India's Pension Funds Require A Key Structural Reform

India’s retirement security system has evolved in a fragmented and non-coherent manner over many decades, with different organizations responsible for administering different social security schemes for different groups of Indians. This legacy issue has made the task of reforming India’s retirement arrangements more complex.

India is set to experience moderately rapid ageing of the population. According to the United Nations, the number of over 65 years of age population in India will increase from 48 million (4.5 percent of the population) in 2000 to 256 million in 2050 (15.0 percent of the population). Those over 80 years of age are expected to increase from 13.3 million in 2020 (1.0 percent of total population) to 43.0 million (2.6 percent of the total population) in 2050. This is a 323 percent increase, as compared to about 250 percent increase in the over 65 population, which will be 256 million in 2050. This is not only a large number, but it signifies a moderately  rapid pace of ageing.

To better manage the ageing process, reforms of design, regulatory arrangements, investment expertise, and management information systems of various components of the retirement income security systems are essential. Good progress in this direction has been made, by the PFRDA (Pension Fund Regulatory and Development Authority) and the NPS Trust (National Pension System Trust). The EPFO (Employees Provident Fund Organization), which administers social security schemes for private sector employees, has made modest progress, but there is substantial scope for undertaking both process and structural reforms of the EPFO.

Superannuation benefits are provided by employers to eligible employees (most commonly to management level staff) during their working years. At retirement, an employee can withdraw accumulated funds either as a lump sum or purchase an annuity.

Gratuities are mandatory for companies, public sector, or private sector, employing more than 10 persons under the Payment of Gratuities act 1972. Financially well managed companies make provisions for meeting these liabilities by building necessary corpus to meet the liabilities which are paid in lump sum. Often, specialized financial institutions such as the LIC (Life insurance Company) of India, are given the mandate to manage the gratuities pool. Gratuities are a part of the Cost to Company (CTC) of the employee.

Under the current arrangements[MA1] ,  companies and corporations receive permission to set up a trust for superannuation funds from the income Tax authorities. Such a permission enables the employees and employers to avail the applicable generous income tax benefits. But income tax authorities have neither incentives nor competence to supervise these funds on a longer term basis.

But once the initiation permission from the tax authorities is obtained, there is no subsequent regulatory supervision of these funds. This very decentralized mode has meant that there is no aggregate data on the number of superannuation funds, their assets under management (believed to be significant), investment patterns, returns obtained, cost of administration, and governance structures of the Trusts set up for superannuation plans.. These in turn create transparency and accountability gaps in superannuation.

A similar pattern is observable for Gratuities. Again, the number of funds is large, amounts are significant, and there is no regulatory or supervisory authority. Gratuities being mandatory in law, it must be paid, but there is no data on whether legal provisions are being followed.

Bringing superannuation funds and gratuities under the purview of PFRDA and the NPS Trust will have several advantages. First, it will bring scale to their administration, potentially reducing administrative and investment management costs. Small savings in these costs would have a disproportionately large impact of accumulation of balances.

Second, the proposed shift will provide a significant addition to the Assets Under Management (AUM) of the NPS Trust, permitting greater diversification of investments, with better risk management and higher return. As of April 30, 2024, AUM of NPS trust was INR 11.48

trillion (3.91 percent of India’s 2023-24 GDP). The five-year NPS Trust returns (as on May 17,2024 on assets as on 30 April 2024, were 18,48 percent on Equity plans; 7.72 percent on Government Bond Plans; and 8.05 percent on Corporate Bond Plans.

Third, this proposal will provide greater degree of confidence to the covered employees that the benefits to which they are entitled will be met.

It is strongly urged that the Superannuation Funds and Gratuity Funds be brought under the purview of the PFRDA and the NPS trust as soon as feasible. If changes in legal and other provisions are needed, they should be undertaken.

To help manage these additional statutory responsibilities, the PFRDA and NPS should be given additional financial and human resources with requisite skills-sets. For greater transparency and accountability, the PFRDA should be required to develop appropriate dashboards with KPIs (Key Performance indicators), which are regularly published and made publicly available.