India's National Pension Program Gains Acceptance, but Hurdles Remain

​Companies in India are increasingly offering employees the option to save for retirement through the government-run National Pension System (NPS), but more work must be done to encourage employees to pursue this option, say retirement planning experts.

"India is aging, and aging very fast," said Supratim Bandyopadhyay, chairman of India's Pension Fund Regulatory and Development Authority, speaking at a recent virtual conference. The average lifespan for Indians has also increased, bolstering the need to build a nest egg that provides a steady stream of money after retirement.

"That's why talking about pension has become absolutely necessary at this stage," Bandyopadhyay added.

In the nearly 10 years since Indian companies have been allowed to invest in the NPS, around 9,000 companies have signed up to offer it as an optional benefit to their employees. Within these companies, around 1.2 million employees have invested close to 500 billion rupees (approximately $6.7 billion USD) as of July 31, a nearly 50 percent jump from March 31, 2019, according to NPS Trust data. Still, only a small fraction of the organized workforce in India is part of the pension system.

"All our research seems to be suggesting that employees are falling short" on achieving their retirement needs, said Ritobrata Sarkar, head of the retirement practice at employee benefits consultancy Willis Towers Watson India. In several surveys, Sarkar said, they've found that employees rely on their employers for retirement benefits and that employees are not saving enough money for retirement.

Corporate leaders "have to play a bigger role in promoting this," he said.

India doesn't have a social security system like many other developed countries. The closest thing to a retirement benefit in employees' pay packages is the Employees' Provident Fund, a state-mandated benefit in which both the employer and employee co-contribute a portion of the employee's salary.

The provident fund provides a return determined by the fund authority every year. However, it typically isn't high enough to build a sizable pool of retirement savings, given India's high inflation, say retirement experts. The NPS offers a way to fill that gap.

With regular contributions to both the provident fund and the NPS over the working life of an employee, it is possible to replace 30 percent to 40 percent of the last drawn salary at the time of retirement, according to Vishal Grover, practice leader, retirement and investment solutions, at Aon India, a consulting firm.

"Employers should therefore take initiatives to educate employees on plans such as NPS early in their career," Grover said.

Investments into the NPS are allocated to stocks and bonds in accordance with the employee's preferences. The ability to invest in stocks, which typically provide higher returns than bonds over long periods, allows employees' funds to grow more than they would in the provident fund, which predominantly invests in bonds.

"NPS presents a very good diversification strategy," Grover said. "The whole point of NPS is to get access to equities."

In addition, NPS fund managers charge fees of less than 0.1 percent of assets, which further boosts employees' potential returns. In fact, NPS investments have returned around 11 percent annualized over the past five years in a program offered to government employees. In comparison, the provident fund has paid out 8.5 percent annually in recent years, the government reports.

Roadblocks to Wider Acceptance

Though many companies in India now offer the NPS as an optional benefit, the program's take-up rate—or the percentage of employees opting for it—remains small. Experts attribute this to a number of reasons.

One is the lack of any obvious financial incentive. If an employee opts for the NPS, the company deducts a part of the employee's salary—up to 10 percent—to make the investment. There is no co-contribution, unlike the provident fund where an employer's contribution is mandated by law.

"Employees realize that if they opt for it, there is a reduction in their take-home pay," Grover said. This keeps many away.

"We often tell employers that there should be some incentive from the employer," said Sarkar. For instance, within the 10 percent of salary invested, the employer can pitch in 2 percent and the rest can be deducted from the employee's salary.

"You have to encourage and incentivize people," Sarkar noted.

Another roadblock to greater acceptance of the pension system is a lack of education about the program and the importance of saving for retirement. Many companies offer the ability to invest in the NPS only to check a box, and few make a concentrated effort to promote financial well-being for their employees.

"As an HR or compensation benefits professional, if you yourself are not invested in that particular benefit, then it's very unlikely that you'll go out of your way to promote it," Sarkar said.

The structure of the pension product also poses hurdles. The NPS doesn't provide guaranteed returns, which makes some employees hesitant to invest in it, Grover said. And some employees don't like the strict rules that prevent funds from being withdrawn early, even though these restrictions help preserve retirement savings. Employees can withdraw funds only after having been invested in the NPS for at least 10 years, and if they withdraw before the retirement age of 60, at least 80 percent of the accumulated money must be converted into an annuity that would provide a monthly income.

In comparison, funds from the Employees' Provident Fund can be partly withdrawn before retirement for such special events as building a home or to meet education or wedding expenses.

Another challenge is how the money is received upon retirement. If withdrawn after age 60, at least 40 percent of the accumulated funds in the NPS must be converted into an annuity that provides a regular payout. Conversely, money from the provident fund is received as a lump sum.

India's pension fund authorities say they are mulling ways to make the NPS more attractive for individuals, but the growing role of the NPS is already visible in corporate India.

Many traditional companies have long offered another retirement benefit to employees—the superannuation fund—but in recent years, it's been replaced with the NPS.

"Now, NPS is more prevalent and more popular as far as a corporate pension arrangement is concerned," Sarkar said.

Shefali Anand is a New Delhi-based journalist and former correspondent for The Wall Street Journal. You can follow her on Twitter.