Why did the Centre alter its pension plan? Premium

What are the main features of the Unified Pension Scheme? How is it different from the current pension system? How have government employees responded?

The story so far: Last weekend, the Union Cabinet signed off on a major shift in the approach for providing old age income security to Central government employees, setting the stage for a new Unified Pension Scheme (UPS) to be launched on April 1, 2025. About 23 lakh Central government employees are expected to benefit from the new scheme, while those employees who are part of an ongoing pension scheme called the National Pension System (originally called the New Pension Scheme or NPS) will have a one-time option to switch to the UPS. States have been given the option to bring their employees under the UPS framework, and will need to work out the scheme’s funding from their own resources.

There are five major components of the UPS benefits, starting with the assurance that government employees will receive half of their average basic pay drawn over their final 12 months in service prior to retirement, as a monthly pension for life. This promise is subject to a minimum service of 25 years. The benefits will be proportionately lower for those with lesser service tenures, provided they served for least 10 years in government. The minimum pension amount at superannuation, has been set at ₹10,000 for those with 10 years of service. The UPS also offers a family pension equivalent to 60% of a government worker’s pension at the time of her or his demise, to support their dependents. To provide a hedge against inflation, these pension incomes will be raised in line with the consumer price trends for industrial workers — akin to the dearness relief allowance offered to serving government employees. Last but not the least, the UPS also promises a lumpsum superannuation payout in addition to gratuity benefits at the time of retirement. This will amount to 1/10th of an employee’s monthly emoluments, that is salary + dearness allowance, as on the date of superannuation for every completed six months of service.

Currently, government employees who joined service prior to January 1, 2004, are covered by what has come to be known as the Old Pension Scheme (OPS) that was replaced by the NPS for employees who joined in or after 2004.

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The OPS also offered employees an assured pension at 50% of last drawn salary, with dearness allowance hikes added along the way, an assured family pension of 60% of the last drawn pension, and a minimum pension of ₹9,000 plus dearness allowances. At the time of retirement, employees could commute 40% of the pension and receive it as a lumpsum. Moreover, for pensioners or family pensioners crossing 80 years of age, an additional 20% pension is given, with that number rising to 30% at 85 years, 40% at 90 years, and 50% at 95 years. Pension incomes are also revised in line with salary updates as per Pay Commission suggestions. The last salary upgrade for government employees kicked in from 2016, based on the Seventh Pay Commission recommendations. A critical difference between the OPS and NPS as well as the UPS, is that its promises were funded straight off the revenues of the government at the time of making payouts. So the liabilities of the OPS were “unfunded”, with no contributions made by employees or the employer, as is the case with non-government formal sector employees whose retirement savings are governed under by the Employees’ Provident Fund (EPF) Act.

The NPS, launched through an executive order by the Atal Bihari Vajpayee government after years of debate about the unsustainability of civil servants’ pension bills, did away with the defined benefits system of the OPS and switched to a ‘defined contribution’ pension regime. 10% of employees’ salaries were remitted to a pension account with a matching contribution from the employer (the Centre, or States as almost all of them switched to the NPS after 2004). These funds were pooled and deployed in market-linked securities, with the option of parking some funds in equity markets, by pension fund managers. At the time of retirement, employees were required to buy an annuity (an insurance instrument that provides a monthly income) with 40% of the accumulated corpus in their NPS account, and withdraw the rest. The Centre had raised its contribution to the NPS to 14% in 2019, but there was no element of certainty offered on NPS members’ pension incomes, like the OPS did. NPS members, including those who may have retired already, can now move to the UPS.

The UPS combines the defined benefit model of the OPS through its promised pension levels and other sops, with the defined contribution NPS mechanism. While employees’ contributions will be limited to 10% of salary as is the case with NPS, the government will contribute a higher 18.5% of salary to the pooled pension accounts. The Centre will also have to bear any gap between the eventual earnings on these contributions, and its assured pension promises under the UPS. It is not clear at this point if the UPS will factor in future Pay Commissions’ recommendations or offer higher pensions for those over 80 years of age, as the OPS did.