The Employees? Provident Fund Organisation (EPFO) operates the most expensive government securities mutual fund in the world, at a cost of 446 basis points?employers are required to pay expenses of 1.16% of salary or 4.46% of contributions. This means EPFO costs 10-20 times more than any public or private government securities mutual fund in the world. Why? Because EPFO is a monopoly that does not have clients, but hostages. How? Because it makes employers pay a separate cheque for expenses directly into its own account so that these costs do not show up in?or reduce?individual accounts.
The question for public policy around EPFO is not private or public, but competition versus monopoly. The monopoly of EPFO on employer pensions has made it expensive, unresponsive and poorly governed. When the world was moving away from defined benefit pensions because of sustainability, it carved out part of well-designed defined contribution plan into the Employees? Pension Scheme (EPS) in 1991. When employers objected that EPS was poorly designed and unsustainable, EPFO used questionable actuarial assumptions to get them thrown out of the Supreme Court. The current deficit in EPS is being partly met by unfairly and unilaterally reducing benefits, but a government bailout will be required. More than 50% of the 5.87 crore EPFO accounts are orphans?people who have paid into the system but are not claiming their balances?because of poor administration, arrogant customer service and weak IT plumbing. The weak IT plumbing means that, last year, one of India?s largest IT companies received individual EPFO balance statements without the interest computation! During years of low interest rates, EPFO credited an above-market interest rate from questionable reserves because the EPFO governing board and trustees chose the interests of older participants over younger ones. The EPFO board not only fails the ?prudent man? rule, but does not have sufficient pension or financial expertise and overly?and unfairly?focuses on headline interest declaration and coverage. EPFO gladly and strongly uses its powers over exempt provident funds as judge, jury and prosecutor by hardly granting new permissions to companies to form provident funds and making life miserable for existing ones. Life is understandably tough when your regulator and competitor is the same entity!
The recent Budget was short on a strategic vision for a pension policy. It did not extend an artificial deadline for exempt provident funds to get exemptions, that is, a child of the income tax department wanting to pass the buck for regulating company-operated provident funds to the EPFO, who believes that exempt trusts should not exist. A much-expected provision for portability and tax parity between defined contribution superannuation funds and NPS?both are designed to delivery annuities at the end of accumulation?did not happen and will accelerate the exponential decline of superannuation plans.
What India needs is a deep debate on a strategic pension policy. This debate must be informed by the outcomes of a flurry of pension activity in the 1990s; the civil service moved away from defined benefits, nuking the tax treatment of superannuation funds, carving out EPS from EPFO, the abuse of power by EPFO trustees to pay out money that did not exist or was not earned, and the still-born launch of NPS. This debate should start from first principles, like the role of employer-based pension in a CTC (cost-to-company) world, the sustainability of defined benefit plans like EPS and examine possible ways for an orderly sun-setting of that man-made disaster, breathing life into NPS, fixing governance and creating competition for EPFO and much else.
I?d like to make the case that an important thought shift for pension public policies is recognising the new world of employer benefits in a CTC framework for compensation. CTC means that benefits are fully monetised. India?s high mandatory salary confiscation of almost 38% (EPFO, EPS, EDLI, Gratuity, PT, LWB, etc) does not increase gross salary but reduces the take-home salary. This has important implications, because the view that these payroll deductions are poor value for money leads to an employee push-back for informal employment. While India?s inflexible employment contract law breeds informal contracts, an important individual motivation of informal employment is that the gross salary is equal to the net salary. This is why four employment variables?12% manufacturing, 58% farm, 50% self-employment and 90% informality?are the same in 2011 as they were in 1991.
EPFO is not going to cut the tree it is sitting on. The only viable way forward is systemic reform from the outside, which separates EPFO?s regulatory role from its administrative one. System-wide costs of EPFO alone justify making EPFO?s administrative arm compete for employer funds against exempt funds, NPS and a panel of mutual funds. If we need to protect employees from their own myopia?a patronising approach in my view, but widely prevalent?we could mandate that EPFO individual contributions could only go into government security mutual funds. Finally, moving away from an employer-based system to ?backpack benefits? that are linked to individuals would increase portability, transparency and formal employment. Pension policies are decisions with long shadows. Time to reverse the dark shadows cast by EPFO.
The author is chairman, Teamlease Services