All you wanted to know about EPF interest rate

The Employee Provident Fund Organisation (EPFO) will pay an interest rate of 8.5 per cent to subscribers for 2019-20. But in a first-of-its-kind move, this interest rate is split as 8.15 per cent from debt investments and 0.35 per cent from the equity portion — the latter has been declared assuming the redemption of the necessary equity investments by December 31. The Finance Ministry nod is awaited for this.

EPF is one of the long-term savings avenues for the salaried class. Both the employer and employee make monthly contributions to the EPF and on superannuation, the corpus is paid out to the employee with interest. The return or interest rate is fixed by the EPFO for every year. This interest outgo is usually funded by the income earned on investing the EPF corpus.

Until sometime ago, the EPF contributions were invested entirely in debt instruments. The EPFO began investing in the stock market in 2015. Making a start with 5 per cent exposure, about 15 per cent in now invested in the stock market through the ETF (Exchange Traded Fund) route. The EPFO currently invests in ETFs based on the Sensex, Nifty 50, CPSE (Central Public Sector Enterprises) and Bharat 22 indices. Hence, the returns that the EPF will earn is a combination of debt and equity returns.

The EPF interest rate assumes significance as EPF is among the few investment vehicles that offer fixed returns, though the interest rate fixed every year varies. This is unlike another retirement vehicle — the NPS (National Pension System) — where returns are market-linked.

When the EPFO declared an interest rate of 8.5 per cent for 2019-20 earlier in March, the idea was that it could offload its ETF holdings to the necessary extent to fund this interest outgo. But the market sell-off due to the Covid-19 outbreak spoilt the plan. The EPFO is now trying to keep up its promise of 8.5 per cent, while at the same time not burn a hole in its pocket. Stock market investments have now brought an amount of uncertainty to returns.

Also, the EPFO’s practice of higher interest payouts on the debt portion when compared to the prevailing market interest rates — which has quite been the norm so far — may need a relook. The market fall towards the end of FY20 and the lower returns on debt instruments have somewhat eroded the surplus available for distribution to its members by the EPFO.

If you are an EPF subscriber, your immediate concern is on the interest to be paid out for 2019-20. It is not clear if the 8.15 per cent interest declared on the debt portion will be initially paid out separately. Whether the remaining 0.35 per cent will at all be paid out needs to be seen, given that no one can predict the market direction with certainty.

But, as of now, investors have no cause to complain. The interest rate on long-term instruments such as the PPF (7.1 per cent) and public and private sector bank fixed deposits (5-7 per cent) today are lower than the EPF interest rate by a notch. Hence, EPF still retains its edge, even if the returns dim a bit.

The EPF remains one of the last bastions of high fixed returns for investors. And the instrument comes at very low risk, though the stock market investments have pegged up the risk quotient a bit. The dilemma that the EPFO faces today can be a wake-up call for investors, who depend solely on the EPF corpus for post-retirement expenses. Diversification of savings across various instruments may help.

Market-linked returns could be the way forward.

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