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A plan by the trustees of the Employees’ Provident Fund Organsiation (EPFO) to start investing a fifth or even a quarter of fresh PF accretions each year in equities is prompted by a handsome, 14% annualised return through this route over the last seven years, which was nearly double the gains from debt instruments during the period, official sources said.

The retirement fund body had to keep the return on PF investments for its 60 million subscribers at a four-decade low of 8.1% for 2021-22, partly because of the low-interest rate regime that prevailed in recent years. The EPFO had to redeem some of its investments in equity to find resources for the Rs 76,000-crore interest payout to its nearly 60 million subscribers for 2021-22. Return on debt declined to 6.78% in 2020-21, from 7.5% in 2019-20 and 8.5% in 2018-19.

The EPFO started investing monies in equities in 2015-16 — August 5, 2015 to be precise — with a cautious exposure of 5%. The exposure was doubled in the subsequent year itself and taken to 15% in 2017-18 (see chart).

The Covid-19 pandemic has delayed a further increase in equity exposure, even though the EPFO’s returns from equity investments were even higher during the period.

The EPFO invests equities in the form of exchange traded funds (ETFS), both on the Nifty and Sensex platforms.

With over Rs 2.1-trillion annual contributions by subscribers, the EPFO’s accumulated corpus is around Rs 18 trillion now.

The Finance Investment and Audit Committee (FIAC) of the EPFO has recommended that exposure to equities be enhanced to 25% in two equal tranches, from 15% now. Analysts said the move would not only increase the retirement benefits of the subscribers, but would also make the EPF more relevant for savers.

Unless the investment pattern is changed by the EPFO with a further shift to equity, lower returns would force employees to turn towards more lucrative options such as the National Pension Scheme (NPS) to park their savings, experts said.

Of course, the current market volatility and the geopolitical situation will be considered by the EPFO’s Central Board of Trustee as it meets later this month, to consider the FIAC’s recommendations, among other things. There is a near consensus on the need to raise the exposure to equities but the timing and quantum of the rise will have to be decided, an official source said, on condition of anonymity.

As per the extant investment pattern, the EPFO can invest between 45-65% in government securities, between 20-45% in debt instruments, up to 5% in short-term debt instruments and up to 5% in asset-backed, trust structured & miscellaneous investments. It can invest between 5-15% in equities.

“For subscribers, the returns from PF investments have steadily decreased over the years, with just 8.1% return announced for FY22. There is an increasing desire amongst new and young employees who are financially prudent and well informed, to opt out of PF altogether. Many existing PF members, who can’t opt out completely, are also asking their employers to limit their PF contributions to the minimum required by law (12% of Rs 15,000 or Rs 1,800 a month instead of actual basic salary), and preferring to invest the remainder into higher-yield instruments,” said Atul Gupta, partner at Trilegal.

“The taxation on PF contributions above Rs 7.5 lakh annually has also resulted in many high-income employees demanding a restructure of their pay to limit PF contributions and retain tax efficiency. While PF returns are still tax-free and secure for the most part, the EPFO would nonetheless need to offer better returns to remain attractive to employees,” Gupta said.

For Gautam Bhardwaj, co-founder of pinBox, a global pension-tech enterprise committed to digital micro-pension inclusion in developing countries, the proposal to raise the threshold of investment in equities is a “very sensible”. Since 85% of EPF subscribers are low-income workers with modest contributions, they desperately need higher investment returns on their savings.

“After all, every 1% rise in returns can increase retirement benefits by nearly 20%. We have already seen NPS subscribers benefit from equities over the last 15 years. Increasing allocation into equities will also allow EPFO subscribers to participate in India’s economic growth. Since monthly PF contributions are like a systematic investment plan or SIP, the risk of market volatility will be minimal over a multiple decade savings horizon,” Bhardwaj said.

Former central provident fund commissioner KK Jalan, however, said any decision to enhance exposure should be taken with caution. “Let the EPFO stabilise with the earlier participation in equity,” he said.

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Author: Howard Caldwell