It asked: “People may need to withdraw from EPF to tide over a situation when they are between jobs. Or they may want to build a house. Or they may face a medical emergency. In all these cases EPF withdrawals enhance their economic security, which was the core idea behind EPF. There is no case, therefore, for debarring such withdrawals.”

This gave the impression that no withdrawal from EPF was possible anymore. This was totally wrong. Those unemployed could withdraw their contribution to the EPF as well as the interest accumulated on it.

Further, the EPF already had rules for money to be withdrawn for medical emergencies, housing, education as well as weddings. These rules were not fiddled around in the new notification issued on February 10, 2016.

The Section 68K of the Employees’ Provident Fund Scheme 1952, allows an individual to withdraw up to 50% of his contribution and the interest accumulated thereon, “for his or her own marriage, the marriage of his or her daughter, son, sister or brother or for the post-matriculation education of his or her son or daughter.”

As far as medical emergencies are concerned, the amount that can be withdrawn from the EPF should not exceed, the individual’s “basic wages and dearness allowances for six months or his own share of contribution with interest in the Fund, whichever is less.” Withdrawal is allowed for buying/building a home as well.

After hungama around this move ended, the government decided to cut the interest rate on the EPF for 2015-2016 to 8.7%. This was 10 basis points lower than the 8.8% recommended by the Central Board of Trustees(CBT) of EPFO. Further, it was 5 basis points lower than the interest of 8.75% paid in 2014-2015 and 2013-2014.

This means that the interest paid in 2015-2016 would have been Rs 50 per lakh lower than what was paid in 2014-2015. This is a very small amount. But there were protests against this move as well, primarily by trade unions.

The explanation for this again lies in loss aversion. People now believe that the government is trying to play around with their hard earned money. And any small change attempted on part of the government is likely to lead to protests.

These protests finally led to the government reversing its earlier decision and deciding to pay an interest of 8.8% on EPF for 2015-2016, as recommended by the CBT.

The question that crops up here is, what economic reforms can be expect from a government which isn’t even in a positon to pass on an interest rate cut of 5 basis points (from 8.75% in 2014-2015 to 8.7% in 2015-2016).

Further, the government could have handled the situation better by at least trying to explain the logic behind its moves. But that doesn’t seem to have happened and it has ended up with creating needless trouble for itself.

The column  originally appeared in the Vivek Kaul Diary on May 2, 2016