PremiumIf you are a salaried person, you would be contributing a part of your salary mandatorily towards the Employees’ Provident Fund (EPF), which is considered a traditional tool for saving for retirement. However, if you are assuming that the EPF corpus you have been building would be enough to meet your retirement needs, you may be mistaken.
Given the tax-efficiency, EPF is certainly a good investment product. EPF enjoys the EEE (exempt-exempt-exempt) tax regime, which means it is tax free at the three stages of contribution, interest amount accrual and withdrawal. It’s a government-backed scheme, which makes it a safe instrument.
However, EPF if primarily a debt product and the limited exposure to equity and caps on investment it has may not help you accumulate the required retirement corpus. Equities are said to be one of the few instruments that has the potential of generating inflation-beating returns in the long term.
debt product
EPF is primarily a debt product as the majority of its corpus is invested in debt products such as government securities, and a very little amount in equities.
In 2015, the Employees’ Provident Fund Organisation (EPFO) started investing in equities. Initially, it was given a go-ahead to invest 5% of the incremental corpus in equities; the limit was increased to 15% in 2017. EPFO invests in exchange-traded funds (ETFs), including Central Public Sector Enterprises (CPSE) ETF and Bharat 22 ETF.
However, experts believe that EPF’s equity exposure is very limited, due to which it may be difficult for the instrument to generate inflation-beating returns. Plus, in line with the declining interest rate in the country, EPFO has lowered the rate of interest for FY20 to 8.5% from 8.65% in the previous year. The last time, EPFO had paid a rate of 8.5% was in FY13.
The interest rate on EPF is decided by EPFO’s apex decision-making body Central Board of Trustees (CBT), depending on the surplus they have from the previous year as well as the income generated during the financial year. The interest rate is then sent to the finance ministry for approval. CBT comprises representatives of employers, employees and the government.
Limited contribution
Apart from the concern about lower equity exposure, limited contribution towards EPF is another cause for worry. Both employees and employers contribute 12% each to EPF on a monthly basis. However, in case the employee’s salary is above ₹15,000, it is not mandatory for the employer to contribute 12% of the actual salary (basic plus dearness allowance). They can limit the contribution to 12% of ₹15,000 that is ₹1,800. Therefore, irrespective of the employee’s salary level, the employer’s contribution may be limited to a lower level.
“EPF contribution is 12% of your actual salary or 12% of ₹15,000 (based on the employer’s preference). Hence, limited contribution may restrict you from achieving your retirement goal. Also, many employers may not offer you the VPF (Voluntary Provident Fund) option (which allows you to increase your EPF contribution). Keep in mind that 8.33% of the employer’s contribution will go towards EPS (Employees’ Pension Scheme), which will not earn a single penny of interest. One gets the pension at the time of retirement, which is not much. Hence, considering all these restrictions and the way inflation (the actual inflation experienced by an individual) is rising, I don’t think it is worth relying on EPF for retirement," said Basavaraj Tonagatti, certified financial planner (CFP) and a Bengaluru-based fee-only Sebi-registered financial adviser.
mint take
EPF is certainly one of the best retirement savings products as despite the recent cut in interest rates, it is still giving higher rates than products in the small savings basket. Another popular long-term savings product, Public Provident Fund (PPF), is giving an interest of 7.1% for the quarter ending 31 March.
However, to beat inflation and not outlive your retirement corpus, it is important to have substantial equity exposure at least in the initial working years of your life for long-term goals like retirement. As you move towards retirement you can bring down the equity exposure. Equity as an asset class has the potential to deliver inflation beating returns.
To get an idea of equity returns, consider how much the Nifty index has delivered, as tracked by an index fund. For instance, Franklin Index NSE Nifty fund has delivered a return of around 13% over the past 20 years, as on 18 January 2020, according to data from ValueResaerchonline.com.
“Rising cost due to lifestyle changes, expected chronic diseases during retirement life and the way actual inflation of lifestyle or hospitalization costs are increasing rapidly, one must consider equity as the part of their retirement goal to beat inflation," said Tonagatti.
“In fact, my suggestion is that even during retirement, one must not stay away from equity completely. Instead by creating a bucket strategy, they can take calculated risk and can beat inflation by investing their retirement savings in equities as per their risk appetite," he added.
When building a retirement kitty, include equity-oriented products such as mutual funds of the relevant category. However, how much equity exposure you should have will depend on your risk appetite. You can consult a financial planner or adviser in case you are unable to decide that on your own.
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