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Public Provident Fund (PPF) – Plan Your Retirement and Save Tax

This article illustrates the features of Public Provident Fund (PPF), and explains how it can be used for long term wealth creation.

Public Provident Fund (PPF) is a great instrument for risk-averse investors. It is also a very good instrument for long term wealth creation – mainly for goals that require relatively safe investments. For example, PPF can be a great avenue for investing to achieve a goal like “building retirement corpus”. Here’s why.

Login Required Download the spreadsheet that illustrates the PPF returns for Rs. 5000 deposited for 15 years. You can change the investment amount and rate of returns to find a result of your own!

(Want to know about PF and VPF? Please read “Provident Fund (PF) and Voluntary Provident Fund (VPF)“.)

 

Features and Benefits of Public Provident Fund (PPF)

Long Term Investment

A PPF account is opened for an initial period of 15 years. That is, you make a commitment of 15 years upfront – and as I always say, this means that you can reap the benefits of compounding. (For more on this, please read “Start saving early and gain from Compounding – Early bird gets the worm”)This also means that you would not touch these funds for ad-hoc needs – which makes PPF all the more suitable for goals like retirement planning. (Although, early withdrawals arepossible – more about it later)

Please note that the maturity date of the PPF account depends on the financial year, and not on the date of its opening. Thus, if you have opened the account on 27th August 2007, it would mature on 1st April, 2023 (and not on 27th August, 2022).

Absolute Safety

PPF is a Government scheme – it is backed by the Government of India. Thus, it is among the safest instruments you can invest in India. This guarantees the safety of your principal and the interest earned on it. Again, this makes it suitable for long term goals where safety is very important.

Multiple Income Tax Benefits

This is a very big sweetener for PPF – PPF provides not one, but two tax benefits!

One, the investment made in PPF is deductible from your income under Section 80C of the Income Tax Act. This means that your entire investment in PPF can be tax free, subject to the provisions of Sec 80C. (For a detailed explanation of Section 80C and the income tax benefits that it provides, please read “Saving Income Tax – Understanding Section 80C Deductions”)

And two, the interest earned in a PPF account is tax free! This means that when your PPF account matures, and you withdraw your money, you pay absolutely no income tax on it! Isn’t it fantastic? This compares quite favourably with other instruments like National Savings Certificate (NSC), where the interest is fully taxable.

(Please note that there are talks going on to introduce tax on the interest earned on an EET – Exempt Exempt Taxed – basis. But these talks are at preliminary stages, and there is very little possibility of this being implemented in the foreseeable future)

Great Interest Rate

Unlike NSCs, the interest rate for PPF is not fixed. It can be changed every year by the government.

Having said that, it should be noted that the government doesn’t change the interest rate on PPF drastically since it is held by a very large number of people. Therefore, this interest rate is quite stable.

The current rate of interest on PPF is 8% per annum. And remember, this interest is tax free. If you are in the highest tax bracket of 30%, this is equivalent to receiving 11.43% interest on a bank fixed deposit (FD). Now that’s great, isn’t it?

Example: A deposit of Rs. 5000 per year for 15 years (totaling Rs. 75,000 over the 15 years) grows into a handsome, risk-free Rs. 1,46,621 if the rate of return remains 8% per annum.

Login Required Download the spreadsheet that illustrates the PPF returns for Rs. 5000 deposited for 15 years. You can change the investment amount and rate of returns to find a result of your own!

Low Minimum Investment

The minimum investment in PPF is Rs. 500 per year. This low amount ensures that even people falling in low income groups can save for their retirement using a government backed, safe investment avenue.

The maximum investment allowed in PPF is Rs. 70,000 per year.

It is not necessary to deposit the amount in one go – multiple deposits can be made in a year.

Regular Investments

This is a side effect of the way PPF operates. Since PPF is not a one time lump-sum investment, you have to invest in it every year, year after year, at least for 15 years. This brings in discipline, which many of us lack when it comes to investments!

Facility of Withdrawals

Yes, PPF is meant for long term investments. But there might be times when you need funds for some emergency.To take care of such situations, PPF does allow withdrawals. One withdrawal, once a year, is allowed from 7th year onwards. You can withdraw an amount not exceeding the lower of:

a. 50% of the balance at the end of the 4th immediately preceding year
b. 50% of the balance at the end of the immediately preceding year

(Note: If the PPF account is extended beyond the initial 15 years (in blocks of 5 years as explained later), the amount allowed to be withdrawn is 60% of your balance at the beginning of the extended period)

Example: If the account is opened in 1999-2000, and first withdrawal can be made during 2005-2006. The amount of withdrawal will be the lower of:

a. 50% of the balance as on March 31, 2002
b. 50% of the balance as on March 31, 2005

Please note that this withdrawal facility should be used judiciously. PPF is mean t for long term savings, and utmost care should be exercised while withdrawing money from it. You should withdraw only for emergencies, like a medical emergency. Funds should not be withdrawn for funding purposes, like for buying a car or a house.

Facility of Loan

In case of emergency situations before the 7th year, you can take loans from your PPF account. You can take loans between 3rd and 6th year of opening the PPF account.

The maximum loan amount available will be equal to 25% of the balance at the end of the 2nd immediately preceding year.

Example: In our example, if loan is sought in 2004-2005, the maximum amount of loan available would be 25% of the balance as on March 31, 2003.

The rate of interest on the loan is usually 2% over and above the rate of interest you receive in the PPF account. This loan has to be repaid within a period of 24 months.

Once you repay a loan, another loan can be taken as long as you are within the 3rd and the 6th year of opening the account.

Extension Possible

If you do not need the funds at the time of maturity (after 15 years), or can not find a better investment avenue for these funds, you can opt to continue the PPF account.

You can extend the PPF account for 5 years at a time, and you can have as many extensions as you want.

Nomination Facility Available

You can specify a nominee for your PPF account. The nominee would get the trusteeship of this account in case your death occurs before the closure of the PPF account.

(To know more about nomination, please read “When you aren’t around – Succession Planning – Will and Nomination”)

Others

Default: In case of a default, when even Rs. 500 is not paid in a year, the PPF account can be regularized by depositing Rs. 500 per year of non-payment, along with a penalty of Rs 100 per year of non-payment.

A person can have only one PPF account at any time.

A PPF account can not be opened in joint names. It has to be in one person’s name only.

Deposits in excess of Rs. 70,000 are returned without any interest

 

Great Supplement to Provident Fund (PF)

The benefits of Public Provident Fund are many-fold. Many of these benefits are available through Provident Fund (PF) as well. Still, if you feel the PF deductions alone are not enough, you can open a PPF account.

 

PPF – Excellent tool for Business People

If you are not salaried, there is no provident fund being created for you! For non-salaried people, PPF is an ideal vehicle to safely build the corpus for retirement.

Another factor, especially important for business people, is that PPF cannot be attached under any order or decree of court. This means that even if all your assets are liquidated to fulfill any of your liabilities, the entire amount in a PPF account remains with you. This is an added level of safety, and can prove extremely useful to business people.

 

Where can a Public Provident Fund (PPF) account be opened?

A PPF account can be opened at:

  • Any branch of State Bank of India and its subsidiaries
  • At the head post offices or sub post offices
  • At branches of the nationalized banks engaged in the collection of direct taxes

On opening of a PPF account, a passbook is issued. This passbook is used to record all the transactions for that PPF account – deposits, interest earned, withdrawals and loans.

 

Online PPF Accounts

Like investment in shares and mutual funds, wouldn’t it be nice if we could invest in PPF online? Online PPF account would add so much convenience to this excellent savings vehicle!

The good news is: Some banks do offer online PPF accounts. With these banks, investors can open and maintain their PPF accounts online.

ICICI Bank was the first private sector bank to offer this facility to its customers. ICICI customers can access their internet banking accounts, and transfer money directly from their savings accounts into their PPF account.

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