New Delhi: The issue of the old pension scheme (OPS) versus the new pension scheme (NPS) has again dominated the news with the Reserve Bank of India cautioning states against switching back to the old scheme, saying it represents a big financial risk.
Recently, the Congress-led Himachal Pradesh restored the OPS – which was one of its major poll promises in the run-up to the assembly elections – saying that the decision was made “based on social security and humanity”.
Rajasthan, Chhattisgarh and Punjab – the Congress is in power in the first two and the Aam Aadmi Party in the latter – are the other states where the OPS is being rolled out for government employees.
The OPS, under which the entire pension amount was given by the government, was discontinued by the National Democratic Alliance government in 2003 from April 1, 2004. However, the military, i.e. Army, Navy and Air Force was excluded from the new pension scheme.
Why is RBI cautioning states against switching back to OPS?
According to the central bank, OPS increased the government’s liability. In short, the OPS puts the burden of employees’ pensions on the states, risking their financial security. Whereas, returns in the new pension system are market-linked, and involves contribution from both employers and employees.
“A major risk looming large on the sub-national fiscal horizon is the likely reversion to the old pension scheme by some states. The annual saving in fiscal resources that this move entails is short-lived. By postponing the current expenses to the future, states risk the accumulation of unfunded pension liabilities in the coming years,” RBI said in a report, according to the Hindu BusinessLine.
According to the Indian Express, in 30 years, the cumulative pension bill of states has jumped to Rs 3,86,001 crore in 2020-21 from Rs 3,131 crore in 1990-91.
The newspaper reported that overall, pension payments by states eat away a quarter of their own tax revenues. For some states, it is much higher. For Himachal Pradesh, it is almost 80% (pensions as a percentage of the state’s own tax revenues); for Punjab, it is almost 35%; for Chhattisgarh 24%; and for Rajasthan 30%.
However, Himachal Pradesh chief minister Sukhvinder Singh Sukhu said that the affordability of OPS expenditure will be achieved through financial discipline and cutting down on government expenses.
In its report, the RBI also said that for 2022-23, states’ expenditure for interest payments, administrative services and pension is expected to increase marginally.
OPS vs NPS
Under the OPS, retired employees received 50% of their last drawn salary as monthly pensions.
However, NPS is a contributory pension scheme under which employees contribute 10% of their salary (basic + dearness allowance). The government contributes 14% towards the employees’ NPS accounts.
In the OPS, it’s predetermined how much pension an employee will get linked to her last drawn salary and length of service. NPS, on the other hand, is a market-linked savings product that has a defined contribution.
NPS allows an individual to invest in three types of funds – safe, or conservative (allowing up to 10% investment in equity), balanced, or moderate (up to 30% in equity), and growth, aggressive (up to 50% in equity). The balance would be invested in corporate bonds or government securities. The volatility of NPS is usually compensated by the debt segment of the National Pension System.
Annuity in the NPS allows employees to receive continuous income in later years after retirement.
For example, in the case of OPS, if a government employee’s basic monthly salary at the time of retirement was Rs 10,000, she would be assured of a pension of Rs 5,000. Additionally, the monthly pension increases with hikes in dearness allowance announced by the government for serving employees.
Dearness allowance is calculated as a percentage of an Indian citizen’s basic salary to mitigate the impact of inflation on people.
Dearness allowances are revised twice a year, effective January 1 and July 1. A 4% dearness allowance hike would mean that a retiree with a pension of Rs 5,000 a month would see her monthly income rise to Rs 5,200 a month.
However, in the case of the NPS, the pension benefit is determined by factors such as the amount of contribution made, the age of joining, the type of investment, and the income drawn from that investment.
Private employees can also choose to contribute to NPS.
For example, if your current age is entered as 35 and the retirement age is 60, then the total investing period will be 25 years. Your monthly contribution towards NPS can be as low as Rs 1,000. The interest earned is on a monthly compounding basis.
Government employees make a monthly contribution at the rate of 10% of their salary and a 14% contribution is paid by the government.
Who wants OPS to be restored?
In November last year, a federation of Union government employees’ unions had written to the cabinet secretary asking for the OPS to be restored, saying that the NPS is a “disaster for retired employees”, according to The Hindu.
“It is amply clear that the NPS employees despite their contribution of 10% of their wages every month for their entire service is getting only a very meager pension and are worse off vis-à-vis the OPS. The pension under NPS remain static and there is no dearness relief to compensate the price rise /inflation as available in the OPS,” the letter said.
The letter cited examples of officials who were not receiving their promised pension amounts because of the switch to the NPS.
For instance, a defence establishment official who recently retired after more than 13 years of service received only 15% of the assured pension he would have gotten under the OPS. “Under the NPS, the official with a basic pay of Rs 30,500 received Rs 2,417 as monthly pension as against the Rs 15,250 pension he would have been given under the OPS.”