Let’s not superannuate the superannuation programme
A recent terminal illness of an aged relative at home made me learn a few facts of our times. While the learning from facing sorrow and despair bear mention in a different space, the oft repeated reality of near-prohibitive costs of fighting a terminal illness and palliative care were there for me to see.
Something I read recently gave me added perspective. A study by the consulting firm Willis Towers Watson (WTW) threw a startling outcome. WTW found that across age segments, employees believed that their employer retirement plans (read provident fund, gratuity, superannuation and the NPS) would be the primary source of income post retirement. It also found that 78 per cent of employees felt they needed to save more for retirement.
In simple terms, while our potential expenses (admittedly, contingent ones) mount, our savings aren’t sufficient. Which is why I wonder why a government that seeks to ‘pensionise’ our society is imposing tax restrictions to contributions on certain retirement plans? But I shall bury that thought now, for you have heard and read enough about tax on pensions these past few weeks.
In the storm that followed the taxation of EPF, a little thing went unnoticed—the proposed taxneutral portability of superannuation balances to the NPS. This is one of the positives of Budget 2016 in the pension space.
The superannuation fund is an employer-anchored pension programme that permits employers and employees to contribute to the individual superannuation account of an employee on a periodic basis. This account is maintained in a tax exempt Trust that is administered by the employer.
Contributions in a CTC era are typically employee contributions, but get positioned as employer contribution for taxation and compensation segregation purposes. The employee receives a combination of a lump sum (capped at 33 per cent of his superannuation fund balance) and pension (bought from the remaining 67 per cent of his superannuation fund).
The employee may opt for higher percentages of pension or a mix of lump sum and pension on resignation and permanent disability. He may transfer his fund to another employer’s fund if he is changing jobs. The tax treatment betrays the government’s belief that it is an elitist product.
Tax breaks are capped to an annual contribution of Rs. 1 lakh per employee in case of employer contribution. Earnings on the accumulations are tax free. The lump sum payment is tax free only when received on retirement, while the annuity is added to the income in the relevant year. In case of a perverse tax law, an employee who contributes more than Rs. 1 lakh per annum suffers taxation both on contributions and pensions. Typically, these funds are managed by insurers who invest in a mix of debt and equities.
Just when one thought that pension plans were out of vogue, there came along the corporate segment of the NPS. With significant similarities in design with the superannuation programme (non-mandatory, flexible contributions, annuitised and lump sum benefits), and lesser downsides (portability, minimal administrative engagement for the employer), it has become a sustainable alternative.
The proposed tax-neutral porta-bility of balances from superannuation programme to NPS will provide benefits to employees and employers. Here is how:
- It will minimise forced and premature annuitisation of superannuation programme balances that occur when employees switch jobs and the new employer does not maintain a plan
- It will minimise premature annuitisation when employers redesign superannuation plans and permit opt-outs
- It will permit consolidation of funds at the benefits stage. Employees tend to like a single source of annuity
So, is this the dirge of ‘fair’ superannuation? Not quite, I intuit. In a country where pensions mean different things to different people, an inexpensive, interest rate earning pension product that does not force the complications of asset allocation choice on an investor may have its constituency of followers. The government can do its bit by staying neutral and easing out taxation arbitrages. So, for the moment, let’s not superannuate the superannuation programme.
Superannuation plans owe their genesis to payroll and tax regulation that encouraged deferred compensation. They tended to be defined benefit in design and were largely offered to employees in white collared posts in higher grades. Their decline in popularity in the last 20 years, among employees and Compensation and Benefits Managers alike, can be attributed to the following:
- The transition of these plans from defined benefit to defined contribution plans resulted in the shift of investment risk to employees from employers
- An under-developed annuity market in India
- Hostile tax regulation; the fringe-benefit tax and the perquisite tax
- Employee preference to cash
- Employers’ hesitation to accept fiduciary responsibilities of running such programmes
- Limited portability resulting in forced and premature annuitisation
Amit Gopal is Senior Vice-President, India Life Capital