Outrage over EPF rate cut not justified
The outrage over the recent reduction in the Employee Provident Fund (EPF) interest rate is understandable but not fully justified. The interest rate on EPF has been reduced to 8.1% in 2021–22 from 8.5% in the previous year—a reduction of 40 basis points.
EPF has over six crore contributors and 25 crore active accounts—it is one of the largest social security schemes in the world. It is the sole source of future retirement savings for many Indians working in the formal sector. Therefore, any change in EPF interest rates directly impacts a large number of households in India. Yet, the recent reduction in interest rate must be seen in the context of inflation and bond yields prevalent in the previous financial year. Also, the EPF interest rate should not be seen in isolation. It must be compared with performances of similar long-term retirement saving instruments like NPS or PPF.
EPF offered 8.1% return in 2021–22, when the retail inflation averaged 5.5% and the 10-year government bond yield averaged 6.3%. In the long term, EPF paid interest at an average 8.6% over the last 10 years. During the same time, retail inflation has averaged 5.85%. This means that EPF returns have outpaced inflation over the long term. We must also not lose sight of the fact that EPF returns are fully tax-free for anyone whose annual contributions towards the funds is less than Rs 2.5 lakh. Also, contributions made towards EPF are eligible for income tax deductions.
Now, compare this with another popular long-term investment option—Public Provident Funds. Over the past two years, PPF returns have been below 8%. Currently, PPF is offering an interest rate of 7.1%. A better comparison could be returns from funds managed under the National Pension System. NPS offers an array of portfolio options with a choice to have up to 50% of the amount invested in equities, and its funds for Central and state government employee schemes have given 9–9.5% over the past 10 years. Clearly, NPS has performed better than EPF over the long-term, yet the latter has not disappointed millions of subscribers over the long run.