Is my provident fund or GP Fund balance taxable when I retire?

What does the law say?

The starting point is section 12 of the Income Tax Ordinance, 2001. Section 12(2)(e)(iv) puts into “Salary” any amount received “from a provident or other fund”, except the part that repays the employee’s own contributions for which no deduction was allowed. Read alone, that would tax most of a provident fund payout. Two exemptions in Part I of the Second Schedule take most retirement payouts out of that charge, and section 53 gives the Second Schedule its force.

Type of fund	Where the exemption is	What the text exempts
A fund to which the Provident Funds Act, 1925 applies	Second Schedule, Part I, clause (22)	“Any payment from a provident fund to which the Provident Funds Act, 1925 (XIX of 1925) applies.”
A recognised provident fund	Second Schedule, Part I, clause (23), and Sixth Schedule, Part I, rule 4	“The accumulated balance due and becoming payable to an employee participating in a recognized provident fund.”

Section 2(48) defines a recognised provident fund as one recognised by the Commissioner under Part I of the Sixth Schedule. Rule 4(1) of that Part repeats the exclusion: the accumulated balance due and becoming payable to an employee in a recognised fund “shall be excluded from the computation of his total income”, subject to rules the Board may make.

How does it work in practice?

Government and other Provident Funds Act funds. Clause (22) covers “any payment” from a fund to which the 1925 Act applies. It is not limited to the balance at retirement and has no rupee cap. Rule 15 of Part I of the Sixth Schedule also says that Part “shall not apply” to a fund governed by the 1925 Act, so the yearly limits described below are not applied to such a fund. The Ordinance does not name which funds the 1925 Act covers. Whether a General Provident Fund or any other fund qualifies is a question of the fund’s own governing rules, which are outside this corpus.

Recognised funds in companies. The exemption at retirement comes with a yearly test. Rule 3 of Part I of the Sixth Schedule treats two parts of each year’s increase in your balance as received by you in that year, taxable in that year:

1. employer contributions above one-tenth of your salary or Rs. 150,000, “whichever is low”; and
2. interest credited above one-third of your salary, or credited at a rate higher than a rate the Federal Government may notify.

“Salary” for this purpose, under rule 14(h), includes dearness allowance where the terms of employment provide for it, but excludes all other allowances and perquisites. So a fund balance can be exempt at retirement while part of it was already taxed in earlier years.

Worked example (illustrative figures)

Imran worked for a textile mill in Faisalabad with a recognised provident fund. His salary as defined in rule 14(h) was Rs. 1,200,000 a year in his last year.

1. Rule 3 limit on employer contribution. One-tenth of Rs. 1,200,000 is Rs. 120,000. The other figure is Rs. 150,000. The lower is Rs. 120,000.
2. Employer contributed Rs. 144,000 that year. The excess is Rs. 144,000 - Rs. 120,000 = Rs. 24,000, treated as received by Imran that year and included in his total income for that year.
3. Interest check. One-third of Rs. 1,200,000 is Rs. 400,000. The fund credited Rs. 180,000 of interest, which is below that ceiling. Whether the interest rate also passes the second test depends on the rate notified by the Federal Government, which is not in this corpus.
4. At retirement. Imran’s accumulated balance is Rs. 4,800,000. Under clause (23) and rule 4(1), the whole Rs. 4,800,000 is excluded from his total income in the year it becomes payable. The Rs. 24,000 from step 2 was taxable in the year it was credited, not again at retirement.

If Imran had instead been paid Rs. 4,800,000 from a fund governed by the Provident Funds Act, 1925, clause (22) would exempt the payment and rule 3 would not apply at all because of rule 15.

What if the balance stays in the fund after I leave?

Rule 2(1)(g) of Part I of the Sixth Schedule makes the balance payable on the day you cease to be an employee, but its proviso lets the trustees, at your written request, keep all or part of it “to be drawn by him at any time on demand”, and the fund may then credit interest on it. The rule does not say how interest earned after you leave is treated for tax, so this page does not state a result for that interest.

What if the fund was never recognised?

Then clause (23) does not apply, and the payment falls back to section 12(2)(e)(iv). Only the repayment of your own non-deductible contributions is left out of salary. That case is covered in the related page on unrecognised provident funds.

Common mistakes

• Assuming every provident fund is recognised. Recognition is an order of the Commissioner under rule 1 of Part I of the Sixth Schedule. A company having a fund does not by itself make it recognised.
• Thinking the exemption is only at retirement. Clause (23) speaks of the balance “due and becoming payable”, and rule 2(1)(g) makes it payable when employment ends, whatever the reason. Clause (22) covers “any payment”.
• Ignoring the yearly excess. Rule 3 amounts are taxed in the year they are credited, so an employer’s certificate for those years should reflect them.

What to check in the official text

Read clauses (22) and (23) of Part I of the Second Schedule, and rules 1 to 4, 14 and 15 of Part I of the Sixth Schedule. Confirm with your fund’s trustees whether the fund is recognised, and from what date. For a government fund, check whether the fund’s own rules state that the Provident Funds Act, 1925 applies. The interest rate notification referred to in rule 3(b) is not in this corpus.