I see a sigh of exasperation, when employees are told that their wages or salary will be paid to them After reducing the Provident Fund Contribution. I also see this situation, when employees get their increment of say 10% but the cash in cash is a little less than 10%. Many of them think that this amount goes into the pockets of employers. There are others who think that employers recover the employer's provident fund contribution from the employee. There are still others who feel that this is a tax on the wages and goes into the coffers of the government. There are some slightly bright ones, who believe that PF is a poor crawling investment. Yours truly in my youth, also thought so. However nothing can be farther than truth and here is a demystifying essay that would make this an interesting reading.
Provident fund essentially is a wealth creation/savings tool. It forces one to save by allocating a portion of wages, from the employee and seeking a similar contribution from the employer. It creates an additional cost to the employer; however it results in creation of a savings nest for the employee. Therefore one should not see it has a reduction of cash flow in wages, but see it as wealth creation. The government, in its wisdom, has mandated a very affordable amount as compulsory savings, the maximum being Rupees 21,600/- per annum. Beyond that it is called voluntary contribution. It must be noted that, within the mandatory allocation, it also gives tax benefits on both the amount allocated and the income thereof. Further when your earnings increase, so will the contribution to your wealth creation until it hits the cap recommended. Therefore it creates wealth in the following ways. When amounts are allocated in small quantities, one tends to ignore it and don't see it as being an important saving tool and here is the first mistake made and let me tell you how?
You will be amazed at how much protection you have when you invest in a provident fund managed by the government. Your employer is legally and duty bound to make sure that the contributions are paid within a period of seven days. Failure to pay this will result in penalty and even garnishment. In liquidation proceedings, such liabilities are given priority even over secured creditors. Nobody can ever place a lien or for a pledge on your provident fund savings against liabilities you owe. Lastly, from time to time you can borrow from your provident fund contributions and repay it as well.
There have been years when the interest on provident funds ranged between 8:00 and 9% p.a . These were the days of high interest on savings. Over the years it has reduced and is at 7.91 % p.a which is still better than the bank rate on deposits, which is 6% and inferior in risk compared to the government. Now PF funds are allowed to invest a small portion in equity for the extra return. The interest rates on PF will stabilize at this level for some time. In a global context, 7.91% p.a returns is considered as exotic returns by many investors. Also please remember, that such rates of interest are guaranteed rates by the government and have very little risk in payment of interest and principal. In addition to this, your employer also contributes in equal measure until the cap is reached. Therefore, for those who cannot otherwise save, these are minimum risk wealth creation and investment tools.
A small table below , will show you the amazing wonders of a provident fund contribution. Let us a hypothetical range of rupees 26,000 per month. On this salary consisting of basic, dearness allowance and medical allowance, your contribution would be 12% of this salary. Your employer would contribute an equal percentage until it reaches the Rupees 21,600 cap.
|Contribution per year||Rs 37,440|
|Interest @ current rate of 7.91% on contributions of employer and employee||Rs. 5,923|
|Your employer's contribution per year (You got this free!)||Rs 37,440|
|Tax savings @5%||Rs.1,872|
|Total Return in a single year (Amount lying to your credit in your PF account which cannot be accessed by anyone else)||Rs.45,235|
|Total Return on investment||120.81% p.a|
This is an amazing investment as you can see with absolutely negligible risk. So next time, when your wages get deducted by your contribution to your Provident Fund/Wealth or when your increment(higher earning) is reduced by an additional contribution to your wealth, be happy and enjoy the stupendous return on your investment that you can nowhere else get!It is your future.