Make the most of Voluntary Provident Fund

Interest rates across most debt instruments have fallen sharply over the last year or so. Still, there are a few investments in the category that continue to give very attractive returns.

The Employees’ Provident Fund (EPF) and, its add-on, the Voluntary Provident Fund (VPF) have seen minimal cut in rates, and are among the best debt options in the market at present. The EPF and the VPF are also highly tax-efficient and safe.

As a salaried employee, you would anyway be investing in the EPF — 12 per cent of your basic and dearness allowance is deducted monthly towards your EPF contribution, and your employer matches the contribution with a similar amount. You cannot increase your EPF contribution, but you have the choice of contributing more voluntarily by investing in the VPF.

You can invest up to 100 per cent of your basic and dearness allowance in the VPF. The VPF earns the same rate as the EPF and accumulates in your EPF account.

Also, most rules pertaining to the EPF — including lock-ins, withdrawal, loans and taxation — also apply to the VPF. There is a crucial difference, though. While the employer matches your EPF contribution, there is no such matching contribution in the VPF — the latter is your voluntary investment.

The key attraction of the EPF and, by extension, the VPF, is the high rate they enjoy. Last month, the Employee’ Provident Fund Organisation (EPFO) fixed the rate on EPF balances for 2016-17 at 8.65 per cent. Despite a cut from 8.8 per cent applicable for 2015-16, the returns on the EPF and the VPF still remain best-in-class.

Last year, the Public Provident Fund (PPF) and National Savings Certificate (NSC) offered 8-8.1 per cent, while banks slashed fixed deposits (FDs) rates to 7-7.5 per cent. Even the highest-yield schemes offered by the post office — Sukanya Samriddhi Scheme and Senior Citizens Savings Schemes — gave 8.5-8.6 per cent, lower than the rate fixed for EPF and VPF.

The other major advantages of the EPF and VPF are safety and tax-efficiency. They are as safe as they get, being guaranteed by the government. Besides, the investments qualify for tax deduction under Section 80C, the interest earned is exempt from tax, and so is the maturity amount — that is, these investments come under the exempt-exempt-exempt (EEE) category. This pegs up the effective returns sharply, compared with taxable options such as bank FDs. While the investment in VPF is covered under Section 80C (up to the overall limit of ₹1.5 lakh a year), you can invest more than this limit, but will not get the initial tax break. The interest earned and the corpus though will continue to be exempt from tax. The ability to invest over ₹1.5 lakh gives the VPF an added edge over the PPF where the investment is restricted to this limit.

The rates on EPF and VPF change every year and are fixed by the EPFO. The rate for the current year (2017-18) will be known only towards the end of the year after the EPFO recommendation and confirmation by the Finance Ministry. Can the rates moderate from the present level? Yes, but going by past experience, they are likely to be better than other comparable debt options such as the PPF.

Currently, the PPF offers 7.9 per cent a year (for the April to June 2016 quarter) and the rate is subject to change every quarter. Also, with the EPFO gradually increasing exposure to equity investments, the returns gap between the EPF/VPF and pure-debt investments could widen in the long term.

Investing in the VPF is quite simple. You only have to inform your employer about the quantum you want to contribute to the VPF. The amount will get deducted from your monthly pay and accumulate into the EPF corpus. Some employers allow employees to enrol for VPF and make changes to the amount contributed on a monthly basis. Others allow this once or a few times in a year.

Sure, it’s a great debt investment. But don’t go overboard with your VPF allocation. Contribution to VPF reduces your monthly take-home pay to that extent. There is no point investing heavily in debt only to borrow later to meet expenses. Next, your investment portfolio should have a good mix of debt, equity and other investments. Equity investments such as well-managed mutual funds have the potential to deliver much superior returns than the best debt instruments over the long run, though they could be riskier in the short term.

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