For the provident fund’s stability, its managers should heed RBI’s advice—align earnings with payouts

Apart from a job loss or voluntary exit from a payroll, the reasons one could present for it have been re-slotted into three broad categories: one, essential needs, defined to include illness, education and marriage; two, housing; and three, special circumstances, which one need not explain to secure the EPFO’s approval. Plus, members can tap their provident funds (PFs) with greater frequency: up to 10 times for education and five times for marriage-related expenses.

Besides, all it takes is 12 months of membership to apply for a partial PF withdrawal. These moves give this retirement scheme a valuable dose of liquidity.

Sure, the EPFO was set up to save a monthly slice of every subscriber’s salary—with an equal sum put in by the employer—for old-age expenses, but letting it serve as a fallback for financial needs that may arise earlier is the right approach. One’s own money should not be subject to locks-ins that are too strict.

This explains why the EPFO has had to clarify that in case of unemployment, the 25% held back can also be taken out after a year of going without pay. This is a longer wait than before, but will keep out claims filed by those who join new payrolls within months.

As the broad purpose of PF is to restrain earners who would squander all their earnings if left to themselves, India’s EPFO reforms stand out for the trust they invest in the judgement of account holders.

Since PF balances earn a far better rate of interest than fixed deposits do at banks, or what government bonds yield, the default position of its members should be to stay invested and watch the sum grow over the years. Plus, it is tax-free up to a limit. As this is a state-run fund, investment safety is not a consideration.

Yet, PF safety also demands sound fund management. What subscribers get back must be funded by the earnings of its corpus. If yields on top-rated bonds, the EPFO’s mainstay, drop below its annual payout rate, then the returns it gets on other assets must cover that gap. If not, commitments would go underfunded.

In recognition of this risk, the EPFO had asked the Reserve Bank of India (RBI) to study its investment practices. As reported, an RBI report has flagged the gap between high PF payouts and its low debt earnings being funded by sales of capital assets (such as equities).

As a stop-gap, this may work, but for corpus stability, its earnings and payouts must align. Roughly, if 10-year government bonds yield under 7%, payouts above 8% call for a savvy investment strategy. Among other things, RBI has suggested an actuarial assessment of liabilities with relation to each EPFO scheme’s assets. Also, the use of sophisticated expertise for asset management. And to minimize scope for conflict, RBI would have the EPFO split its roles as regulator and fund manager apart.

For the EPFO to keep payouts above 8%, its allocation cap on equity must go up from the current 15%. Critically, its fund management would still need to be calibrated in favour of safety. Transparency would help. If the risk- reward balance shifts, so must public scrutiny.