401k in the USA and EPF in India - Similarities and Differences
401k in the USA and Employee provident fund in India, both are designed to help the employee with their post retirement years. While there are some similarities between the two, there are enough differences as well. In this article, let's see how these two retirements plans from two different countries match and defer in the following aspects.
- Contributions
- Tax exemptions with the contributions
- How is money invested in these accounts?
- Tax on withdrawals during retirement
- Pension
- Government Guarantees
Please note that every aspect of these plans we discuss will have its nuances and variations. I will be listing only the most common use case applicable to my readers.
Contributions
For 401k, there is a limit on the amount the employee can contribute. It is $22,500 for the year 2023, if the employee is under 50 years old. The Employer contribution varies. Some companies match 50%, some match 50% of the first 6% and some do dollar-to-dollar match as well.
For EPF, the Standard Contribution rate is 12% from both Employee and Employer. This 12% is on Employee basic salary.
Tax exemptions with the contributions
Both 401k and EPF contribution by the Employee will reduce Employees taxable income.
How is money invested in these accounts?
401(k) plans typically offer a range of investment options. These often include mutual funds, index funds, target-date funds, stocks, bonds, and sometimes stable value funds or money market funds. The specific options available depend on the plan provided by the employer.
The EPF is managed by the Employees' Provident Fund Organization (EPFO), a government body. This means that individuals do not have to make investment decisions themselves. Instead, the EPFO is responsible for managing and investing the funds. Fixed interest rate is given annually.
Tax on withdrawals during retirement
401(k) withdrawals are considered as regular income during retirement. Based on the total income one gets from all sources, the applicable tax rate at that time must be paid.
EPF withdrawals during retirement are tax free!
Pension
401(k) is not a pension plan.
in EPF, out of 12% Employer contribution, 8.33% is diverted to Employee pension schema(EPS). To be eligible for a pension under the EPS, an employee must have completed a minimum of 10 years of service.
Government Guarantees
There is no direct government guarantee on the money invested in a 401(k). The performance is subject to market risks. However, there are legal protections in place to ensure proper management of the plan.
The Indian government guarantees the safety of the money invested in EPF and also decides the interest rate, which is generally higher than prevailing market rates.
That's a wrap this week. Happy learning!
Please note that I am not a financial advisor or tax consultant. I write based on my own research, experiences gained doing these things, and interviewing the people done these things. So, be aware of the options and discuss with your tax consultant to make right decisions for your financial situation.
