The Union Finance Ministry has decided to split existing Provident Fund (PF) accounts into two separate accounts in a bid to operationalise the new tax on PF income arising out of employee contributions exceeding Rs 2.5 lakh a year.

The new Income Tax rules to this effect were issued on Tuesday.

According to experts, the new rule could prove to be an administrative nightmare for the Employees’ Provident Fund Organisation (EPFO) and a few thousand employers, who manage their employees’ EPF savings in-house.

According to the Income-Tax (25th Amendment) Rules, 2021: “For the purpose of calculation of taxable interest…, separate accounts within the provident fund account shall be maintained during the previous year 2021-2022 and all subsequent previous years for taxable contribution and non-taxable contribution made by a person.”

The notification was issued on Tuesday by the Central Board of Direct Taxes (CBDT).

All EPF accounts will have to be bifurcated into a taxable and non-taxable contribution account, with the latter including their closing account balance as on March 31, 2021, any contributions made thereafter that are “not included in the taxable contribution account” and annual interest accrued on these two components.

To put that in context, the EPFO had 24.77 crore members with EPF accounts, of which 14.36 crore members had been allotted Unique Account Numbers (UAN) as of March 31, 2020, according to a media report and about 5 crore of these members were active contributors into their EPF accounts during 2019-20.

The calculation of taxable interest for the year shall be computed as the interest accrued during the previous year in the taxable contribution account where all contributions over Rs 2.5 lakh a year would be parked, as per the new rule.

The same threshold is Rs 5 lakh for Provident Fund (PF) accounts where employers do not contribute, but most EPF accounts, by definition, usually include matching contributions from employers and employees of 12% of monthly salary.

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