The EPFO needs to adjust its interest payout and set realistic expectations for subscribers

| Updated on September 11, 2020 Published on September 11, 2020

Making a habit of interest payouts that exceed realised gains will entail the fund dipping into capital, a manoeuvre which got vehicles such as the US-64 into trouble

With interest rates plumbing the depths and stock markets volatile, the Employees Provident Fund Organisation (EPFO) is having a tough time this year declaring high returns to subscribers, which it has made a habit of. The Central Board of Trustees (CBT) has come up with an unusual solution. It has suggested that the interest rate be maintained at 8.5 per cent for FY20 in the light of the ‘exceptional circumstances’ arising out of Covid-19. But if the payout proves difficult to make, it be credited in two instalments — 8.15 per cent now from debt investments and 0.35 per cent in December from gains booked on equity ETF (Exchange Traded Fund) holdings. This idea is problematic on many counts and is likely to set an unhealthy precedent. The Finance Ministry must think twice before endorsing it.

The EPF’s annual payout is funded by surpluses arising from the excess of investment income on its gilt, corporate bond and equity holdings over its running expenses. Between March 2019 and March 2020, yields on long-term Central government securities — the fund’s mainstay — fell from 7.5 per cent to about 6 per cent, those on AAA rated corporate bonds dipped from 8.5 per cent to 7 per cent and the BSE Sensex lost 24 per cent in value. This offers enough evidence to demonstrate that the fund’s declared returns for FY20 ought to be much lower than the 8.65 per cent paid in FY19. But the CBT appears to be unwilling to acknowledge this reality. Making a habit of interest payouts that exceed realised gains will entail the fund dipping into capital, a manoeuvre which got vehicles such as the US-64 into trouble. Using creative accounting to pad up subscriber returns for a year with equity profits booked the next year is retrograde, too.

This dilemma is symptomatic of the challenges that EPF will repeatedly face if it fails to align its return to markets and set realistic return expectations for its subscribers. Yes, doing this will expose investors to market volatility. But if India’s largest pension fund is to deliver inflation-beating returns in the long run, it has no choice but to raise its allocations to market-linked corporate bonds and equities. Given that these instruments are subject to judgment calls, the fund can protect subscriber interests by moving to more transparent disclosures on portfolio composition and performance. Reforms in the way it accounts for and apportions individual returns are imperative too. This calls for quick implementation of unitisation of its accounts, an initiative which has been hanging fire for three years now.

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Published on September 11, 2020
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