For a long time now the disparity of income between the rich and the poor in most countries of the world has been growing. Rivers of ink have been spilled over in studying the causes and effect of growing inequality from political, economic and social perspectives. Every government's decision making abilities (especially in a developing country) are often found at the crossroads of either taxing the rich more or spending more on the poor to drive them out of poverty, in an attempt to equally distributing income and finance amongst all income earning classes. More than distribution per se, the focus of developing economic states is gradually shifting towards the creation of more income generation and accessible finance opportunities in ensuring equity. The society in a developing economy somewhere must trust the government in acting for everyone's welfare.
The trouble comes when the government tries to do too much with its economic planning strategy and ends up coercing with an individual's freedom to make independent financial decisions. A reference in the current context can be drawn here to the Indian government, which had recently proposed an Employee Provident Fund (EPF) withdrawal tax in its budget. Albeit, after an uproar from all ends of the salaried class, the government has rolled back the proposed decision but not many know that now one can only partially withdraw the accrued provident fund corpus before retirement.
As per the new rule notified by the Ministry of Labour and Employment, "if a person after being unemployed for two months or more, wishes to withdraw money from the EPF account, he or she can only withdraw his or her own total contribution and interest earned on it". Thus, the employer's contribution and the interest earned on it can only be withdrawn after one reaches 58 years of age. The question arises, is the government confusing the purpose of EPF to entirely serve as a pension scheme? And is it okay for a government to mandate a policy of partial withdrawals against an individual's own savings?
The Employee's Provident Fund Organization (EPFO) was formed in March 2, 1952 as a statutory body of the Government of India for administering a compulsory contributory Provident Fund Scheme, named, EPF (Employee Provident Fund). Since then the EPF has been a popular retirement saving instrument for India's burgeoning middle income salaried class. An employer's contribution to the EPF is included in the cost-to-company (CTC) remuneration package that is offered to an employee. While the EPF scheme is compulsory only if an employee's salary is less than Rs 15,000, most of India's salaried class remains covered under the same. This is because once you have opted for the EPF and become a member under the scheme, an employee cannot opt out of it until the cessation of employment.
Every month, an employee, thus, contributes 12% of his salary to his/her EPF account while the employer matches former's contribution by paying 12% of his salary split between the EPF (3.67%) and pension fund (8.33%). The interest rate is declared by the EPFO every year, the present being 8.8% per annum. A higher rate of interest with tax deductions under section 80C of the Income Tax Act, 1961, to the extent of Rs 150,000 makes it a lucrative offer. In addition to this, PF entitles for Pension too. The 8.33% of the employer's contribution goes to EPS, which over the years can turn into a corpus for the pension. Presently, it has more than 3 crore active subscribers.
The new rules allow an employee to withdraw his contribution and the interest on it before retirement, but the employer's contribution remains locked till the age 58. The issue that surfaces here is to what extent can the state or a government coerce on an individual's right to withdraw his own savings (after being unemployed from a given place of work). Incentivizing savings via pension schemes, giving higher interest rates on savings or increasing tax exemption limits to encourage more household level savings makes much more sense than circumscribe the individual's ability to withdraw and spend his money.
On the government's decision to mandate partial withdrawals of accumulated EPF corpus, Finance Minister Arun Jaitley defended his decision with two different arguments. Both of much require much scrutiny. In presenting his first argument Jaitley said, "the policy objective is not to get more revenue but to encourage the people to join the Pension Scheme" i.e. the government seeks to establish a parity between NPS (National Pension System) and EPF but this view to ignore how fundamentally different both of these schemes are.
Under the NPS one can save more with a great degree of flexibility while the EPF offers a straightjacketed line of contributions (matched by the employer) which the former does not. As per the amendment in tax provisions in the 2015 Budget for FY 2015-16, on a voluntary contribution to NPS, the person becomes entitled to an additional benefit of Rs 50,000 under section 80CCD(1B) which would be over and above the ceiling limit of Rs 150,000. It would be ideal for the government to keep pension savings differently targeted and accounted for viz a viz an individual's provident fund savings.
The second argument offered by Jaitley showcases his concern about people spending the whole lump sum of their savings via EPF while not investing it in annuity products. But the discretion on what to save and what to spend must lie with the individual and not thrusted upon as a policy measure by the government. At times of personal emergencies, the Indian middle class has often depended heavily on the EPF savings for meeting unforeseen expenditures especially considering not many have the resources to invest in real assets for long term gains.
Even though there is a dire need to move to a pensioned society, still coercive policies will only make it difficult for a government in a democratic state framework to survive. Incentivizing investment by offering higher rates of return is a much better strategy that offering higher rates of interest on dormant EPF accounts with locked in savings of people done by a mandatory way. Investment in Annuity in India has been rather a poor investment because of low returns attached with them. Moreover, India's tax system which is heavily dependent on an indirect tax base structure offers little in terms of increasing a salaried person's real income.
If contested in the court of law, it seems quite possible that the government may be asked to revise or probably roll back its decision on imposing partial withdrawals of EPF considering a libertarian breach caused to a salaried citizen's freedom to choose.
In times of increased globalization and economic integration amongst countries, it is important for national governments to be less interventionist in functioning as "visible hands" to guide the "invisible" market forces for greater economic prosperity and welfare.
(Maryada Ganeshgarhia, a master's student of diplomacy, law and business at the Jindal School of International Affairs, contributed to this article)
Guest Author
Deepanshu Mohan is an Assistant Professor of Economics and Assistant Director of the Center on International Economic Studies at the Jindal School of International Affairs, O.P.Jindal Global University
