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Government pension reform was one of the most difficult and important reforms that had been undertaken. The National Pension System, popularly known as New Pension Scheme (NPS), emerged from that process which shifted all new central government employees to it from 2004, with state governments asked to follow suit. Private sector employees and even those in the unorganised sector had the opportunity to invest to create their own retirement corpus, in addition to existing social security schemes such as the EPF. Numerous incentives, including tax benefits, digitalization and promotion by banks were put in place to popularize NPS among citizens.

The central piece of NPS was that it would be a market-linked scheme with returns earned by an accountholder being used to generate a pension. The option to stick to debt or add equity-linked components was given, to be chosen by the accountholder. While government employees were unhappy at the prospect of that great evil –the market—determining their post-retirement benefits, the government persevered. The experience so far has been good. Returns earned by the schemes have been healthy and from an AUM and returns-generation point of view, the NPS has worked very well.

However, the one big question that could be answered only when the first batches of government employees under NPS attained the retirement age was, how much will the pension amount be as a percentage of the last drawn salary. Someone who joined the government at the age of 25 years in 2004 would be retiring in 2039 at the age of 60. Although that’s still 15 years away, retirement is swinging into view, particularly for those who may consider an early retirement. Disquiet on this front has been bubbling among government employees for some time and opposition parties have latched on to it, unmindful of the fact that both the NDA and the UPA were in favour of this pension reform, as pointed out in this article by Subir Roy that analyses the key issues involved.

The Unified Pension Scheme brings several protections for central government pensioners. The fact that it is linked to last-drawn pay and the pension amount is protected against inflation are perhaps the most important ones. That it will be an option for all existing employees and even those who may have retired while under the NPS means no one is left behind. To be fair, it’s not as bad (fiscally speaking) as the Old Pension Scheme which was a pay-as-you-go one, where the government paid pensions from its own pocket, akin to a salary expense.

But it’s not as good as the NPS either. The government has estimated the cost of UPS to be Rs 6,250 crore in the first year. This could be partly attributable to its contribution as a share of pay increasing from 14 percent to 18.5 percent and the additional amounts that may be required for those who may have retired under the NPS or will retire till March 31, 2025.

However, the real implications lie in the future when the retirements actually commence. Some news reports have pointed to actuarial assessment of future liabilities that will then be funded by the government. This will ensure there is no sudden shock, if implemented. State governments too may have to offer this UPS option, as the pressure from employees will be immense to do so. States could end up spending 13 percent of their revenues towards the UPS, according to this analysis by Ishaan Gera.

Much also depends on the architecture of the scheme as crucial details will emerge. As of now, the PFRDA-appointed pension funds manage the money and if that continues, then the schemes will continue to earn market-linked returns. If the market-linked sums are not enough to pay the pension as determined by the UPS calculations, then the funds set aside by the government will come into the picture.

Of course, UPS is optional and how much time employees have to choose between NPS and the new one also remains to be seen. In this article, Kayezad Adajania points to the pertinent issues government employees need to consider while deciding between the two schemes. But a TOI report, using data from UTI Pension Fund, says employees could get a pension that is higher by as much as 19 percent. And that does not even take inflation indexation into account.

Government employees may spend a lot of time in the run-up to the final date to choose between the two, evaluating how their salary trajectory will be till retirement, the returns earned so far in NPS and which one could work out better. They may also consider the fact that the NPS pays out a higher lumpsum since up to 60 percent of the accrued balance can be withdrawn with the rest getting converted into an annuity. Then there is the question of estimating interest rates -- which determine the annuity -- and inflation. It’s not going to be an easy task, but the lure of a guaranteed amount may be too much to resist.

However, there will be two sections of retirees, those who stayed in NPS and those who switched. Post-retirement over a longer period, say till the age of 80, empirical data on how each side fared should become available. It will be then that the relative attractions of both schemes will become clearer. The fiscal implications of offering the option will become clear in the coming years, assuming the government calculates its additional liability -- over and above the additional 4.5 percent contribution -- and provides for it in a separate fund. Otherwise, it will become known only in the year that the liability accrues. But this liability is likely to be a recurring one as the government will need to provide for inflation protection as well.

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Moneycontrol Pro