The State Capacity Initiative at the Centre for Policy Research (CPR)’s talk series titled: ‘Know Your Regulator’ is held in collaboration with the National Council of Applied Economic Research (NCAER), the Forum of Indian Regulators (FOIR) and the Indian Institute of Corporate Affairs (IICA). In this talk series, we are talking to chairpersons and members of India’s regulatory agencies about regulation of Indian markets and the economy.

Our guest for the fifth event in the series was Mr. Supratim Bandyopadhyay, Chairperson, Pension Fund Regulatory and Development Authority (PFRDA).

He was in conversation with Dr KP Krishnan, Former Civil Servant and Dr Abha Yadav, Associate Professor, Indian Institute of Corporate Affairs and Director of the Forum of Indian Regulators (FOIR) Centre at IICA.

Mr Praveen Kumar, Director General and CEO of the Indian Institute of Corporate Affairs and Ms Arkaja Singh, Fellow, State Capacity Initiative, Centre for Policy Research made introductory remarks.

Date: 21st January 2022

The background note on PFRDA can be accessed here. 

Conversation summary:

What were the problems that PFRDA was set up to address? How did it address these problems?

Serious conversation around the pension system, particularly the common pension system, started in mid or late 1990s. There were two reports – one by OASIS (Old Age Social and Income Security Project) and another by a High-Level Committee headed by Mr. B.K. Bhattacharya (senior civil servant) – that pointed out that the current defined benefit scheme is becoming unsustainable. The growth in pension bills, especially after factoring in defence pensions, were taking away large parts of revenue for both central and state governments. The political will of the leaders at the time enabled them to undertake strategic reform in the pension sector. Another thing that happened was the increase of 2 years in retirement age (58 to 60 years) in 1998.

The moment you go from an unfunded to a funded pension system (which is the basic difference between the earlier and the current system) – there has to be certain regulations, rules on fund management so that the benefits of employees are protected.

When we were planning this shift, we also thought about the unorganised sector, retail customers, and so on. So at that time, even though we started with the central government, and now all but two state governments have joined. Thereafter, we opened up to retail segment in 2009 and then to corporates as well. Today, the net addition from government sector has come down for obvious reasons while there is growth in contributions from the retail segment, corporates and unorganised sector. Hence, the purpose for which the PFRDA was set up is being fulfilled to a great extent, and unless we have platform to see that all subscribers, fund managers, data keepers are integrated, the purpose wouldn’t be served – hence we have ensured data security and robust connectivity between all intermediaries.

The PFRDA is a unique system because we work with 5-6 intermediaries, each of whom do different jobs. For example, pension fund managers only offer fund management service but don’t keep data. The PFRDA has a big role in ensuring the system works seamlessly and robustly.

Has PFRDA been pushed into a narrow box of looking after NPS, and should EPFO and other sectoral issues be brought under the PFRDA’s jurisdiction?

The birth of PFRDA was under some kind of a conflict – if you look at the pension sector, pension was already a part of IRDA’s domain and insurance companies are selling pension for over six decades. But pension is too serious a business to be left to different segments and regulators. There should be a single-point focus for pension.

Concerning gig workers, we had some discussion around a universal pension scheme, which has now received a mention in the Code on Social Security, 2020. This needs to be notified soon since gig workers really need pension today. Atal Pension Yojana is doing quite well, with 7 million new customers joining this year. While we are expecting around 10 million, the number we are actually looking at is 460-480 million, which is the number of people in the unorganised sector looking for some kind of old-age support. The question is: how do we reach out to them? There are self-managed superannuation products that don’t come under any regulator’s ambit. They get income tax approval and manage on their own. So we do not know whether contributions are made regularly, whether employee’s benefits are protected and if they get the right kind of payouts. So, in the long run, it will be prudent to place pension as a whole under one regulatory body.

Organisational structure of PFRDA

PFRDA is headed by a chairperson, and has three whole-time members (finance, economics, law). The board also has three part-time members, usually senior government officials nominated from the Department of Financial Services, Department of Personnel and Training, Department of Expenditure, and so on. We are supported by employees, all in the officer cadre. Currently our strength is 75-76 people, and we are in the process of recruitment. In two years’ time, we plan to have around 130-140 people, because certain activities like pension-related research, and we need separate inspection teams. We need presence in other regional centres, starting with Mumbai.

PFRDA currently has no independent or private members, but the  PFRDA Act does not prohibit this. The three part-time members can be anybody, including experts in their fields.

Regulatory method: elements of executive, adjudicatory and legislative functions

PFRDA has all three functions: legislative, executive and adjudicatory.

Under Section 52 of the PFRDA Act, we make regulations for all intermediaries – pension fund managers, central record keeping agencies, trustee bank, NPS trust (trust structure that manages the assets on our behalf).  The executive part is that we go for registration of entities, supervise and monitor their performance, audit and inspect them, determine their fees and charges. Through those inspections and monitoring systems, if we find breaches in regulations, we adjudicate under Section 30 of the PFRDA Act. We have the power to call for all their records, and if we find a breach we can impose penalties.

PFRDA has independence in these matters. Most of these decisions are with the board – the board is the final authority in this. The central govt comes into the picture to the extent that the benefits of central govt employees are concerned. For instance, three years back the government decided on the recommendation of the 7^th Pay Commission to increase their contribution from 10 to 14%. Further, PFRDA has no say in the CCS and NPS Rules, which comes from the Department of Pension and Pensioners’ Welfare. Apart from this, the government does not interfere with PFRDA’s independence in the above-listed functions.

Main features of the terms of engagement set by PFRDA between savers and the sellers of pension products

NPS is a given product, pension fund managers manage funds on our behalf. Points of presence (POPs) are distribution channels of this given product. PFRDA tries to ensure that there is transparency in the system, to ensure that whoever comes into the system will know what the costs are like. NPS is probably the lowest cost financial product not only in the country but possibly in the world as well. We can say this because we engage with many international organisations of pension supervisors. IOPS looked at our overall cost structure and told us that we were outliers. We’ve also looked at lowest cost jurisdictions across the world and we are far below them. So we give low cost benefits, lots of information and data and lot of flexibility to the customers.

One important thing that came out in the High-Level Committee report was the issue of portability: govt employees who had not rendered a certain number of years of service wouldn’t get pension, and wouldn’t be able to transfer this either. The biggest advantage that the current system has is portability. Regardless of whether you are in the govt or private sector or on your own, you will have your unique account. You’ll just have to pay Rs.1000 annually to keep the account alive.

On the issue of sustainability, we aim to make the operation of intermediaries sustainable. At regular intervals, we look into their cost structures. For example, we have rationalised the cost structures of central record keeping agencies. Now we are looking at the cost structures of POPs. In order to take NPS and APY to the masses, we are telling POPs now that they can induct individuals into the system as well. In April 2021, we rationalised the fund management charges of the pension fund managers because they were running into losses. We have had 3 new licenses being granted for pension fund managers since then (we had 7 earlier). So it’s fair play between subscribers and service providers.

Who are the key players in this system beside the employer, employee and pension fund? What is the role of state and central goverments?

Each job in this system is done by a group of experts.

• For example, we currently have 93 POPs – these are banks, NBFCs, and so on.
• We also have retirement advisors, though this hasn’t gone quite well. Now we are going into individual players in the distribution market.
• Central record keeping agencies (CRAs) keep the data of the customers, instruct banks (through which the money flows in) on which fund manager the money should go for investment. They are the central piece of the system. We currently have three – Protean E-Gov Technologies, KFintech and CAMS (they will start operation from next month).
• We have a single trustee bank – Axis Bank – that manages the entire fund, right from the POPs and customers, to the pension fund manager, based on the direction of the CRAs.
• Pension fund managers: There are 7 active ones and 3 licenses have been recently issued, so in the next 3-4 months they’ll be up and running.
• Annuity service providers: Today, in the Act, the only way of exit is through annuity. You can take back 60% of your corpus tax-free and 40% has to be converted into annuity. This conversion process is tax-free of course, but the annuity is taxable. We have about 14 annuity service providers, all of them being IRDAI-conferred entities. We have been looking at other pay-out products as well, and it is part of our proposed PFRDA amendment bill. If it comes through, it will give a lot of options to the retiring public who are subscribed to NPS.
• The nodal officers of governments are our intermediaries – they ensure that when the monthly salary is paid, the exact amount is deducted from the salary, and the contribution of the central/ state govt is added together and then sent to the system. Here, the biggest challenge we face is the delay: (i) not deducting in time; (ii) even if deduction happens, the money is not coming to the system in time. The system is very dynamic today: if you give the money today, it will get invested today itself; hence a delay of 20-30 days entails an opportunity loss. For the first time, in CCS-NPS Rules, a provision is brought in that if there is a delay there will be a penalty, including individual penalty. The proposed amendment bill also provides that the dues will be treated like any other statutory dues.

Justification for pensioners’ benefits being market-linked

Chairperson, PFRDA: The previous and the current pension schemes are not comparable at all. Firstly, no amount of contribution was required in the previous pension scheme. Secondly, retirement ensures a 50% replacement rate and is adjusted to inflation every six months, in the new scheme; recovery and wage rise with every pay commission also brings adjustments to old pension.

In a market-linked scheme, we monitor the performance of pension fund managers, we have strict investment guidelines with some scope for growth, and we ensure that they do not become too adventurous because these are retiree’s monies. Since 2009, we have managed the private sector as well, and over 13 years the CAGR under our equity scheme is 13.5%. Even corporate bond funds have given a CAGR of 9.72%, despite several corporate market events. The government bond performances are a little lesser, but that is around 9.3-9.4%, because the interest rates are hardening today. If you look over a period of time at blended return of an equivalent amount in equity, corporate bond and govt securities, it will still be over 10%. We have benchmarks in place and ensure that pension fund managers work close to them, and if there are huge deviations we hold them accountable. Financial markets have volatilities in the short term, but over a period of time we ensure that the right kind of securities are chosen for subscribers and they get a sizeable corpus.

Dr. KP Krishnan: This discussion takes us to the knife-edge job of the regulator, it is not the regulator’s job is not to ensure good returns to the subscribers but to ensure no malpractices and that the regulated entities act according to the prescribed behaviour, and a lot of the risks are to be taken by the informed investor. What you have brought out nicely is the difficulties in a pension situation where the choices are not necessarily exercised by the investor, so there is a dilution in the role of the investor, which then is performed by various actors.

On the issue of early withdrawals and annuitisation of the pension corpus: individuals tend to be less concerned about building a long-term corpus for themselves than society is.  How much of this should be done by the regulator and how much of this should be done by educating the public and letting individuals take a call?

The biggest challenge with annuity is that once you enter it you are stuck for a lifetime, whatever the rates may be. Whatever we see today are fixed rate annuities. There is no variable annuities in the market; it does not move along the interest rate scenario. Currently the annuity rates are varying between 5-6%, and this is normally for those asking for annuity and after death for the corpus to be refunded to the nominee. In Indian psyche, 90% people go for this – they feel that after they die it is their duty to give the corpus to close ones, regardless of whether they need it or not. They choose to trade off higher annuities for getting the money right after death. This is a big challenge in the system today.

So far as exits are concerned, the biggest complaint against NPS is that it discourages early access to the funds. But after considerable deliberation, we now allow three times partial withdrawal (25%) for the same reasons that EPFO allows – for construction of house, marriage of children, meeting medical costs, and so on. Beyond this, we do not allow withdrawal because as we have seen with EPFO, early access being freely accessible leads to depletion of corpus, culminating in a situation where a person gets no corpus on retirement. Since the system is for old age security, a substantial part of the corpus should be left at retirement.

The ideal view is that individuals have different instruments for different goals – NPS is not ideal for instance for medical costs or housing, but in a developing country there will be competing claims on limited amount of savings. In this context, what is the NPS doing for greater education of its customers?

PFRDA has training agencies in place and are involved in online training. For annuities, retirement and related matters, we have annuity literacy programs. For the last 2-2.5 years, we had around 30 sessions, with physical sessions before the pandemic; in Patna for instance, we had 300 people inside the auditorium and 500 outside. People have asked if they can contribute post-retirement. Now these sessions are conducted online, where 70% of the session is dedicated to audience questions. We also bring in pension annuity service providers, CRAs, fund managers.

Apart from this, we are trying to create an industry body. The NPS trust is already trying to do that, by bringing together fund managers, CRAs, POPs to create awareness.

We are trying to have a resource person -like concept that SEBI also had, who will go around and talk about pension in general.

I also believe that pension, health insurance and life insurance should be taken together. By contributing to NPS, the corpus may go up but the person and their family are not protected – hence, it has to be a combination of all these things. I strongly believe that different regulatory bodies like IRDA and us should work together towards a common forum through which we can educate people about these things.

During my 35 years in the insurance industry, pension has never been a top seller – ultimately if someone is really insisting on a pension will the insurance company sell it. No agent or advisor will actively talk about pension – but pension is one of the very important segments but everyone should be talking about.

There are changing demographics, people have longer lives and fewer babies. Is this the context for necessary focus on the issue of pensions? Has this transition happened?

The life expectancy at birth in India is close to 69 years now, and life expectancy at 60 is another 18-20 years; female longevity is 2 years more than male longevity. So we have to start quite early to think about longevity. We do a lot of industry sessions with CII, FICCI and so on – and we get questions, mostly from people in their 40s and 50s, about how much they need to accumulate in 10 years’ time for their post-60 life. In most situations we see that it is too late by the time they are starting; but we encourage them to start anyway. NPS in that sense is a very flexible system, where a person can contribute just Rs.1000 a year to keep the account alive, when they have restricted cash flows, and when they have higher cash flows they can contribute more and secure what you need at the end of your life. Regarding replacement rate, take for instance, IT graduates aged 25 years having a salary of Rs.30,000 a month with an annual increment of 8%, with inflation around 5% – and they depend only on the mandatory benefits of provident fund and gratuity – their replacement rate will be around 25% of their last earned salary. This cannot be adequate given the biggest cost incurred post-60, i.e., medical costs. Morbidity experience – the quality of life after 60 or 65 –  entails huge costs as the pandemic has shown us. This is why we need to be prepared since the longevity issue will catch up with us in a big way.

Now we have opened it up for the retail and corporate customers to continue after 60 years till the age of 75 years – they are free to close it any time in between and take their 60% money and go for annuitisation of 40%.

Regulatory capacity of PFRDA – staffing, technical expertise, etc.

The year 2021 was a turnaround year for the PFRDA since it became financially independent. We now run on regulatory fees and did not take a single budgetary grant to run our operations. This maintains our autonomy to a great extent. This helps us in recruiting people of our choice, improving our IT infrastructure and so on without depending on govt support. We have also set up a small fund to have our own office building.

We do not have any monetary constraint with regard to recruitment of capacity building and of experts. In our latest recruitment, we recruited actuaries for the first time, with the long term purpose of NPS being only one of many financial instrument with which the PFRDA will be working. Between 2004, when we were established, and now, NPS has changed its structure and shape quite a bit, since we added many flexibilities, but we need other kinds of products as well. The first thing we started, that was also given in the statute, is the Minimum Assured Returns Scheme (MARS). This again is very difficult in a market-linked scheme but we hope for the first basic product to be available in the next 6-8 months. It will look into many aspects – the moment you bring in the concept of assured returns in a market-linked scheme, we have to look at the solvency aspect of fund managers. Currently, I give them a fund and they give a certain kind of return net of their expenses. But if they are asked to give a certain kind of finite return regardless of market conditions, the concept of solvency comes into play – they have to be adequately capitalised. Once MARS is successfully implemented, we’ll be looking into other kinds of products. If the PFRDA amendment bill allows us to go into exit-related products, we’ll look into that – we have in mind a systematic withdrawal plan as an alternative to annuity.

Apart from actuaries, we are recruiting chartered accountants, cost accountants, company secretaries, economists, statisticians (for research), and so on. Our report from BCG, our consultant, looks into several aspects like operation of NPS trust, entire HR aspect of PFRDA and the areas that PFRDA should look into, kind of personnel PFRDA needs, and revamping of PFRDA’s IT infrastructure. This is a one-year project and these things are on the agenda.

Sources for principles, technical expertise and establishment of norms

We depend on three sources –

• looking at other financial sector regulators and their best practices;
• international practices – everything can’t be imported and immediately applied here, but we are working on that. For example, we are engaging with other countries on how they’ve made systematic withdrawal plans work; feedback from customers, intermediaries – we work with many CPSEs (central public sector enterprises) that are shifting their superannuation funds to us; here too we get feedback on what their employees want.