When S P Reddi, director-finance, IREDA, bought a flat in Delhi, he opted for an unusual method of financing. Instead of taking a home loan to meet the cost of the flat, Reddi opted to make a partial withdrawal from his provident fund account to finance his flat.
Most of his peers scoffed at his decision, but Reddi has no doubt that he took the right step. "I did not want to get into too much debt at this stage of my life by taking a huge housing loan," he says.
Reddi was able to dip into his PF funds only because he had chosen to go with an exempted PF trust set up by his employers, rather than opting for the archaic EPFO (Employees Provident Fund Organisation). Instead of waiting aeons for his PF proceeds, Reddi says he was able to withdraw the Rs 9 lakh (Rs 900,000) he wanted from his PF account in a couple of days.
That's just one of the many advantages of an exempted PF trust. We take a look at the other ways in which this kind of trust scores over the EPF that is supervised by the regional PF commissioners.
Why PF? When you join any provident fund it means that you automatically make regular, mandatory, tax-qualified, defined contributions that accumulate till you retire. You contribute 12 per cent of your basic pay, and your employer matches this amount.
Says Amit Gopal, vice president, India Life Capital, a company that advises on PF management: "With no social security available, this instrument enables employees to build a corpus to see them through tough times between jobs -- as the amount can be partly withdrawn as a loan -- and finally after retirement."
Obviously, the PF is an important part of any financial plan. So, how you handle it will make a huge difference to your financial goals, particularly long-term goals.
There are three options to be part of a PF:
If you work in an organisation that employs more than 20 people, the company falls under the PF Act and will have to be a part of a PF trust that is exempt or un-exempt to comply with the PF Act.
The case for exempt Trusts
Says Sushil Kumar Jain, chairman, Pioneer Group of Companies and managing partner Sushil Jeetpuria & Co, a PF management company: "Whatever the option, the cost of administering an exempted trust is definitely much lower than being part of the EPFO.
This alone is incentive enough to move out, as you match the returns if not get more." Considering the similar contribution -- 12 per cent by both employee and employer -- the difference in the administration cost of company trusts and those under the PF commissioner is tilted in favour of the latter (See below: Trust vs EPFO).
Better returns: But judging a fund purely on costs is not necessarily the best way to choose. That's because there are many years when the returns from the exempt trusts outperform the EPF rate. Says Gopal: "Prior to 2000, we earned more than what the EPF paid as its declared rate. Considering the same investment pattern as the EPFO that we have to follow, it indicates that there is scope to earn more than what the EPF pays."
"In times of uncertainty, we prefer to be part of an excluded trust where we are sure about our contributions. When real returns from financial products stipulated by the EPFO are not more than 7-7.5 per cent, how can one expect 9.5 per cent return?" asks Uday Kumar, director-finance and human resources, Indus League Clothing.
His company has set up an excluded trust for 120 employees. With their ability to match employee expectations in terms of safety, service and returns, Kumar is convinced that excluded trusts are most viable in the long run.
But how do exempt trusts earn better rates than what the EPF declares, when the investment basket for both is the same? "Money management is something that the EPFO is not into, so it is not able to act prudently to get the best returns. In fact, almost every year, the return rate is fixed by the EPFO board headed by the labour minister and they dip into their reserves to match the declared rate," says Jain.
That the EPFO does not have a treasury is indicative of how our funds are managed. On its part, the EPFO declares its return rate, which may not be what it actually earns and is motivated because of unions and political sensitivities.
Moreover, it is the service issues that employees face when being part of the EPFO -- refundable and non-refundable loans remain promises that either do not materialise or gets delayed. "Our concerns of being part of the EPFO are the lack of service commitments and the fact that it actually does not work for the employees for whom it was formed. The core function of the EPFO gets defeated if it is unable to help employees in the time of their need," adds Kumar.
It remains an organisation more fixated on announcing return rates than an able administrator.
Shared responsibility. . .: Typically, exempt trusts have equal employee and management representation, making them equally responsible for the functioning of the trust. Says Reddi: "Our trust is over 12 years old and there have been many years when we have had better returns than what the EPF announced. With decreasing yields, it is only through government intervention and dipping into reserves that the EPFO manages to survive."
Several organisations that have set up exempt trusts are willing make up for any shortfall caused to match the EPF rate. Manish Sabharwal, chairman, TeamLease Services, wants to shift from an un-exempt fund to an exempted trust to reduce operational costs.
"When firms opted to move the EDLI (employee-linked deposit insurance) from government control to private insurers, the results were better quality of life cover and better rates. Why not use the same yardstick and allow exempted trusts to be formed?" Sabharwal asks.
Apart from returns, there's also the matter of a contributor being able to access his savings in the fund, something the EPFO does not bother about. Getting them to sort out even minor service glitches could be a nightmare, and most employees prefer to deal with the more friendly and responsive company-run exempt trusts, where they seem to be heard.
. . . and its problems: It's obvious that employees prefer company-run own trusts, but the EPFO, in its wisdom, has not issued the exempt status to any new fund for the past seven years. There may have been a few exemptions, but these are rare. A lot of this has to do with the EPFO having to juggle the dual roles of administrator and regulator.
Says Jain: "Instead of addressing issues of service and keeping its records in order, the EPFO is always in the news for interest rate. It forgets the fact that it has an obligation towards its members -- the employees who form the major part of the EPFO."
Bureaucratic muddle: As if the existing EPFO muddle was not enough, the Finance Bill 2006 has proposed that unless excluded funds are recognised by the EPFO, such funds will not be recognised by the income tax department. "This is pure harassment," says Indus League's Kumar.
He is not alone. There are many others who feel that this move will be detrimental to the very existence of company-run excluded trusts. The proposal says that 31 March, 2007, is the deadline to meet this new stipulation.
Most experts say it is unlikely that the EPFO will grant recognition to company trusts so soon, going by past experience on exempt funds. This is bad news for employees.
Companies running excluded trusts that have not been recognised by the EPFO will not be able to claim tax benefits. And since recognition is unlikely to happen in a hurry, several of these trusts may be forced to join the EPFO. This is not good news for the EPFO either, as it will simply swell its numbers and increase its already high deficit. Will the EPFO see sense and grant recognition to such company-run trusts? Only time will tell.
As far as the income tax authorities are concerned, they have no role to play other than certifying whether company-run trusts can avail of tax benefits or not, and whether employees who are part of such trusts will be eligible for tax benefits.
Bursting at the seams: Those in authority claim that EPFO recognition is needed to ensure that company-run trusts come under the purview of the PF regulator. But given the EPFO's abysmal track record is it really the right body to act as a regulator? Says Sabharwal: "The class of employees who are part of excluded funds are well aware of what they get on their PF contribution. Moreover, this move will only increase the deficit for the EPFO if all excluded funds walk into the EPFO fold."
So far, however, most trusts, employers and employees do not seem to be aware of these dangers.
The EPFO may be quite willing to add more funds to its already bursting portfolio which could be dangerous, as we've already seen.
Explains Jain: "Even by conservative estimates, if both exempted and excluded trusts get into the EPFO fold, it will only increase the interest burden on the EPFO." This is something that many exempted trusts already feel, as they are forced to match EPF rates when the real earnings are far less.
If the intention of the government is to get unregulated excluded trusts under some kind of regulation as the exempted trusts, it should perhaps create a more viable regulating body. The EPFO is hardly foolproof; in several cases, many EPFO-inspected exempt funds have defaulted on contributions or failed to match the EPF rates.
What price the organisation recognising and regulating an even larger number of funds? Sceptics are quick to rubbish the idea, and say the EPFO will have to be changed drastically before it can function as an efficient administrator before donning the hat of a regulator.
Bottomline: What the government and the EPFO fail to see is that companies form excluded trusts in order to offer realistic returns.
The members of such trusts are willing to take on extra risk for better service. "Our employees clearly understand the investment philosophy. They are part of the decision-making body on funds invested and quarterly reviews," says Kumar.
But what about members who are unhappy with the returns? Would they want to enter the EPF fold? "Yes," says Gopal of India Life Capital. "You must realise the service benefits of excluded trusts. The fact that a PF is for a secure future is reassuring only when you know exactly what it is doing, which you do in an excluded trust -- unlike the annual statement you get in the EPFO fold."
Many excluded trusts feel that the new proposal will put them in a tight spot, unless the EPFO gives the recognition needed without any fuss. Since that seems unlikely, these funds will have to enter the unviable EPFO fold. So, get set for uncertain times on your excluded PF funds.
Service Matters
It's a risky business managing a provident fund, since the stakes are high and the fund has to consider the welfare of its investors.
There are some issues specific to non-RPFC (regional PF commissioner) funds. Sushil Kumar Jain, managing partner Sushil Jeetpuria & Co, which manages the independent PFs of several companies, discusses some of these.
You've been in this business for over 15 years. In your experience, are non-RPFC trusts better?
The biggest factor that keeps employers and employees outside the RPFC is the service levels they get from trust managers.
Though exempted funds have to match the EPF returns, they offer far superior service. They are better managed, and in some years have earned better returns than what the EPFO has declared.
What do employees gain from being part of trusts that are not part of the EPFO?
You must understand that the purpose of setting up the EPFO is to protect employees' future by making them contribute today.
However, there are instances when a member needs to dig into his PF savings to meet certain financial obligations like medical treatment, marriage, housing loan or education. These can be refundable or non-refundable loans.
However, it invariably becomes a Herculean task for him to get his money out of the EPFO. It's time-consuming and often fruitless, which is not what one wants in an emergency. Company-run trusts, on the other hand, expedite such matters. After all, the money is there for the investor when he needs it.
So, why aren't more forming their own trusts?
The first reason is that in the past seven years, hardly any organisations has managed to get an exempted status. This has a lot to do with the dual role that the EPFO plays -- regulator and administrator.
As the cost of managing an exempt trust works out less expensive than being a part of the EPFO, there is always reason for organisations and employees to prefer exempt fund status to one under the EPFO. The EPFO must also understand that by bringing the existing exempted trusts under its ambit, its corpus will almost double, making its deficit go up that much more.
Trusts vs EPFO
|
|
Un-exempted destablishments |
Exempt Trusts |
Excluded Trusts | |||
|
Rate (%) |
Actual (Rs) |
Rate (%) |
Actual (Rs) |
Rate (%) |
Actual (Rs) | |
|
Administration charged by EPFO |
1.1 |
55,000 |
Nil |
0 |
Nil |
0 |
|
Inspection Charges to EPFO |
Nil |
0 |
0.18 |
9000 |
Nil |
0 |
|
Fund management charges (indicative) |
0.2 |
10,000 |
0.5 |
25,000 |
0.5 |
25,000 |
|
Total Cost |
1.3 |
65,000 |
0.68 |
34,000 |
0.5 |
25,000 |
|
Total Cost Annualised (Rs) |
|
7,80,000 |
|
4,08,000 |
|
3,00,000 |
|
Consider an organisation contributing Rs 50 lakh a month towards provident fund. The illustration indicates the savings potential in cost of exempted and excluded trusts, taking 0.5 per cent as fund management charges. However, for larger salary bills the fund management charges would reduce and in some cases is a fixed fee not linked to the contribution made. | ||||||