Pension --Issues and Concerns.

8/13/2019 Pension --Issues and Concerns.

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@Prof.R.Vaidyanathan,iimb 1

PENSION BUSINESS :Issues and Concerns

R.VAIDYANATHAN

PROFESSOR OF FINANCE & CONTROL &

UTI CHAIR PROFESSOR

INDIAN INSTITUTE OF MANAGEMENT BANGALOREBANNERGHATTA ROAD

BANGALORE

INDIA 560076

TEL: 91-80-658-2450

FAX: 91-80-658-4050E-mail: [email protected]
mailto:[email protected]:[email protected]


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Retirement Schemes - Global Scenario

Social Security Schemes sponsored by the

governments

Occupational schemes sponsored by the

employers for the benefit of their employeesand

Private voluntary schemes to accumulate

savings to provide for retirement needs.


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Challenges

Government schemes-pay as you go- facing crisis.

Inverted Pyramid population structure.

Post-retirement expectations and standards of living.

Inability of existing employees to sustain the system. Moving towards private contribution schemes.

Inadequate underwriting returns and reliance on

Investment returns.


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DemographicsIndia: Work Force Covered

Number of workers - 314 million (1991 census data).

Regular salaried employees - 47 million (15.2%). Central, State and other departmental employees - 11.13 million

(23%). They are covered by non contributory, indexed, defined

benefit pension, funded entirely by the government.

Nearly 23 million (49%) of the salaried (non-government) workers

are covered by mandatory Employee Provident Fund and the

Employee Pension Scheme.

Hence nearly 34 million ( or less than 11%) of the working

population has got old age income security.

Casual/contract workers - 97 million (31%).

Self employed - 166 million (53%).

Source : Project OASIS Report, January 2000


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Composition of work force-2000

Class of worker Percent

Private wage and salary workers 78.5

Government workers 14.6

Self-employed: own unincorporated business 6.6

Unpaid family workers 0.3

Total 100

Source:U.S Bureau of Census, Census

Table 1


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Demographics - India

Total population to increase by 49% between 1991 and 2016

Number of elderly ( >60 years) to increase by 107% to 113

million.

The share of the aged in the total population will be 8.9% in

2016.

Persons at age 60 today are expected to live beyond 75 years of

age. Hence an Indian worker needs to have resource to support

himself for nearly 15 years after retirement.

Source : Project OASIS Report, January 2000


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Total Population and Workers

Total Population 1027 Mn.

Total workers 403 Mn.

Agriculture 235 Mn.

Industry 17 Mn.

Other [service sectors] 151 Mn

Source Census 2001


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Age-wise composition of Indias Population

[Projected]

Population [million] % to total

Years 2000 2025 2050 2000 2025 2050

0-14 347 337 285 34.1 24.6 18.6

15-59 593 865 938 58.3 63.2 61.3

>60 77 167 308 7.5 12.2 20.1

Total 1017 1369 1531 100 100 100

Source: Population Division of the Department of economic and social Affairs of the United Nations Secretariat, World Population Prospects. The 2002 revision and World

Urbanization Prospects: The 2001 revision. http//esa.un.org/unpp.


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Three major trends

Improved Life Expectancy.

Increased aspiration and lifestyle after

retirement.

Decline in the Joint Family System.


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Elements of the Indian pension system

Occupation based, earnings related, employeremployee

participation, insurance coverage

Provident Fund, pension and gratuity

Provident Fund is the main pillar for retirement income

offering lump sum benefit

Employees Pension Scheme, introduced in 1995 by partial

conversion of Employees Provident Fund scheme

Government employees receive a non-contributory,

defined-benefit, indexed pension besides GPF

Gratuitya second tier of lump sum benefit

Voluntary schemesPPF, LIC schemes etc.


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Current Pensions Schemes

Government [Central +States] Schemes

Mandated SchemesPrivate Sector

Employer Sponsored Private sector schemes

Targeted Social Assistance and other

Welfare Funds

Voluntary Schemes

Other Informal Schemes[including Gold

as a Insurance/Pension instrument]


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Characteristic of Government Pension Scheme

Government Employees Pension

Scheme(GEPS)

Characteristics Defined Benefit

Coverage The scheme covers all government

employees

Contribution Participants make no explicit

contribution

Pension

Formula

Pension = 0.5 x wage x min (t, 33)/33

where t is the service period

Vesting Period 10 years

Benefit Payout

Pattern

Monthly Annuity


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Characteristic of Government Pension Scheme

Government Employees Pension

Scheme(GEPS)

Minimum and

Maximum Benefit

The minimum monthly pension floor for

GEPS is INR 3500 and the maximum is INR

45000 per month

Indexation It is indexed to the Consumer price Index [CPI]. Theindexation benefit known as Dearness relief is revisedtwice a year. The relief is payable in addition to the

calculated amount shown above using the pension

formula.

Commutation Maximum commutation of 40% is

permissible. The commuted portion is

restored after 15 years of retirement.

Risk Coverage Covers Longevity and inflation.


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Gratuity

Lump sum payable on retirement / death Amount payable based on length of service and last

pay drawn , subject to a ceiling of INR 350,000

Governed by a payment of Gratuity Act, 1972

Three types of gratuity

--Retirement

--Death

--Service


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General Provident Fund

DC scheme , employee contributes 6% of basic

pay

Provides for lump-sum payment on retirement /death

Employees contributions are accumulated and

earn administered interest


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OTHER NON-PENSIONARY BENEFITS

Encashment of earned leave

Central government employees Insurance

scheme Contributory Provident Fund for non-

pensionable employees


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Schemes for Employees of State Government /

Public /Local Bodies

On the same lines as those for Central

Government Employees

Change in Central Government pension expenditure1990 91 2000


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Change in Central Government pension expenditure1990-91---2000-

2001


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Mandated Provisions for the Private Sector

Applicable to 180 industries and classes of

establishments notified by the government and

covered by the EPF & MP act 1952, and which

employ 20 or more persons


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Schemes

Employees Provident Fund Scheme -1952

Employees Pension Scheme - 1995 Employees Deposit-Linked Insurance scheme

1976


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Management

Employees Provident Fund

Organisation(EPFO) Coal-miners Provident Fund

Assam Tea Plantation Provident Fund

Jammu & Kashmir Provident Fund

Seamen Provident Fund


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Coverage and Contribution

As on March 2009

Total number of establishments is 573063

Members 47 million .

Total contribution in

EPF : Rs 287 billion

EPS: Rs. 104 billion.

EDLI: Rs 4billion

Total contribution Rs 395 bn

Cumulative assets Rs 3174 bn


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Synoptic View of the mandatory schemes

EPF[1952] EPS[1958] EDLI[1976]

Accumulation plus interest

upon retirement,resignation,death.

Partial withdrawals

allowed for specific

expenses such as houseconstruction, higher

education, marriage, illness

Monthly benefits for

superannuation /retirement,disability,

survivor, widow(er),

children.

Amount of pension based

on the average salary

during the preceding

twelve months from the

date of exit and total years

of employment.

Minimum pension on

disablement.Past service benefit to

participants of Family

pension Schemes 1971

Provides lump sum benefit

upon death while in service,

Equal to average balance in

the EPF account during the

preceding 12 months of

death if average balance is

less than Rs.35,000

In case of average balance

exceed Rs 35,000 amount

paid will be Rs.35,000 plus

25% of average balance in

excess of Rs, 35,000 up toRs.60,000

Note:EPF:Employees provident Fund Scheme,,EPS:Employees Pension Scheme,EDLI: Employees Deposit Linked Insurance Source: 50thannual Report EPFO-2002-2003,pp9,Ministry of Labour, GoI, New Delhi


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Funding of Mandatory Schemes

Items

Contributions

[as % of wages]

EPF[1952] EPS[1995] EDLI[1976] Total Contribution

Employer

Employee

Government

3.67[175industries]

1.67[5 industries]

12[175 industries]

10[5 industries]

Nil

8.33%

Nil

1.16%

0.5

Nil

Nil

12.5[175industries]

10.5[5 industries]

Total Funding 15.67[175industries]

11.67[ 5 industries]

9.49 0.5 25.66[175 industries]

21.66[5 industries]

Administrative

Charges by

employer:un-exempted[%of

wages]

1.1 Paid out of

EPS fund

0.01

Inspection Charges

by

Employer:Exempte

d[%of wages]

0.18 N/A 0.005

Note:Jute,Beedi,Brick,Coir other than spinning sector,and Guar Gum are the five industries.Source:50thAnnual Report, EPFO,2000-2003,pp9.Ministry of Labour, GoI,New Delhi


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Voluntary Schemes

Public Provident Fund [PPF]

LICs Pension Plans

--Jeevan Dhara

--Jeevan Akshay

--Jeevan Suraksha etc UTI Unit Linked Plans

Personal Pension Plan of Private Life Insurers

[HDFC , ICICI, ING, METLIFE, etc]

Varishta Bima Yojana

LICs group superannuation plans

Tax exemption up to Rs 10,000 of contribution


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Social Assistance schemes

National social assistance programmes

--National Old Age Pension Scheme(NOAP)

Annapurna Scheme

Pension for freedom fighters


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Other Traditional Arrangements

Joint family System

Transfers from children / family Community based old age homes/ charity

Continuity in work after retirement


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Problems with the Indian pension system

Population aging

Narrow coverage

Inequity

Underperformance of provident funds Rising financial burden of public schemes

Government control


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Government Pensions--Issues

Central Govt. Pensions 1990-91 to 2001-2002 by

a CAGR of 21%.

Dependency Rationearly 60%

Replacement Ratio [If Pension/gratuity/GPF iscombined]more than 100%

States Pension as share of total revenue increased

from 2% to 11% during 1980-81 to 2001-2002

During 1995-2000 State pensions grew at 30%

Revenue Grew at 11% expenditure at 15%


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Mandatory Schemes--Concerns

Administered interest rate

Real Rate of return inadequate [1986-2000: 2.7%]

Prescriptive investment norms--90% inGovernment /Public Sector securities

Significant withdrawal and less final sum

Portability--difficulties

Asset management skills need enhancement


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Emerging Trends--Economic

Indiaone of the fastest growing Economies

Growth Rate more than 6% annual [last decade]

Current fiscal[2003-2004] to grow at 8.1%[advanced estimate

CSO]

Poverty Ratio declined from 55% to 24% [1973-74 to 1999-2000]

65% of Household have at least one of the six consumer durable [Radio,TV,Telephone,Cycle,Scooter,Car]

Savings Ratearound 24%

Household saving 90% of Savings

Provident and Pension funds 24% of household Financial savings

12.8 mn. Households[ 19 mn.individuals]8% of all households

invest in shares/bonds


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New pension products: Design issues

Income of the self employed is volatile and hence flexiblecontribution with minimum annual contribution

Tax deductible contributions be related to age

Carry forward benefits

Pension products in combination with insurance products

would fund the needs of the dependents

Withdrawal facility on premature retirement / disability

Investment of the funds based on life cycle model

Portability of the pension scheme


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Expansion of pension coverage

Structure of the voluntary pension market

Voluntary retirement benefit schemes available to the self-

employed sector are more like tax savings schemes

No contribution by the government for the retirement benefit

schemes of this sector

Schemes are not addressing the needs of the self-employed

No tax benefit to the firm for contributing to apartnerspension benefits

No past service benefit

No carry forward of the benefit to the subscriber

Investment norms of funds are skewed towards government and

semi-government securities


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@Prof R Vaidyanathan iimb 35

Policy Options

Reforms in Govt. Pension system[Initiated--from DB to DC for post 1-1-04 entrants,

PFRDA, State Level Reforms etc]

Reforms in Mandatory Schemes

[Initiated: returns/management/national id/

computerizations etc]

Enhancing the coverage [ Pilot scheme started in

fifty centers for unorganised sector] Leveraging on Gold [Voluntary Schemes]

Pension --Issues and Concerns.

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