Provident Fund Qualifying Salary and the recent Apex Court Judgement.

Section 2(b) of the Provident Fund and Miscellaneous Provisions Act, 1952, defines basic wages as all emoluments which are earned by an employee while on duty or on leave as per contract of employment. It also provides that cash value of any food concession, any dearness allowance which is paid to compensate a rise in the cost of living, house-rent allowance, overtime allowance, bonus, commission or any other similar allowance payable to the employee in respect of his employment shall not form part of Basic Wages.

Section 6 of the Act instructs that every employer should pay contributions towards Provident Fund at the prescribed rates calculated on the Basic Wages, dearness allowances and retaining allowances, if any. Retaining allowance is the amount paid to employees of such organisation which are not presently running and is paid to retain the manpower and make them available when the establishment resumes its work. The definition  of basic wages given in section 2(b)  clearly says that wages is nothing but the amount earned by an employee while on duty or on leave. As such retaining allowance will not form part of wages per say.

What constitutes PF qualifying salary, therefore, is very clear and is nothing but basic wages and dearness allowance in the case of employees receiving salaries and retaining allowance in the case of employees retained by temporarily closed establishments. But various employers misinterpreted the term basic wages as that basic wages that they fix in their organisation and started deducting or paying the contribution on that basic wages alone which is only a component of the total remuneration agreed to be paid to their employees. It is also pertinent to note that many have kept the basic salary at a very low level so that their contribution towards provident fund could be reduced. But the Act had envisaged the meaning of Salary or Wages in its authentic meaning to mean and include the amount required for an employee to apportion to food, shelter and clothing which in normal months would be 80%, 15% and 5% respectively. Of these, you cannot have a compromise on 80% which is the amount required for the basic things, ie, all the direct costs of your family budgets, probably, cost of food items, cooking gas, electricity, water, education, medicine and like things. This is the way in which basic wages is designed in government departments, public sector undertakings and other organized sectors. It is to be welcomed that about 90% of the establishments which have collective bargaining practices and  trade unions  follow the pattern of Basic wages, dearness Allowances and other allowances. It is also pathetic in new generation companies who are not heard of what dearness allowance is and how the same is fixed according to changes in the cost of living index!

On account of misinterpretation or even by unscrupulous interpretation of law by the employers the basic wages were taken as the base for deciding the contribution towards PF. This was challenged by the Employees Provident Fund Organisation initially by means of administrative instructions requiring the employers to pay PF at least on the wages as per the notified statutory minimum wages. They even inspected the companies and directed the employers to comply with the Minimum Wages Act. This resulted in a back fire since the Employees Provident Fund Organisation had nothing to do with enforcement of minimum wages which is to be done by the State Labour Department. When their efforts in that direction failed, they filed cases against the employers. Various High Courts have ruled the issue in different manner and finally the issue came for the consideration of the Supreme Court. There were four appeal cases and one transfer case on the same subject before the Apex Court. The landmark judgement  (it is a landmark judgement because there has been a law made by practice and once it is pointed out as wrong practice then it will be become a sensation) directs that PF should be paid on all the emoluments that an employee gets, and it should not be restricted only to basic wages fixed as a component of wages of your company. It provides that only HRA is an exempted allowance and all other allowances will form part of basic wages.

The Practice of Compensation Fixation

As against fixing the basic wages and building up the salary by adding Dearness Allowance based on CPI, HRA as a percentage of the basic wages and city of residence, conveyance allowance according to the grades or city of residence and other allowances as per eligibility of the respective employees, in private sector concerns we have a system of first deciding what is the Personnel Cost to the Company and then cutting the same into small compartments and giving some title to each component. There will not be any grade wise pay structure,  but the remuneration is fixed by the concerned officer giving weightage to the candidate’s present salary, experience etc and in this pursuit, occasionally, the bargaining power of the candidate and the bias of the HR Manager will be decisive factors.  Everything is discussed on the CTC and once it is decided the same is put in an excel template which will give you a break up like Basic pay, HRA, Conveyance, performance pay, medical allowance and finally Special Allowance. This special allowance is the amount left after putting the percentages are put on each cell representing the amount demanded by the employee and the amount payable by the Personnel policy  of the organisation. Eventually, this component will be common for all employees and whenever salary hikes are declared, often this is the component of salary to which the increase in the salary will be absorbed. This is because any addition to basic pay will increase the burden of the employer towards PF, Bonus, Gratuity, leave encahment etc!

It is to be noted that, whatever is paid to all the employees commonly should form part of basic wages. At the same time, if any particular employee or a class of employees having special skills or requiring special skills to do a particular work is paid any additional amount, that can only be excluded from basic wages as special allowance. This was decided very long before in Bridges and Roofs India Ltd Vs Union of India (1963(2)LLJ 490) and a few other cases like R Ramanathan Chettiar Jewelers,Madurai Vs Regional PF Commissioner, Madurai, (1988(ii)LLJ 045) and Associated Cement Company Ltd, and Ors Vs RM Gandhi, Regional PF Commissioner, Gujarat (1995-III-LLJ(suppl.) 368)

The system of pay fixation based on Cost to Company and making it more and more employer friendly only has put them under trouble. With the new decision the employers are now thinking of increasing of share of CTC to HRA because HRA is in the exclusion part of the definition of basic wages and as such no contribution is payable on HRA. But the EPF Organisation is ready with a calculation of HRA in tune with the Income Tax Act preventing the employers to pay more for the shelter rather than for their basic requirements.

Take Home Salary

Though the Supreme Court has ruled that provident fund should be contributed on your Gross Fixed Salary (less HRA), the amount of contribution of those whose basic salary was more than Rs 15000 will not change. This is because the EPFO cannot demand a contribution on a salary above Rs 15000. In Maratwada Gramin Bank Karmachari Sanghatana and Another Vs Management of Maratwada Gramin Bank and others (SC 2011 LLR 1130) it was held that the EPFO has no right to demand a contribution on a salary above Rs 6500. (Please note that the mandatory salary was Rs 6500 when this verdict came and now it has become Rs 15000). Therefore, the employer’s liability to pay PF shall be restricted to 12% of Rs 15000. As such those whose salary are subjected to PF deduction at this figure will continue to get the same take home salary.

For those whose contributions were worked out on amounts less than Rs 15000, the take home salary would certainly come down. But the reduction of take home pay should not be taken as a negatively because of various reasons. First, whatever you contribute will be a saving. Second, the same amount is put by the employer also. This will increase your take home at the time of your retirement. Since 8.33% of the PF qualifying salary is posted in Pension Fund, your pension qualifying salary will also be high and this will, obviously, result in higher pension through out the rest of your life. If you wish to take a loan, say for construction of a residence, the amount available to you will be 36 times of your PF qualifying salary. An increased PF qualifying salary will result in increased amount available as loan from PF.

Provident Fund is an investment and is considered to be the best available retirement benefit available in India. Besides its beauty of income tax savings, insurance under the Employees Deposit Linked Insurance and easiness of getting advances for construction or purchase of residential plots, education of children, marriage etc, it is the only form of investment which gives the nominee of the deceased member monthly pension without reference to the service. Therefore, I would recommend that the ruling of the Supreme Court should be welcomed.

Apprehensions

The ruling only gives a direction that basic wages means total salary and you should include special allowances, conveyance allowance and other allowances to wages which qualifies to PF contribution. However, the EPFO can demand the arrears of contribution by sending notices to all the establishments who have not complied with the statutory requirements. Therefore, from now onwards it will be a period of enquiries under section 7A of the EPF & MP Act. If so, from which dates the employers will have to pay the contributions? Is it from the date on which the Employees provident Fund and Misc. Provisions Act was enacted or the date on which the Act was made applicable to the establishment whichever is later or whether the EPFO will give a cut of date for this? If they take the former, the employers will have to provide for a huge amount in their next year budget and this will include the employees’ share  because they cannot recover a single paisa from the employee in respect of their old dues. For the EPFO, it is benefited because there are huge amounts which are remaining unclaimed by members who have either not bothered to get it or died without claiming the amounts. Under the Payment of Gratuity Act there is a provision that it is the responsibility of the employer to pay the gratuity to an eligible employee within 30 days of his leaving service even if he has not claimed it. Similarly, the EPFO should be mandated that it is their responsibility to pay the PF amounts and pension as soon as an employee leaves or communication of his exit is given to them by the employer.

Madhu T K