Thursday April 16, 2009

If you pay minimum EPF how does it affect you taxes

INDIVIDUAL taxpayers need to be alert to amendments to the income tax regulations relating to bonuses and directors’ fees.

Taxpayers also need to consider the tax consequences if they elect to pay the mandatory minimum contribution of 8% to the Employees’ Provident Fund (EPF).

By opting to contribute 8% to EPF instead of the previous 11%, they lose out on dividends, decrease the potential size of their retirement nest egg, and could suffer additional income tax.

Bonus/directors’ fees

Employees receiving director fees or bonuses in 2009 in relation to work performed in 2008 or prior to 2008 will only be taxed in year of assessment (YA) 2009 under a new amendment to the Income Tax Act 1967 to ease filing under the self assessment system via the Finance Act 2009 (gazetted on Jan 8, 2009).

These director fees or bonuses would be included in the EA Form 2009 to be submitted on April 30, 2010. They must not be treated as income in 2008 and should never be included in EA Form 2008.

Example 1:

Karmen Sdn Bhd pays a special bonus of RM8,000 to Fionna on April 1, 2009 for her excellent performance in 2008. The bonus of RM8,000 will be treated as income for 2009.

Example 2:

Yie Lin receives director fees of RM300,000 in relation to 2004, 2005, 2006, 2007, 2008 (or five years’ total) on March 1, 2009. The total director fees of RM300,000 will be treated as income in 2009.

The employer is required to deduct the monthly tax deduction in the year 2009 (year of payment) and pay the net amount to the employee or director.

There is a new monthly tax deduction table issued to take effect on Jan 1, namely Income Tax (Deduction From Remuneration) (Amendment) Rules 2008 [PU(A) 468/2008].

Paying bonuses and directors’ fees related to 2008 in year 2009 has the advantage of tax savings of 1% if and only if the annual income of such employees is RM250,000 and above.

EPF contributions: 11% or 8%?

With effect from Jan 1, the EPF Act 1991 has been amended to allow employees to contribute 8% of their salary to EPF.

Previously, the mandatory contribution was 11% of salary.

The employer will continue to contribute an amount equal to 12% of the employee’s salary to EPF.

Under the existing Income Tax Act 1967, income to be assessed remains at 100% of salary although the employee only receives 92% of salary.

Salary 100%

Less: 8% of salary to EPF (8%)

Net salary 92%

The employers’ contribution of 12% is not taxable on employees. The amount of EPF contributed by employees (8%) is available as tax relief.

EPF plus life insurance premiums paid on the life of the taxpayers or their spouses will be granted a maximum tax relief of RM6,000 in a particular YA (EPF + life insurance = RM6,000).

Although the Government meant well by lowering the EPF contribution from 11% to 8% to ease the taxpayer’s financial burden, taxpayers may ultimately end up paying additional tax due to reduced EPF contributions.

Assuming that an individual does not have life insurance premiums, full utilisation of the RM6,000 relief will require an individual to earn an annual salary of RM54,545 (computed as follows: RM6,000/11% = RM54,545).

An individual earning an annual salary below RM54,545 will end up paying additional tax if he reduces his EPF contribution from 11% to 8%.

Example:

Melissa earns an annual salary of RM50,000. She pays 11% of salary, or RM5,500, to the EPF and pays RM500 in premiums on her life insurance. Effective Jan 1, she is required to pay only 8% of RM50,000 to EPF.

The differences in tax payable as a result of contributing either 11% or 8% to EPF are shown in the table

Taxpayers need to think twice before opting to contribute just 8% to EPF.

Although employees whose income exceeds RM54,545 don’t pay additional tax if they contribute 8% to EPF, they risk losing out on a substantial retirement sum since their contributions will be lower by 3% (11%-8%) and interest will compound annually on a smaller lump sum.

EPF paid a dividend of 4.5% in 2008 and 2007. Although the EPF Act 1991 sets the mandatory contribution by employees at 8%, employees have the right to request their employers to continue deducting 11% of their salary for EPF to meet tax savings and retirement planning goals.

,LI>Dr Choong Kwai Fatt is a tax consultant and associate professor, Faculty of Business and Accountancy, Universiti Malaya. For further enquiries or feedback, please email to info@my.accaglobal.com