Salient features of a voluntary pensions schemes were unveiled at a seminar, organised by the Securities and Exchange Commission of Pakistan last Friday in Islamabad. This may be rightly described as a bold initiative which has the potential to strengthen the capital market and give a fillip to social welfare system at once.
Work on the scheme started some time back under the directive of Prime Minister Shaukat Aziz (Finance Minister at the time), and necessary legal changes in the income tax law were sought in the last budget by the CBR and approved by Parliament. However, the applications submitted five months back by asset management companies for licence to sell pension products in the market are yet to be approved by SECP.
The Advisor on Finance, Dr Salman Shah, said the current pension schemes are defined as benefit schemes. They are in force only in government offices and some larger private firms. These schemes often permit the whole or part of the pension to be commuted for a tax-free lump sum, subject to permission from the tax department. Virtually, 100 percent of the retiring employees opt for maximum commutation permissible under the rules.
The chances of pensioners not investing such a large sum wisely and frittering it away are high. There is also a good chance, though, that a person may outlive the lump sum commutation.
The proposed voluntary scheme is different and also has some unique features. It allows everyone with a national tax number to be approached by a fund manager to invest in the pension product. It will not matter if the investor is employed or self-employed. Investment up to Rs 500,000 a year in VPS will be permissible, giving a tax break of Rs 150,000. Secondly, VPS permits an employed person to change jobs without losing his already invested amount, inclusive of gains.
However, upon retirement the monthly pension received by a VPS beneficiary will be treated as a salary and subjected to tax at normal rate since the government has foregone a portion of the tax receivable from him during his working years. The Fund managers can undertake individual risk profiling.
A person with fewer working years left may opt to invest in a money market fund which may earn less but carries lower risk, as against a younger person, with more working years ahead opting for an equity fund investment.
Out of the 1.171 million income tax assessees, 95 percent are individuals. As such, all of them will be eligible to invest in VPS. These salaried and non-salaried individuals paid Rs 63.4 billion in taxes in financial year 2004-05. If the experience of developed countries is taken as a guide, 40 percent of eligible individuals buy pension schemes. As such, around 400,000 eligible individuals can be tapped for the VPS in Pakistan.
The existing law does not classify insurance companies as non-bank financial companies. It is learnt that the SECP is awaiting an amendment for inclusion of insurance companies as NBFC. This defies logic. SECP must set the ball rolling and approve asset management companies' applications for selling pension products under VPS.
After all, everyone will not rush into VPS from the word go. Fund managers will have to do a sale job before investment in VPS starts trickling in. Successful pension products will help the market to raise long term capital. In turn, this capital can be gainfully invested in funding fixed capital requirements of industry as well as housing mortgages. SECP has certainly come up with a good VPS scheme. The various seminars have helped. The time for talk is over. Now it is about time to act.
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