OPINION: It's a pension scheme, for God's sake!

The Union budget presented by Finance Minister Nirmala Sitharaman earlier this month had no surprises and hardly anything to applaud. It read out like a five-year expenditure plan; there was no mention about how the income would be generated to match the credit side of the ‘bahi khata’ that the finance minister carried to symbolise a paradigm shift of psyche. Unlike the usual stress on sectoral reforms and budget allocations for each, the speech sounded like a read-out of unorganised notes. It eased the tax burden on industries, promised support for startups, increased the cess on petrol and diesel by Re 1 and sang songs of optimism about attaining a 12 per cent nominal growth to become a $5-trillion economy in the next 5 years.

Of all the things mentioned in our finance minister’s rather poetic speech, two stood out for me on a personal level of interest and experience. First, the degree of leniency in startup valuations for tax purposes and second, about increasing the tax-free lump sum withdrawal limit (from 40 per cent to 60 per cent) of the National Pension Scheme. Though I believe incorrect startup valuation, funding them on that basis and tax relief on such valuations will be the root cause of the next Indian economic crisis, I will in this article, focus on the latter proposal.

It was in 2016 that our then finance minister Arun Jaitley proposed a tax on withdrawals of over 40 per cent of the Provident Fund corpus as a lump sum, and I had applauded it back then. It was not a populist announcement, but was a decision made in retrospect to improve Indian pension savings behaviour. 

India is an ageing country, with little to no pension savings. Read that again! The generational interdependence has been the pension strategy of almost all of India—parents earn and pay for their kids until they start earning, and in return, fund their parents in retirement. 

The lifestyles are changing, most often than not, the working-class heroes are not being financially able to fund the rising healthcare and urban living expenses of their parents. It is high time for Indians to save for their own retirement and not withdraw their provident fund and other pension schemes to fund their kids' marriages and study-abroad plans. 

Retirement savings or private pensions derived from the saved portion of income in the working years is a relatively new concept for India. A bulk of private sector employees, with no employer-provided pension, is reaching retirement, confused about what the future will hold for them. Neither do they have post-retirement jobs waiting, nor enough money to live without an earning. 

Pension savings and appropriate use of those savings is quintessential. It is a financial behaviour, which has to be built from the scratch. We cannot wait for people to experience and learn from it, a stick approach using taxation or penalties has to be devised. The National Pension Scheme (NPS) was introduced keeping the above in mind. It let participants invest as per their financial capacity; the funds were then invested in equity and debt instruments by various asset management companies at minimal charges to the investor. At normal retirement age (65 years), the investor was eligible to withdraw 40 per cent of the total accumulated amount as a lump sum without paying tax (one-time bulk amount) and the remaining had to be annuitised at normal tax slab rates (paid as a recurring pension at a desired frequency). 

In the most recent budget session, our finance minister, with a view to enable the pensioner have more disposable funds, increased this limit to 60 per cent. This, in many ways, defeats the sole purpose of the financial instrument. The lump sum withdrawn most often than not is used for the needs of the pensioners kin and the remaining value when annuitised is hardly enough for a single person to take care of his basic needs, let alone support a spouse and pay for expenses that are specific to old age. 

The flexibility of withdrawing more than half of the pension savings as a lump sum, provided to a majority of financially underinformed pensioner population, is in principle not the right way forward. In the short run, populist schemes adversely impact the long-term objective. While our country changes its outlook on retirement and pension savings, the regulators and the government together should have strict measures for compulsive compliance.

Yes, retirement is real and savings for the future years of no employment, compulsory!

(The author is a senior consultant with Deloitte in New York. The opinions expressed in this article are those of the author's and do not purport to reflect the opinions or views of THE WEEK.)