A recent circular about the manner in which the contribution to the Employees Provident Fund will be calculated will have far reaching impact on employees
in the days to come. In a nutshell the manner of calculating the base
for the application of the rate of deduction of provident fund
contribution should include the basic salary, dearness allowance as well
as allowances that are ordinarily, necessarily and uniformly paid to
employees instead of the basic salary and dearness allowance that is
used currently for the calculations. Here are some of the impacts that
will be witnessed in the days to come.
Additional provident fund contribution:
One impact of the implementation of this change will be that the
contribution to the Employees Provident Fund will increase on the part
of both the employer and the employee. This will happen as the base for
the calculation is larger than before due to the increase in the items
that are considered as basic wages. For the employee this will mean
that a larger amount gets accumulated in the provident fund account each
month which will mean a larger amount of earnings in the form of
interest in the coming time period. This will change the entire
dynamics of the retirement planning calculations as this larger amount
going towards this area will need adjustments in terms of savings and
investments in other areas for the purpose of retirement planning.
Change in salary structure:
The amount spent by an employer on the employee is known as cost to
company and when the change in the manner of provident fund contribution
is considered if all other things remain as before then it will lead to
a larger contribution from the employer. If the employer decides to
absorb this rise then it will in effect be a salary hike for the
individual to the extent of the extra amount contributed to the
provident fund by the employer. However many employers might prefer to
keep the cost to company figure constant by reducing the allowances to
the extent that this compensates for the additional amount of
contribution to the provident fund. This would lead to changes in the
salary structure and in many cases even the manner in which the entire
salary is provided.
Cash flow:
A major impact for the individual will be the cash flow changes that
will be witnessed. A larger contribution to the provident fund from the
employees side will mean that lesser amount of income will be available
as take home salary. This can put a severe dent in the management of
the household budget because the individual will have to adjust their
planning in such a way that the lower amount of income is taken into
consideration for the various spends. If the employer decides to change
the salary structure by reducing the allowances to keep the cost to
company figure constant then the hit will be even harder as the income
will fall and at the same time contribution will rise leading to a
squeeze on the cash flow from both sides. Planning for a reduced take
home salary in advance would be required to avoid a sudden shock later
on.
Overall planning:
The overall planning with respect to investments and long term
retirement needs will need to undergo a change for the employee. With a
larger amount being compulsorily going towards retirement needs the
individual might need to shift their overall planning focus to other
areas. This could require allocation for other goals like education of
children, buying a property, travel etc. There is also the question of
the rate of return being earned by the investments and since the
interest earned on provident fund is tax free it will be difficult for
the investor to get similar rates on the debt side from other
instruments. So the allocation towards provident fund would be earning a
good rate of return and the remaining funds would need an appropriate
asset allocation so that an overall balance in the portfolio is
maintained for the employee.
