Voluntary Provident Fund

 

WHAT IS VOLUNTARY PROVIDENT FUND (VPF)?

VOLUNTARY PROVIDENT FUND (VPF) is the extra contribution being made voluntarily by salaried individuals towards their Employee Provident Fund Account.

It is beyond the minimum contribution that one has to mandatorily make towards the “Employee Provident Fund” (EPF) account.

The investment matures either on resignation or the retirement of the investor.

Employees are under no obligation to contribute towards the VOLUNTARY PROVIDENT FUND (VPF) account however, once the contribution is made, the same cannot be terminated or discontinued until the completion of the minimum tenure of 1 year.

 

 

IMPORTANT POINTS TO NOTE ABOUT VOLUNTARY PROVIDENT FUND (VPF)

The following are some of the important features of VOLUNTARY PROVIDENT FUND (VPF) that every investor must know.

1. Investor’s profile – It is one of the best and the must-have option for every individual who is looking forward to creating a debt portfolio.

 

2. Risk – VOLUNTARY PROVIDENT FUND (VPF) is a government scheme and is considered to be the safest of all investments as it invests all its assets in safe instruments to offer higher stability. Due to this, it involves a zero risk of default and minimum interest rate fluctuations.

 

3. Liquidity – VOLUNTARY PROVIDENT FUND (VPF) is moderate on liquidity as despite having a 5 years lock-in, premature withdrawal is possible during emergencies. However, accessing funds to manage short term liquidity needs is not possible since the premature withdrawal is also subject to many conditions. Also, if funds are withdrawn before 5 years, then it becomes taxable in the hands of an investor. A loan against VPF is available.

 

4. Taxation – Investment proceeds received after 5 years is tax-free. Also, the amount invested is eligible for tax benefit under section 80C.

 

5. Volatile – VOLUNTARY PROVIDENT FUND (VPF) is a fixed returns instrument and involves zero volatility since most of its assets are invested in government securities and AAA-rated corporate bonds.

 

6. Time horizon – It is most suited to long term investors having an investment horizon of 5 years or more. The funds if withdrawn before 5 years become taxable.

 

7. Regular Income – VOLUNTARY PROVIDENT FUND (VPF) does not provide any regular income as the interest earned gets accrued and paid with the principal on maturity.

 

8. Returns – VOLUNTARY PROVIDENT FUND (VPF) offers fixed returns in the range of 7% to 9% per annum in the form of interest which is 100% tax-free if withdrawn after 5 years.

 

9. Asset class – VOLUNTARY PROVIDENT FUND (VPF) is a debt product as the major portion of its assets is invested in debt instruments.

 

10. Cost – VOLUNTARY PROVIDENT FUND (VPF) is highly cost-effective and does not involve any cost of investment.

 

11. Loan facility – Loan against VPF is available at any point in time.

 

 

 WHO CAN INVEST IN VOLUNTARY PROVIDENT FUND (VPF)? 

Any salaried individual who is already contributing towards the “Employee Provident Fund” (EPF) can open a VOLUNTARY PROVIDENT FUND (VPF) account and start investing.

 

 

 HOW MUCH CAN INVESTORS CONTRIBUTE TOWARDS VOLUNTARY PROVIDENT FUND (VPF)? 

Employees can invest up to 100% of their basic salary plus dearness allowance in this scheme. However, unlike the “Employee Provident Fund” (EPF), the employer is not obligated to match your contribution and contribute in this scheme.

 

 

 WHERE DOES VOLUNTARY PROVIDENT FUND INVEST YOUR MONEY? 

Due to its conservative nature, the union ministry of labour and employment invests as much as up to 50% of the investor’s money in fixed return instruments like government securities, government and corporate bonds, etc.

Then, up to 40% is invested in equities in the form of mutual funds, IPOs and direct equities. And the remaining portion is invested in real Estate & Infrastructure and Money Market Instruments.

 

 

WHAT KIND OF RETURNS CAN VOLUNTARY PROVIDENT FUND (VPF) GENERATE?

If invested Rs. 10,000/- per month until retirement (60 years) @ average rate of 8% per annum, the corpus you will create (approximately) on your retirement i.e. at the age of 60 at various age groups will be as follows:

 

 

HISTORICAL DATA OF PAST RETURNS

 

 

ACCESSIBILITY OF FUNDS AND LOCK-IN, IF ANY

VOLUNTARY PROVIDENT FUND (VPF) cannot be closed before completing a year and has a 5 years lock-in for taxation purposes. However, in case of medical emergencies, marriage, taking higher education or buying or constructing a house,  investors can withdraw their investment prematurely at any point in time.

If employees resign to join some other company then they can either get the account transferred to the new company or withdraw the entire corpus.

However, it should be noted, if the funds are withdrawn within 5 years of making an initial investment, then the entire proceeds will become taxable in the hands of the investor.

Hence, in such cases, investors can take a loan on VPF.

 

 

WHAT ARE THE BENEFITS OF INVESTING IN VOLUNTARY PROVIDENT FUND (VPF)?

VOLUNTARY PROVIDENT FUND (VPF) offers the following benefits to its investors.

1. Protection from market volatility: Since VOLUNTARY PROVIDENT FUND (VPF) is a debt instrument and offers a fixed return on investment, it keeps you protected from market volatility.

 

2. Tax-efficient – VOLUNTARY PROVIDENT FUND (VPF) will not only help you earn tax-free returns and accumulate wealth for long term goals but also help you save tax under section 80C.

 

3. Easy access to funds during hard times: It is highly liquid when it comes to financial hardships. You can either prematurely break it and access funds or take loans against VPF in such situations.

 

4. Safe – Since VPF enjoys a sovereign guarantee from the government, it is the safest option with guaranteed returns and carries zero risk of principal loss.

 

5. Guaranteed returns – Fixed returns in the range of 7% to 8% is a very good proposition as compared to fixed deposit or any other debt products.

 

6. Low investment amount – One can start investing in VPF with as low as Rs. 1,000/- a year.

 

 

WHAT ARE THE LIMITATIONS OF INVESTING IN VOLUNTARY PROVIDENT FUND (VPF)?

VOLUNTARY PROVIDENT FUND (VPF) has the following limitations.

1. Lock-in: 5 years lock-in makes VOLUNTARY PROVIDENT FUND (VPF) a highly unattractive investment if the investor is struck with financial emergencies and has to withdraw funds before maturity. In such cases, the entire maturity proceeds become taxable.

 

2. Limited returns on investment: Inspite of being invested for 5+ years, it fails to generate double-digit returns due to very low participation in equity.

ELSS funds on the other hand can generate much better returns given the time frame with comparatively much fewer restrictions.

 

3. Loss of opportunity during the market boom: The objective of VOLUNTARY PROVIDENT FUND (VPF) is to offer a fixed return on investment to its investors due to which its exposure to equities is restricted. This prevents its investors to benefit from the upswing of the market boom.

 

4. No regular income – Despite having a lock-in of 5 years, it fails to generate regular income. Though investors earn fixed interest, it keeps accruing and only gets paid on maturity with the principal.

 

 

WHO SHOULD CONSIDER INVESTING IN VOLUNTARY PROVIDENT FUND (VPF)?

VOLUNTARY PROVIDENT FUND (VPF) is most suited to the following investors:

1. Risk-averse investors – Since VOLUNTARY PROVIDENT FUND (VPF) is a fixed income product and offers assured returns, it is best suited to no risk-takers who are ready to compromise on returns but not on safety.

 

2. Investors with low debt exposure – VOLUNTARY PROVIDENT FUND (VPF) is a debt product hence, investors with high equity exposure who are looking forward to creating a debt portfolio can consider this option. It can be a very good option for them to diversify and create a retirement corpus.

 

3. High income individuals – Investors who fall in the higher tax slab of 20% or more and want to earn tax-free interest must invest in VPF. Interest earned from the VPF account is 100% tax-free after 5 years.

 

4. Long term investors looking for diversifying their portfolio – VOLUNTARY PROVIDENT FUND (VPF) is a must-have product for all investors having an investment horizon of 5+ years.

VPF offers a guaranteed and tax-free returns of 7% to 8% with the minimum risk of volatility, interest rate fluctuations and market movements. Since it is backed by the government, it also involves zero risk of default. Investors with low liquidity needs and having enough exposure to equities can invest in VPF for diversifying their portfolio and earn decent post-tax returns.

 

5. Investors looking for tax saving options – Apart from giving decent tax-free returns, VOLUNTARY PROVIDENT FUND (VPF) also offers a tax benefit to all its investors up to Rs. 1,50,000/- per annum under section 80C. Individuals who want to invest for retirement and at the same time save tax can consider investing in VPF.

 

6. Investors looking for guaranteed returns – Investors seeking predictable returns as compared to other debt instruments and can stay invested for at least 5 years must consider investing in VPF.

 

7. Investors with low liquidity requirements – VOLUNTARY PROVIDENT FUND (VPF) can generate much better post-tax returns as compared to other debt-oriented investments. Hence, investors who do not foresee any need to liquidate their investment before 5 years can invest in VPF since it involves a lock-in of 5 years.

 

 

 WHO SHOULD AVOID INVESTING IN VOLUNTARY PROVIDENT FUND (VPF)? 

VOLUNTARY PROVIDENT FUND (VPF) may not be the best investment for the following investors:

1. High-risk-takers – VOLUNTARY PROVIDENT FUND (VPF) is a low risk-low returns investment. Young investors especially below 35 years of age, who have age by their side and can take higher risk to earn much better returns by investing in equity mutual funds or direct equities.

 

2. Investors with short term liquidity needs – VOLUNTARY PROVIDENT FUND (VPF) has a 5 years lock-in and is not so friendly for investors having short term fund requirements. Though partial withdrawal is permissible, it is subject to certain conditions and also loses the edge due to taxation.

 

3. Investors looking for regular income – VOLUNTARY PROVIDENT FUND (VPF) does not generate regular income for its investors. All the interest earned is accrued and paid upon maturity.

 

 

A PIECE OF ADVICE

THINGS YOU SHOULD DO WHILE INVESTING IN VOLUNTARY PROVIDENT FUND (VPF)

VOLUNTARY PROVIDENT FUND (VPF) investors must follow the below suggestions while investing to maximize the value of their investment.

1. Diversify your investments – Returns from the VOLUNTARY PROVIDENT FUND (VPF) is fixed as it is not 100% market-linked and may or may not be able to beat inflation year on year consistently. Hence, instead of investing all your money in this product, you can also consider diversifying your investment in other market-linked products like balanced mutual funds or bonds issued by the Government of India.

 

2. Understand the product and the risk involved – VOLUNTARY PROVIDENT FUND (VPF) involves 5 years lock-in. Hence, investors should be aware of all pros and cons of the investment they are getting into. The amount required on maturity, liquidity needs, risk appetite, etc. should be carefully evaluated before signing up for this scheme.

 

3. Know your investment goal – VOLUNTARY PROVIDENT FUND (VPF) is only meant for long term goals having a time horizon of at least 5 years or more. Hence, anyone who wants to park money for short term must avoid investing in this product.

 

4. Update nomination details – Updating nominee details at the time of opening the account is very important. In case of an investor’s death, the family members should not end up running from pillar to post when they need that money the most to claim your investment proceeds.

 

 

THINGS YOU SHOULD AVOID DOING WHILE INVESTING IN VOLUNTARY PROVIDENT FUND (VPF)

VOLUNTARY PROVIDENT FUND (VPF) investors must avoid taking the following actions while investing to protect their investment from losing its value.

1. Breaking it prematurely – Do not invest in VOLUNTARY PROVIDENT FUND (VPF) if you need the funds before 5 years. Breaking it prematurely will make the entire maturity proceeds taxable. Instead, you can consider investing in liquid funds or short term debt funds.

 

2. Do not get influenced by anyone but financial experts – A confused investor always has a tendency of reaching out to their friends and relatives for suggestions while making critical investment decisions. That happens irrespective of the knowledge and the level of understanding the friend has about the domain. It is as good as asking a truck driver, how to fly an airplane. Such advices in most cases are based on their individual experiences and hardly on calculations or facts and figures. Hence, instead of blindly following the financial advice of a random friend, investors must act wisely and take assistance of a well qualified financial planner who has sound knowledge about the domain.

 

 

WHAT ARE THE RISKS INVOLVED IN VOLUNTARY PROVIDENT FUND (VPF)?

VOLUNTARY PROVIDENT FUND (VPF) investors should be mindful of following risks involved in this investment:

1. Inflation Risk – Though VOLUNTARY PROVIDENT FUND (VPF) ensures the highest level of safety of principal and give assured returns, it may or may not be able to beat inflation year on year since it is not market-linked. The average rate of inflation is around 6% - 8% per annum whereas net returns generated from VPF can go below 8% or even lesser. This may lead to shortfall when you look at the corpus you created in meeting your financial goals.

To reduce the risk, you can consider investing partially in through SIP.

 

2. Liquidity Risk – VPF involves 5 years of lock-in. And in case someone needs to liquidate it before maturity, they need to break it prematurely and forego tax benefits. Hence, anyone looking forward to liquidating their investment before maturity should consider investing in debt mutual funds or liquid funds.

 

 

TAXATION (BENEFITS, TAX EFFICIENCY AND TDS)

VOLUNTARY PROVIDENT FUND (VPF) is considered as one of the most tax-efficient investment options.

Under this scheme, the amount invested is tax-deductible under section 80C, the amount earned as interest and amount withdrawn is also tax-free.

However, it should be noted, if the funds are withdrawn before 5 years from the date of initial investment then the entire maturity proceeds become taxable in the hands of an investor.

If the amount of withdrawal exceeds Rs. 50,000/- then TDS @ 10% will be applicable.

 

 

DOES ANY OTHER PRODUCT OFFER BETTER PROSPECTS THAN VOLUNTARY PROVIDENT FUND (VPF)?

VOLUNTARY PROVIDENT FUND (VPF) can be beaten by the following products on various grounds.

1. From a safety point of view – VOLUNTARY PROVIDENT FUND (VPF) is supreme and is considered to be the safest than any other debt-oriented instrument as the returns it generates are fixed and there is no risk of principal loss as well since it is backed by the government.

 

2. From the returns point of view – Balanced funds generate better returns than VPF as they actively participate in the equity market.

Equity mutual funds, on the other hand, generate even better returns in the long run however, it carries a higher risk of principal loss as they invest directly in the stocks of various companies.

If someone has an even higher risk appetite is looking for even better returns then they can invest in or of various companies.

 

3. From a liquidity point of view – VPF involves a pre-defined maturity period and breaking it prematurely makes it tax inefficient. Hence, someone who is expecting any major expense soon can consider investing in liquid funds or ultra short term funds which not only generates better post-tax returns but also offer higher liquidity.

 

 

HOW TO INVEST AND DOCUMENTS NEEDED?

Investment in VOLUNTARY PROVIDENT FUND (VPF) can be done through your employer. A separate application is required to be made to enhance your contribution to the “Employee Provident Fund”.