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Old pension scheme (OPS) versus new pension scheme (NPS) is a hot debate these days. Economic, social and political dimensions of the debate demands to have a good understanding of the basics and advance of the issue. We go Beyond the issue to learn: Why there is need to reform India’s pension system?
Relevance: Essential for Prelims, Mains and Interview. The debate finds its place in the syllabus of GS II (Welfare schemes for vulnerable sections of the population by centre and states) and GS III. Aspirants must have ready to use facts and points on this issue to substantiate their arguments in mains or personality test.
— The issue of the old pension scheme (OPS) versus the new pension scheme (NPS) has dominated news since a long time now. Some state governments recently announced their plan to implement the old pension scheme (OPS) by replacing the National Pension Scheme (NPS).
— In a written reply to a question by Asaduddin Owaisi of AIMIM, Bhagwat Kishanrao Karad, MoS Finance in Lok Sabha said that Centre has no proposal to restore old pension scheme.
MoS Finance in LS said, “The state governments of Rajasthan, Chhattisgarh, and Jharkhand have informed the Central government/PFRDA about their decision to restart old pension scheme (OPS) for their state government employees.”
According to npscra.nsdl.co.in,
— A pension provides people with a monthly income when they are no longer earning.
— Need for Pension:
1) One is not as productive in the old age as in youth.
2) The rise of nuclear family –Migration of younger earning members.
3) Rise in cost of living
4) Increased longevity
5) Assured monthly income ensures dignified life in old age
— Under the OPS, retired employees received 50 per cent of their last drawn salary as monthly pensions. NPS is a contributory pension scheme under which employees contribute 10 per cent of their salary (Basic + Dearness Allowance). The Government contributes 14 per cent towards the employees’ NPS accounts.
— In a nutshell, the detractors of the OPS argue that it is fiscally unsustainable — that is, governments in India do not have the money to fund it — while the detractors of NPS call NPS politically unsustainable — that is, it fails to address the felt needs of the people.
What was the Old Pension Scheme?
— Pension to government employees at the Centre as well as states was fixed at 50 per cent of the last drawn basic pay.
— Only government employees are eligible for receiving a pension after retirement.
— Income under the old pension scheme doesn’t attract tax.
What else you should know about OPS?
— The attraction of the Old Pension Scheme or ‘OPS’ — called so since it existed before a new pension system came into effect for those joining government service from January 1, 2004 — lay in its promise of an assured or ‘defined’ benefit to the retiree. It was hence described as a ‘Defined Benefit Scheme’.
For example, if a government employee’s basic monthly salary at the time of retirement was Rs 10,000, she would be assured of a pension of Rs 5,000.
Also, like the salaries of government employees, the monthly payouts of pensioners also increased with hikes in dearness allowance or DA announced by the government for serving employees.
DA — calculated as a percentage of the basic salary — is a kind of adjustment the government offers its employees and pensioners to make up for the steady increase in the cost of living.
DA hikes are announced twice a year, generally in January and July. A 4 per cent DA hike would mean that a retiree with a pension of Rs 5,000 a month would see her monthly income rise to Rs 5,200 a month.
As on date, the minimum pension paid by the government is Rs 9,000 a month, and the maximum is Rs 62,500 (50 per cent of the highest pay in the Central government, which is Rs 1,25,000 a month).
What were the concerns with the OPS?
i) The main problem was that the pension liability remained unfunded — that is, there was no corpus specifically for pension, which would grow continuously and could be dipped into for payments.
The Government of India budget provided for pensions every year; there was no clear plan on how to pay year after year in the future. The government estimated payments to retirees ahead of the Budget every year, and the present generation of taxpayers paid for all pensioners as on date. The ‘pay-as-you-go’ scheme created inter-generational equity issues — meaning the present generation had to bear the continuously rising burden of pensioners.
ii) The OPS was also unsustainable
a) Pension liabilities would keep climbing since pensioners’ benefits increased every year; like salaries of existing employees, pensioners gained from indexation, or what is called ‘dearness relief’ (the same as dearness allowance for existing employees).
b) Better health facilities would increase life expectancy, and increased longevity would mean extended payouts.
Over the last three decades, pension liabilities for the Centre and states have jumped manifold. In 1990-91, the Centre’s pension bill was Rs 3,272 crore, and the outgo for all states put together was Rs 3,131 crore. By 2020-21, the Centre’s bill had jumped 58 times to Rs 1,90,886 crore; for states, it had shot up 125 times to Rs 3,86,001 crore.
What was planned to address this situation?
OASIS project
— In 1998, the Union Ministry of Social Justice and Empowerment commissioned a report for an Old Age Social and Income Security (OASIS) project. An expert committee under S A Dave, a former chairman of SEBI and Unit Trust of India, submitted the report in January 2000.
— The OASIS project was not meant to reform the government pension system — its primary objective was targeted at unorganised sector workers who had no old age income security.
— Taking the 1991 Census numbers, the committee noted that just 3.4 crore people, or less than 11 per cent of the estimated total working population of 31.4 crore, had some post-retirement income security — this could be government pension, Employees’ Provident Fund (EPF), or the Employee Pension Scheme (EPS). The rest of the workforce had no means of post-retirement economic security.
— The OASIS report recommended individuals could invest in three types of funds — safe (allowing up to 10 per cent investment in equity), balanced (up to 30 per cent in equity), and growth (up to 50 per cent in equity) — to be floated by six fund managers. The balance would be invested in corporate bonds or government securities. Individuals would have unique retirement accounts, and would be required to invest at least Rs 500 a year.
— Post retirement, at least Rs 2 lakh from the retirement account would be used to purchase an annuity. (An annuity provider invests the amount and provides a fixed monthly income — which was Rs 1,500 when the report was prepared — for the remainder of the individual’s life.)
High-Level Expert Group (HLEG) under B K Bhattacharya
— A year-and-a-half after the Project OASIS report was submitted, the Ministry of Personnel, Public Grievances and Pensions set up a high-level expert group (HLEG) under B K Bhattacharya, a former chief secretary of Karnataka, to look into the situation for government employees.
— The HLEG suggested a hybrid defined benefit/ defined contribution scheme for government employees.
The report was submitted on February 22, 2002, but it did not find favour with the government.
What is NPS?
According to npscra.nsdl.co.in:
— NPS is an easily accessible, low cost, tax-efficient, flexible and portable retirement savings account.
— Under the NPS, the individual contributes to his retirement account and also his employer can also co-contribute for the social security/welfare of the individual.
— NPS is designed on Defined contribution basis wherein the subscriber contributes to his account, there is no defined benefit that would be available at the time of exit from the system and the accumulated wealth depends on the contributions made and the income generated from investment of such wealth.
“The greater the value of the contributions made, the greater the investments achieved, the longer the term over which the fund accumulates and the lower the charges deducted, the larger would be the eventual benefit of the accumulated pension wealth likely to be.”
— Simply put, under the old system, pension was fixed as 50 per cent of the last basic salary drawn, along with other benefits. Hence, the benefit due was defined beforehand. However, in the case of the NPS, the pension benefit is determined by factors such as the amount of contribution made, the age of joining, type of investment, and the income drawn from that investment.
— Resident as well as non-resident Indians in the age group of 18-60 years (as on the date of submission of NPS application) can invest.
— Over the last eight years, the NPS has built a robust subscriber base, and its assets under management have increased. As on October 31, 2022, the Central government had 23,32,774 subscribers, and states had 58,99,162 subscribers. The corporate sector had 15,92,134 subscribers, and the unorganized sector 25,45,771. There were 41,77,978 subscribers under the NPS Swavalamban scheme. The total assets under management of all these subscribers stood at Rs 7,94,870 crore as on October 31, 2022.
Who is the regulator for NPS?
— PFRDA is the regulator for NPS. Pension Fund Regulatory and Development Authority (PFRDA) is an Authority set up by the Government of India through the PFRDA Act 2013 to promote old age income security by establishing, regulating and developing pension funds to protect the interest of subscribers to schemes of pension funds and for matters connected therewith or incidental thereto.
What is Annuity?
— An annuity is a financial instrument which provides for a regular payment of a certain amount of money on monthly/quarterly/annual basis for the chosen period for a given purchase price or pension wealth. Simply put, it is a financial instrument which offers monthly/quarterly/annual pension at a specified rate for the chosen period.
— The onus of purchasing the annuity plan from approved pension providers is on the employee under NPS. At the time of retirement, employees are required to purchase an annuity plan for a monthly pension with a minimum of 40 per cent of the accumulated corpus. The employee can withdraw the remaining amount as a lump sum.
What are the tax benefits of NPS?
The various Tax benefit as under:
A. Employee Contribution: Deduction upto 10 per cent of salary (basic+ DA) within overall ceiling Rs.1.50 Lakh u/s 80C.
B. Voluntary Contribution: Deduction upto Rs.50,000 u/s 80 CCD(1B) from taxable income for additional contribution to NPS.
C. Employer Contribution: Deduction upto 10 per cent of salary (Basic + DA) from taxable income u/s 80 CCD(2). This is over and above the limits u/s 80C.
It should be noted that NPS generates market-linked returns without any assurance of returns. OPS provides it by basing the monthly pension on the last salary drawn by the employee.
Why the shift to NPS was undertaken?
The shift to NPS was undertaken due to concerns over the coverage, sustainability, and scalability of the old pension framework. As per research carried out in the early 2000s, India’s implicit pension debt, owing to central (civil) employees, state government employees and the funding gap of the employees pension scheme, was reaching unmanageable, unsustainable levels. Moreover, this framework only benefited a tiny portion of the total labour force.
— Considering that the rationale to shift to the NPS revolved around the need to manage the government’s pension liabilities, states with limited fiscal resources at their disposal must ask themselves whether they can provide for such a scheme?
— The availability of funds for such a scheme when seen against competing demands that range from the provision of health and education facilities, public transport and infrastructure among others, would suggest otherwise.
— In 30 years, the cumulative pension bill of states has jumped to Rs 3,86,001 crore in 2020-21 from Rs 3,131 crore in 1990-91. Overall, pension payments by states eat away a quarter of their own tax revenues. For some states, it is much higher. For Himachal, it is almost 80 per cent (pensions as a percentage of the state’s own tax revenues); for Punjab it is almost 35 per cent; for Chhattisgarh 24 per cent; and for Rajasthan 30 per cent.
— If wages and salaries of state government employees are added to this bill, states are left with hardly anything from their own tax receipts. Funding a small number of former government employees by utilising a chunk of taxpayers’ money cannot be good politics.
— There is also the larger issue of inter-generational equity. Today’s taxpayers paying for the ever-increasing pensions of retirees, with Pay Commission awards almost taking the pension of old retirees to current levels, means the pension of someone who retired in 1995 may well be the same as that for someone who retires in 2025.
As it is, the current generation of taxpayers are not only footing the pension bill of those who joined government service before 2004, they are also contributing to the 10 per cent contribution the state governments have been making for those who joined from January 1, 2004.
— Then there is also their current fiscal position to contend with. State government debt has risen from 26.3 per cent of GDP in 2019-20 to 31.2 per cent in 2021-22 (budget estimate). This will need to be brought down to manageable levels. States will also have to contend with the GST compensation cess ending in its current form in the coming year. Shifting back to the old pension scheme will only further increase the burden on the state exchequer — as per RBI, the total pension expenditure of all states put together stood at Rs 3.86 lakh crore in 2020-21 (BE). Hence, states must desist from such fiscally unwise moves.
Udit Misra writing in The Indian Express helps us understand how to think about a pensions system in our country. He draws our attention to a working paper titled “Public Expenditure on Old-Age Income Support in India: Largesse for a Few, Illusory for Most” by Mukesh Kumar Anand and Rahul Chakraborty of the National Institute of Public Finance and Policy.
Some Key takeways are-
1. According to the World Economic Forum: “For the first time in human history, people aged 65 and over outnumber children aged five or younger”. And while this stress may be less for a country such as India, which has a relatively younger population profile, there is such a thing as longevity risk.
Longevity risk points to a scenario where rising life expectancy could result in pension and insurance companies needing more cash because people are living for longer than anticipated.
In this context, merely obsessing over the nitty-gritty of OPS and NPS makes one miss the forest for the trees.
2. Where does India’s pension system stand in a global context?
Mercer CFA Institute Global Pension Index
The 2022 edition of this index ranks India’s pension system at 41 out of the 44 countries it considers. That’s a low rank but it is also important to note that India has consistently ranked low on this index even when only 16 countries were analysed in 2011.
A quick look at the average score of 44 countries suggests that the pensions regime in India is nowhere near adequate, remotely sustainable and scores relatively low in integrity.
3. What are some highlights about the gross inadequacy of India’s pension architecture?
a) At least 85 per cent current workers are not members of any pension scheme, and in their old age likely to remain uncovered or draw only social pension
b) Of all elderly, 57 per cent receive no income support from public expenditure, and 26 per cent collect social pension as part of poverty alleviation
c) 11.4 per cent of the elderly draw defined benefit as government ex-workers (or their survivors), cornering 62 per cent of system expense.
d) The system for old age income support entailed 11.5 per cent of public expenditure, and sub-national governments bear more than 60 per cent. So, 60 per cent of the expenditure burden for pensions is on state governments.
e) Contributory program funds invested in government paper soak up 40 per cent of all interest payment of sub-national governments
Udit Misra concludes, “India’s pensions system is in a dire need of a reform and that doing so will be both good politics and good economics. Of course, merely fluctuating between OPS and NPS is not a reform. OPS was problematic on the count of sustainability while NPS may not only appear hugely discriminatory — at least to officers belonging to the same service but different generations — but might also suffer from inadequacy.”
(Sources: npscra.nsdl.co.in, The need to reform India’s pensions system, beyond the OPS-NPS debate by Udit Misra, Why the Old Pension Scheme is both bad economics and bad politics by P Vaidyanathan Iyer.)
Point to ponder: Shifting to the old pension scheme would be fiscally imprudent. Do you agree?
MCQ:
Which of the following statements is not true with respect to NPS?
a) The shift to NPS was undertaken due to concerns over the coverage, sustainability, and scalability of the old pension framework.
b) PFRDA is the regulator for NPS.
c) Only government employees are eligible under NPS.
d) The NPS proposed by the Project OASIS report became the basis for pension reforms.
Share your views, answers and suggestions in the comment box or at manas.srivastava@indianexpress.com
