Employees’ Provident Fund: The Clarification of the Clarification of the Clarification…

Fostering Public Leadership - World Economic Forum - India Economic Summit 2010


There must be some way out of here” said the joker to the thief
“There’s too much confusion”, I can’t get no relief
– Bob Dylan, All Along the Watchtower

Arun Jaitley presented his third budget on February 29, 2016. Since then, the only point from the budget that is being discussed is the income tax to be applicable on the Employees’ Provident Fund and other recognised provident funds.

In fact, the government’s communication on this left a lot to be desired. The finance minister Jaitley said during the course of the speech: “I believe that the tax treatment should be uniform for defined benefit and defined contribution pension plans. I believe that the tax treatment should be uniform for defined benefit and defined contribution pension plans. 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.”

Given that Jaitley gave a 100-minute-long speech, he could have taken a minute more and gone into the details of this change.

Barely had he finished saying this, all hell broke loose on the social media. As soon as he had finished his speech, the television channels caught on to this point. Jaitley should have ideally provided an annexure to his speech explaining the exact details of the plan. But an annexure wasn’t provided and neither did he go into the details. This created a lot of needless confusion.

What Jaitley basically said was that 40% of the accumulated corpus of the EPF and other recognised provident funds, on contributions made after April 1, 2016, would be tax free. As of now 100% of the accumulated corpus on the EPF is taxfree.

The first interpretation after Jaitley’s speech was completed was that now up to 60% of the EPF corpus will be taxable. On the social media people are quick to draw conclusions without waiting toget into details. A reading of the Finance Bill made it clear that wasn’t the case. If 60% of the corpus was used to buy annuities to generate a regular income, this amount would remain tax free as well.

The minister of state for finance Jayant Sinha clarified this on a television channel, late evening on February 29,2016. And then he made a mistake, which added to the confusion. He said income earned by buying an annuity would be tax free. Income earned from annuities is taxable.

Then he was asked if the corpus of the Public Provident Fund(PPF) would be taxed as well. He did not answer in the affirmative to this question, neither did he say no. The anchor asking the question essentially concluded that the accumulated corpus of the PPF would now be taxable.

After this, the revenue secretary Hasmuk Adhia, clarified that PPF would continue to be the way it was i.e. its corpus wouldn’t be taxable. He also made another remark which again introduced more confusion into the entire debate going on. He said a tax would be levied only on accrued interest on 60% of EPF contribution, after April 1, 2016.

This was contradictory to what Jaitley had said in his speech. He had said that 40% of the corpus will be tax free, which essentially means that 60% of the corpus will be taxed.

It is rather sad to see that the top policymakers of a ministry trying to bring in a very important change on a point that impacts so many people, were not clear about basic things. Either they hadn’t been briefed properly or they just didn’t realise how huge is the change they were trying to bring in.

After all this hungama the ministry of finance put out a clarification. The clarification started with these lines: “There seems to be some amount of lack of understanding [the emphasis is mine] about the changes made in the General Budget 2016-17 in the tax treatment for recognised Provident Fund & NPS.”

Rather ironically, the policy makers at the ministry of finance had contributed majorly to this lack of understanding. After this clarification (actually clarification of a clarification of a clarification if we were to start with Jaitley’s speech, go to Sinha’s comments and then Adhia’s clarification) this is how things stand as of now.

As the ministry of finance’s clarification points out: “The Government has announced that Forty Percent (40%) of the total corpus withdrawn at the time of retirement will be tax exempt both under recognised Provident Fund and National Pension Scheme.”

Does this mean what it means? Not really. There are certain nuances to it. For employees within the statutory wage limit of Rs 15,000 per month, things would stay as they currently are i.e. their corpus would continue to be 100% tax free.

Further, if you are a private sector employee and you want 100% of your EPF money to be tax free you need to buy annuities. As the finance ministry’s clarification points 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.”

What this means is that the private sector employees can make 100% of their EPF corpus accumulated on contributions made after April 1, 2016, tax free, by investing 60% of it in annuities. What about public sector employees? This is where things get interesting. The clarification is totally silent on this.

Hence, for public sector employees their provident fund continues to be 100% tax free at maturity. It means that public sector employees (or babulog) do not need to invest money in annuities at all. They can withdraw 100% of the money tax free. A private sector guy wanting to withdraw 100% money has to pay tax on 60% of the corpus he has accumulated on contributions made since April 1, 2016. Further, this is a clear attempt by the babus who drafted this change to ensure that their provident fund continues to remain 100% tax free.

Why is there this differentiation? Why is the private sector employee being treated in this unfair way? The press release further points out: “The idea behind this mechanism is to encourage people to invest in pension products rather than withdraw and use the entire Corpus after retirement.”

Doesn’t the government want public sector guys to do this? Shouldn’t babulog also be buying annuities to generate a regular income from their provident fund corpus after retirement? The government hasn’t offered an explanation for this but a possible explanation for this is that many retired government employees already get a pension from the government. Hence, their provident fund is 100% tax free.

This is bizarre. Many government employees get a fixed pension and on top of that get 100% tax free provident fund. A private sector employee on the other hand is forced to buy annuities. Why? The ministry of finance’s clarification points out: “There are about 60 lakh contributing members who have accepted EPF voluntarily and they are highly – paid employees [italics are mine] of private sector companies. For this category of people, amount at present can be withdrawn without any tax liability. We are changing this. What we are saying is that such employee can withdraw without tax liability provided he contributes 60% in annuity product so that pension security can be created for him according to his earning level. However, if he chooses not to put any amount in Annuity product the tax would not be charged on 40%.”

The term highly-paid is not defined. I have a problem with this approach. It assumes all government employees earn a lower salary than private sector employees. And that is incorrect. If the idea is to tax, why not have a cut off on the basis of the total amount of the corpus that has been accumulated rather than try to differentiate between public sector and private sector employees? That would be a much more equitable way of going about it.

Also, the question is, is this government worried about an equitable way of doing things at all?  I don’t really think so. The government plans to open a compliance window for those who have black money and are willing to declare it. Black money is income which has been earned but on which tax hasn’t been paid.

This would involve a tax of 30%, a surcharge of 7.5% and a penalty of 15%. By paying 15% extra, those who have black money can ensure that “there will be no scrutiny or enquiry regarding income declared in these declarations under the Income Tax Act or the Wealth Tax Act,” They will also have immunity from prosecution. What this means is that if you are willing to pay 15% extra, the law of the land will not apply to you.

Money can’t possibly buy love, but it definitely can buy everything else. The Modi government just showed us that.

The column originally appeared on the Vivek Kaul Diary on March 3, 2016

Why Narendra Modi’s budget looks strangely familiar


The Narendra Modi led government in India presented its third budget today. The budget was presented by finance minister Arun Jaitley, in a nearly 100 minute long speech.

Before the budget was presented the fear was that the Narendra Modi government is gradually going back to the Congress party’s way of doing things, at least on the economic front. The Congress party has governed India in every decade after independence.

So what is the verdict after the budget? Modi seems to have titled the farm way. As the finance minister Jaitley said during the course of his speech: “We need to think beyond ‘food security’ and give back to our farmers a sense of ‘income security’. Government will, therefore, reorient its interventions in the farm and non-farm sectors to double the income of the farmers by 2022.”

This isn’t surprising given that agricultural growth has been very low at the rate of 0.5% per year, over the last two years, due to bad monsoons. Further, the agricultural growth is expected to be at 1.2% this year, much lower than the overall growth of 7.6%.

Initiatives allowing farmers a better access to the market have been planned. Plans have also been made around judicious use of fertilizers, to increase crop yields across land which does not have access to irrigation and so on.

The government has also planned to offer incentives around the production of pulses. In the recent past, price of the tur dal (pigeon pea) has touched Rs 200 per kg and given that India needs to produce more pulses.

But that was the good bit.

Before the Modi led Bhartiya Janata Party (BJP) came to power in the 2014 Lok Sabha elections, the Congress led United Progressive Alliance (UPA) with Manmohan Singh as prime minster, was in power for a decade.

Singh’s term as prime minster, especially the second term, was marked by an increasing amount of doles as well as corruption. Loans to farmers were written off. The Mahatma Gandhi National Rural Employee Guarantee Act (MGNREGA) was passed and so was the Food Security Act. In July 2014, Modi had slammed the UPA government’s food security scheme by saying: “The government in Delhi thinks that just by bringing in the Food Security Bill there will be food on your plate.”

Modi has also mocked the other big Congress scheme, the MGNREGA in the past. In February 2015, Modi had said: “I will ensure MGNREGA is never discontinued. It is proof of your failings. After so many years of being in power, all you were able to deliver is for a poor man to dig ditches a few days a month.”

The Modi government has done a u-turn on this front and allocated Rs 38,500 crore to the scheme for 2016-2017. This is the highest ever allocation to the scheme, the finance minister Jaitley proudly claimed during the course of his speech. Modi is now looking more and more similar to Manmohan Singh. He is a better marketer though than Singh and his regime isn’t corrupt. Not until now, at least.

MGNREGA aims at providing at least 100 days of guaranteed employment in a financial year to every household whose adults are willing to do unskilled manual work. The trouble is that MGNREGA essentially became another scheme where money is simply given away without any substantial assets being created.

Modi in the run up to the 2014 Lok Sabha elections had promised minimum government and maximum governance. But with the allocations to MGNREGA being at its highest ever level, looks like that promise has gone out of the window, at least for now.

The economist Surjeet Bhalla has called MGNREGA as the fourth most corrupt institution in the world after FIFA, the BCCI (the board that governs cricket in India) and the public distribution system used by the Indian government to distribute food grains as well as kerosene to the poor.

The food security scheme provides rice and wheat at Rs 3 and Rs 2 per kg to the poor. The Economic Survey of the government presented on February 26, points out that nearly 54% of the wheat, 48% of the sugar and 15% of rice, meant to be distributed through PDS is lost as a leakage.

The price at which the government sells the food grains and the price at which it buys is essentially the food subsidy that it provides. The allocation to food subsidy is at Rs 1,34,835 crore for 2016-2017. This has come down a little from the Rs 1,39,419 crore that was allocated last year.

Nevertheless, no effort has been made to tackle this leakage which costs the country a lot of money. The Report of the High Level Committee on Reinventing the Role and Restructuring of Food Corporation of India presented a report in January 2015 to tackle this issue. It has since been gathering dust.

Further, what India needs is the creation of huge number of jobs. The organised sector in this country continues to remain very small. In 1991-1992, the total number of people working in the organised sector had stood at around 27 million. Since then the number has jumped to around 29.6 million (as of 2011-12, the latest data available).

At the same time nearly 58% of India’s population continues to be dependent on agriculture which generates around 16-18% of India’s gross domestic product. What this tells us is that there is huge overemployment in the sector and jobs need to be created in other sector so that people can move away from agriculture. And that is clearly not happening.

Modi’s win in 2014 tapped into the aspiring class of India and promised to create jobs. In fact, in November 2013, Modi had said: “If BJP comes to power, it will provide one crore jobs which the UPA Government could not do despite announcing it before the last Lok Sabha polls.”

The government is betting on the creation of road and railway infrastructure for the creation semi-skilled and unskilled jobs required for moving people away from agriculture. The finance minister has allocated Rs 97,000 crore towards the road sector. Together with the capital expenditure of the Railways, this amounts to a good Rs 2,18,000 crore during the course of the year.

The question is will this be enough to move people away from agriculture by creating a substantial number of jobs? There are no easy answers for that.

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

A slightly different version of the column appeared on BBC.com on February 29, 2016

Budget 2016: Mr Jaitley, pro-rural steps are all fine but when will we tax rich farmers?

 Fostering Public Leadership - World Economic Forum - India Economic Summit 2010

In his budget speech, the finance minister Arun Jaitley came up with a slew of announcements for the farmers of this country. This wasn’t surprising given the fact that the country has seen two bad monsoons, leading to the agricultural growth collapsing to 0.5% over the last two years.

In 2015-2016, agriculture is expected to grow by 1.1%. This is an improvement over 2014-2015, when agriculture contracted by 0.2%. Nevertheless, it is much slower than the overall growth of 7.6% expected in 2015-2016.

As Jaitley said during the course of this speech: “We have a desire to provide socio-economic security to every Indian, especially the farmers, the poor and the vulnerable; we have a dream to see a more prosperous India; and a vision to ‘Transform India’.”

Nevertheless, Jaitley, like finance ministers and governments of the past, continues to molly coddle, the rich farmers. Agricultural income in India continues to be untaxed.

One of the core points of the Survey is about not enough Indians paying income tax.

As the Economic Survey released on February 26, points out: “In India today, roughly 5.5 percent of earning individuals are in the tax net. This statistic gives an idea of the gap that India needs to cover to become a full tax-paying democracy. Based on recent tax data…we estimate that about 15.5 percent of net national income excluding taxes (which is the national income accounts counterpart of the personal income accruing to households) was reported to the tax authorities as gross taxable income.”

This means that nearly 85% of the country is outside the tax net. One clear impact of this is that the government is not able to raise enough taxes as it could. “To give a sense of the magnitudes, controlling for both the level of economic development and democracy, India’s overall tax to GDP is about 5.4 percentage points less than that of comparable countries,” the Survey points out.

While, the government doesn’t collect enough taxes, the rich farmer has the best of all the worlds. He has access to free/subsidised water and electricity. He has access to free fertilizer and benefits the most from minimum support price that the government offers on the purchase of rice and wheat. In fact, the Economic Survey points out that the implicit subsidy on electricity is Rs 37,170 crore.

The rich farmers benefit the most from cheap or free electricity. As Swaminathan Aiyar wrote in a recent column in The Times of India: “During a Punjab visit, I was told of one Jat farmer with 150 tubewells, paying zero electricity charges.”

In fact, as the Economic Survey points out: “India uses 2 to 4 times more water to produce a unit of major food crop than does China and Brazil.” This is primarily because of free or cheap electricity leading to over-pumping of water.

As the Economic Survey points out: “It has long been recognized that a key factor undermining the efficient use of water is subsidies on power for agriculture that, apart from its benefits towards farmers, incentivises wasteful use of water and hasten the decline of water tables. According to an analysis by National Aeronautics and Space Administration (NASA)5 , India’s water tables are declining at a rate of 0.3 meters per year. Between 2002 and 2008, the country consumed more than 109 cubic kilometers of groundwater, double the capacity of India’s largest surface water reservoir, the Upper Wainganga.”

This is clearly not a good thing.

And on top of this rich farmers do not pay any income tax. A lot of this money makes it into real estate, especially on the edges of cities and towns, making it unaffordable for others.

Further, if the government hopes to up its tax collections significantly in the years to come, the rich farmer needs to be brought under the tax net. As the Economic Survey pointed out: “The tax exemptions which often amount to redistribution towards the richer private sector will also need to be reviewed and phased out. And, reasonable taxation of the better-off, regardless of where they get their income from—industry, services, real estate, or agriculture–will also help build legitimacy of India.”

Jaitley like his predecessors chose to do nothing about this. This is not surprising given that taxing the rich farmer remains a political hot-potato. The governments over the last 25 years could not have done it, given that they lacked the majority to do so.

The Modi government has the majority in the Lok Sabha, but given the fractious relationship it shares with the opposition, any significant decision is likely to attract a lot of protest. Plus there are elections in Punjab coming up, where Modi’s Bhartiya Janata Party (BJP) is in alliance with the Akali Dal, which is essentially a party supported by rich farmers.

Finance ministers are not known to listen to the advice provided in the Economic Survey. Nevertheless, if Jaitley had taken on this advice, the whole country would have been better-off in the process.

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

The column originally appeared on Firstpost on February 29, 2016

Mr Jaitley, Until When Will Govt Continue To Support Public Sector Banks?

Fostering Public Leadership - World Economic Forum - India Economic Summit 2010
The Economic Survey released on February 26 had a very interesting number in it. It pointed out that between 2009-2010 and the first half this financial year, the government had infused a capital of Rs 1.02 lakh crore into public sector banks.

And it ain’t done with it as yet. As finance minister Arun Jaitley said in his budget speech earlier today: “We are now confronted with the problem of stressed assets in Public Sector Banks, which is a legacy from the past. Several steps have already been taken in this regard…To support the Banks in these efforts as well as to support credit growth, I have proposed an allocation of Rs 25,000 crore in 2016-17 towards recapitalisation of Public Sector Banks. If additional capital is required by these Banks, we will find the resources for doing so. We stand solidly behind these Banks.

This means that the government will continue to pour money into public sector banks. Jaitley has clearly said that the government will invest as much money as it takes in order to recapitalize public sector banks.

The stressed loans of public sector banks as on September 30, 2015, stood at 14.2% of the total loans. Hence, for every Rs 100 of loans given by public sector banks, Rs 14.2 has either been declared to be a bad loan or has been restructured. In March 2015, the stressed assets were at 13.15%.

A restructured loan essentially implies that the borrower has been given a moratorium during which he does not have to repay the principal amount. In some cases, even the interest need not be paid. In some other cases, the tenure of the loan has been increased.

Further, the public sector banks have been under-declaring their level of bad loans by restructuring loans and kicking the can down the road. Nearly 40% of the restructured loans have gone bad over the last two to three years. This means many restructured assets will continue to go bad in the years to come.

With bad loans and restructured assets accumulating the public sector banks will continue to need fresh infusion of capital. Also, estimates made by the PJ Nayak Committee suggests that between January 2014 and March 2018 “public sector banks would need Rs. 5.87 lakh crores of tier-I capital.” The committee further said that: “assuming that the Government puts in 60 per cent (though it will be challenging to raise the remaining 40 per cent from the capital markets), the Government would need to invest over Rs. 3.50 lakh crores.”

The government on the other hand estimates that “the capital requirement of extra capital for the next four years up to FY 2019 is likely to be about Rs.1,80,000 crore.”

Both the estimates are very large and have the potential of really screwing up the fiscal deficit number of the government in the years to come. Fiscal deficit is the difference between what a government earns and what it spends.

This is a clear impact of the government continuing to own 27 public sector banks. Narendra Modi in the run up to the 2014 Lok Sabha elections had promised “minimum government maximum governance”. This promise has clearly gone out of the window. It is visible in the fact that the government continues to own so many public sector banks.

The tendency in the government is to look at shares of public sector companies as family silver. And given the bad state of the stock market currently, this family silver cannot be sold.

But the trouble is that any government can only do so much. And given the problems that the Indian economy is currently facing, this government is clearly overextending itself in trying to save each and every public sector bank.

Jaitley also taked about operationalising the Bank Bureau Board in 2016-2017. This Bureau expected to search and select heads, wholetime directors and non-executive chairmen of public sector banks. The idea is to professionalise the public sector banks.

Jaitley further said: “The process of transformation of IDBI Bank has already started. Government will take it forward and also consider the option of reducing its stake to below 50%.” Does this mean privatisation of IDBI Bank? It doesn’t seem like that.

Recently, IDBI Bank made public, plans of raising Rs 1500 crore from the Life Insurance Corporation(LIC) of India. LIC currently owns 7.25% of the bank. With this new issue of shares, the LIC holding in the bank will increase to around 19%. If this is the route that Jaitley plans to reduce the stake of the government below 50% in IDBI Bank, then this can’t be really called privatisation. It is essentially moving money from one arm of the government to another arm, something the Congress led UPA government used to specialize in.

The moot question is why does the government need to own 27 public sector banks? It’s social sector obligations can easily be fulfilled by continuing to own SBI and a few other banks, depending on which bank is strong in which part of the country.

In his speech Jaitley also talked about bringing a comprehensive legislation for tackling the Ponzi scheme menace, though he did not use the word Ponzi anywhere. It is difficult to comment on this right now given that no details are known. Nevertheless, it will be interesting to see how different this new legislation will be from the ones already in place and whether it will actually lead to the number of Ponzi scheme launches coming down.

Jaitley also talked about the government facilitating the deepening of corporate bond market, in his speech. This is something several finance ministers have talked about in the past. He also talked about amending the RBI Act 1934 to provide a statutory basis for Monetary Policy Committee. Once the Committee is in place the decisions on repo rate changes will be made by the Committee, instead of just the RBI Governor, as is currently the case.

(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

The column originally appeared on SwarajyaMag on February 29, 2016

Why Budget Did Not Raise Income Tax Ceiling To Rs 5 Lakh Despite Jaitley’s Past Advocacy

Fostering Public Leadership - World Economic Forum - India Economic Summit 2010

The minister of finance, Arun Jaitley, did not make any changes in the tax slabs in the budget for 2016-2017 which was presented yesterday.

The basic exemption limit continued to be at Rs 2.5 lakh and other tax slabs also continued to remain the same. This is typically one section of the budget which excites the salaried middle class. But Jaitley had nothing to offer on this front.

Interestingly, when Jaitley was in the opposition he had demanded that the income tax ceiling be increased to Rs 5 lakh, from the Rs 2 lakh level that had prevailed, at that point of time. As he had said in April 2014 “Direct Tax should be reduced. If the Income-Tax limit is raised from Rs 2 lakh to Rs 5 lakh, 3 crore people will save Rs 24 crore which will lead to a small impact of 1 to 1.5 percent of National Tax Fund.”

On February 29, 2016, Jaitley presented his third budget as the finance minister. Nevertheless, even now the income tax limit is at Rs 2.5 lakh, half of the Rs 5 lakh limit that Jaitley had demanded when he was in opposition.

The question is why? The simple answer is—politicians in opposition behave very differently from those in power. But there is a better answer than this.
Take a look at the following chart reproduced from the Economic Survey for 2015-2016, which was released on February 26, 2016.

per capita income

What does this tell us? It shows us very clearly that the income tax exemption limit has risen at a much faster rate in India than the per capita income.

As the Economic Survey points out: “We can calculate in some sense the “missing taxpayers” in India—not those who are evading taxes altogether or under-reporting taxes but those who have legitimately gone under the tax radar due to “generous” government policy.”

And who are these missing taxpayers? These are those taxpayers who got left out because the income tax threshold has been raised from the level of Rs 1.5 lakh in 2008-2009. As the Economic Survey points out: “If the threshold had been maintained at Rs. 1,50,000 (the threshold limit in 2008-2009)….we find that there would have been an additional 1.65 crore units incorporated within the taxation system (In 2012-2013 and an addition of about 39.5 percent) and tax revenues would have been about Rs 31,500 crores greater.” The tax to GDP ratio of the country would have gone up by 0.32% if the income tax exemption limit had not been raised.

The amount now, will be more than Rs 31,500 crore. And this is quite a lot of money for a government which is likely to see its expenses go up in 2016-2017, after the recommendations of the seventh pay commission increasing the salaries of central government employees and pensions of retired central government employees, are accepted.

What this also tells us is that Jaitley’s calculation of increasing the exemption limit to Rs 5 lakh, costing only Rs 24 crore, was basically wrong. When the tax-exemption limit went from Rs 1.5 lakh in 2008-2009 to Rs 2 lakh in 2012-2013, it cost the government Rs 31,500 crore. Increasing the limit to Rs 5 lakh would cost considerably more.

In fact, there is a lesson or two India can learn from China on this front, the Economic Survey points out: “Chinese success in bringing more citizens into the individual income tax net owes to setting a reasonable threshold for paying taxes and not changing it unduly. In contrast, in India, exemption thresholds for income taxes have been consistently raised.”

This has led to a situation where as many Indians are not paying income tax, as could have, if the exemption limit had not been raised at a much greater rate than the per-capita income.

Of course, Jaitley did not know all this when he was in the opposition. But now he is in the government and has access to the best possible economic brains in the country, as well as data, on which he can base his decisions on. Clearly his demand to increase the income tax exemption limit to Rs 5 lakh, when he was in the opposition, was just based on a whim and not any numbers.
(Vivek Kaul is the author of the Easy Money trilogy. He tweets @kaul_vivek)

The column originally appeared on Huff Post India on March 2, 2016