Provident funds are funds created by employers for the benefit of employees. Legally these are separate from employers and are managed by Trustees of the funds. Trustees are persons nominated at the time fund is established or at the annual general meeting of the fund.

How provident funds works?

A predetermined amount is deducted from employees’ salary each month and contributed to the fund. Generally its 10% of basic salary however this may be higher or lower amount.

Exactly same amount is contributed by employer to the funds.


Employee basic salary is 100,000/- per month

Provided fund deduction Rs 10,000/- (Rs 100,000 * 10%) [Rs. 10,000 would be contributed to the provident fund on account of the employee]

Employer would also contribute Rs. 10,000/- to the provident fund [this would be accounted for on account of employee]

The amount of Rs. 20,000 [Rs 10,000 + Rs 10,000] would be invested in some low-risk investment schemes as provided under Companies’ Ordinance, 1984.

Return from above investment say Rs. 2,000 or 10% of invested amount would also be credited to employees account.

When this provident fund balance can be withdrawn by employee?

The amount contributed by employees plus amount contributed by employer plus amount of return can be withdrawn by the employees on the following events

  1. At the time of retirement/ resignation [voluntary resignation i.e. not forced or job termination ]
  2. At any time on application for loan. [the loan is temporary withdrawal i.e. returnable to be company within fixed terms of say 48 months]
  3. At the time of death of an employee [ this amount may be withdrawn by nominee of the employees already communicated by the employees]

Is the amount received taxable for employees?

As already discussed above, the amount that is received from provident fund comprises of following amounts

  1. Amount contributed by employees from their salary [monthly deduction]
  2. Amount contributed by employer
  3. Return on investments earned through investment of the above amounts

The amount contributed by employees from their salary is post tax amounts i.e. the amount is already considered for tax deduction therefore employees has already paid tax on the portion contributed to provident fund. Therefore exempt when received from provident because these are actually salary of employee routed from provident and taxing again would count for double taxation.

Remaining two amounts are exempt subject to a condition that the provident to which these amounts relates is recognized provident funds under sixth schedule to the Income Tax Ordinance, 2001.

In case of unrecognized provident, these two amounts received by the employees shall be taxable in the tax year in which these are received.

Hence it is beneficial for employees to request employers to have recognized provident fund.

 Conditions to be followed in recognized provident fund

There are certain conditions where needs to be complied by recognized provident fund. Key of them are as follows


  1. Limit on contribution made by employer [technically contribution by employee has nothing to tax as it is already taxed in the hands of employee. Therefore restriction is only on employer’s contribution. The employer may contribution 10% of [Basic salary + Dearness allowance] of the employee or Rs 100,000/- per annum whichever is lower ]


  1. Limit on interest credited i.e. return on investments made by provident funds [yearly yield should not exceeds 16% or 1/3 of (Basic salary + Dearness Allowance).


In case the contributions or yearly yields exceeds the threshold, excess shall be included in employees’ salary for the year.


To understand limit on contribution

Employees [Basic Salary Rs 100,000 / month] contribution is Rs 10,000 / month.

Annual contribution by employee Rs. 120,000 [Rs 10,000 x 12]

Employer shall contribute the same amount Rs. 120,000/-

However limit on contribution is lower of Rs. 100,000 or 10% of [Basic Salary + Dearness allowance]

Therefore Rs 20,000 [Rs 120,000 – Rs 100,000] shall be included in employees’ taxable salary for the year.

To understand limit on interest / yield or return on investment

Actual yield for the year is 18%

Investment balance is Rs 2,500,000

Allowed is lower of 16% or 1/3rd of [Basic salary + Dearness Allowance]

  • If investment balance is Rs 2,500,000 and yield is 18%. Amount of interest is Rs 450,000/-
  • Allowed yield is 16%. Amount of interest / yield allowed is Rs 400,000/- [Rs 2,500,000 * 16%]
  • 1/3rd of [Basic Salary + Dearness allowance] is Rs 400,000 [Rs 1,200,000 * 1/3]

Whichever is lower

Therefore Rs. 50,000 shall be included employees taxable salary for the year.


Above are some basic mechanism for understanding how provident fund works. Please write to us for detailed queries on

  1. Investments that can be made by Provident fund
  2. Withdrawals that are permitted [reasons for such withdrawal]