 "Unified Pension Scheme Explained: How UPS, NPS, and OPS affect your pension")
Have you been waiting eagerly for the government to come up with a better pension scheme? On Friday, the Union Cabinet approved the Unified Pension Scheme (UPS), which guarantees that you, as a government employee, will receive 50% of your last drawn salary as a pension. This new scheme is set to be implemented from April 1, 2025, and is expected to benefit around 230,000 central government employees like you. If state governments decide to adopt the scheme, this number could rise to 900,000, extending the benefits even further.
How does the Unified Pension Scheme work?
Under this scheme, government employees will contribute 10% of their basic salary plus Dearness Allowance (DA), while the government will contribute 18.5%. Additionally, there’s a separate pooled corpus funded by an extra 8.5% from the government. The UPS guarantees you a pension equivalent to 50% of your average basic salary from the last 12 months.
Adhil Shetty, CEO of Bankbazaar.com, said, "The UPS could modernise India's pension system, offering a more sustainable approach for both the government and the employees. However, its effectiveness will largely depend on how well it is implemented."
How much pension will you get?
To understand how much pension you could receive, Krishan Mishra, CEO of FPSB India, helps us break down the calculation for Ashish, a 42-year-old government employee earning Rs 9 lakh annually, with a basic pay of Rs 7.8 lakh. The amount he would get under each scheme varies:
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Old Pension Scheme (OPS)
Under the OPS, your pension is calculated as 50% of your last drawn basic pay. For Ashish:
Basic pay: Rs 7.8 lakh per annum
Monthly basic pay: Rs 780,000 ÷ 12 = Rs 65,000
Pension: 50% of Rs 65,000 = Rs 32,500 per month
So, under the OPS, Ashish would receive a monthly pension of approximately Rs 32,500.
National Pension System (NPS)
The NPS works differently, with your pension depending on the accumulated corpus. Here’s how it plays out:
Employee contribution: 10% of basic pay = Rs 78,000 per year
Employer contribution: 10% of basic pay = Rs 78,000 per year
Total annual contribution: Rs 156,000
Assumed return on investment: 8% per annum
Corpus after 18 years: Using compound interest, the corpus at retirement would be approximately Rs 6.9 million.
From this corpus, assuming you use 40% to purchase an annuity at a 6% rate, Ashish would get:
Monthly pension: Rs 13,800
So, under the NPS, Ashish would receive a monthly pension of approximately Rs 13,800.
Unified Pension Scheme (UPS)
The UPS aims to give you the best of both worlds by combining features of OPS and NPS. Here’s what you could expect:
Pension: 50% of the OPS benefit + Annuity from a smaller NPS-like corpus
For Ashish:
OPS portion: 50% of Rs 32,500 = Rs 16,250
NPS-like annuity: Rs 13,800
Adding these:
Monthly pension: Rs 16,250 + Rs 13,800 = Rs 30,050
So, under the UPS, Ashish would receive a monthly pension of approximately Rs 30,050.
Do note that the Department of Expenditure (DoE) within the Ministry of Finance is likely to release an operational framework for the implementation of the UPS. This framework will outline procedures for various situations, such as for those who retired under the NPS and made partial withdrawals from their annuity. Hence, the actual calculations may differ.
How does UPS compare to NPS and OPS?
Now that you understand how much you might receive under each scheme, let's look at how the UPS stacks up against the other options.
Old Pension Scheme (OPS)
The OPS was a defined benefit scheme solely for government employees. It promised you a guaranteed pension based on 50% of your last drawn basic salary, with no employee contributions required. The government fully funded this pension and adjusted it for inflation through Dearness Allowance.
Mishra said, "OPS is a defined benefit pension plan, which typically calculates the pension based on the last drawn salary and the years of service."
National Pension System (NPS)
The NPS, launched in 2004, offers a defined contribution scheme available to both government and private sector employees. Here, your pension amount depends on market returns, and you contribute 10% of your salary, matched by the government with a 14% contribution. At retirement, you can withdraw up to 60% of the corpus tax-free.
"The main challenge with NPS is the uncertainty regarding the final pension amount due to market volatility," Mishra noted.
Unified Pension Scheme (UPS)
The UPS seeks to harmonise the benefits of OPS and NPS into a single, more balanced scheme. It offers a hybrid model where you get a fixed benefit similar to OPS, along with a contribution-based component akin to NPS.
Former Finance Secretary T V Somanathan remarked, “It is fiscally prudent in the sense that we will have to absorb it each year in the Union Budget within our budgeted fiscal deficit.” He added that the UPS is fully funded and contributory, ensuring no burden is passed on to future governments.
What are the challenges of OPS and NPS?
According to experts:
Old Pension Scheme (OPS)
Fiscal burden: Siddharth Maurya, Founder & Managing Director of Vibhavangal Anukulakara, pointed out that the OPS placed immence fiscal burden on the government due to rising liabilities, making it unsustainable in the long run, especially given demographic changes.
National Pension System (NPS)
1. Market volatility: Maurya pointed out the uncertainty regarding the final pension amount due to market volatility, which can make it challenging for individuals to predict their post-retirement income.
2. Complexity: Mishra also noted that the NPS is complex, particularly in understanding the various investment options, which can be confusing for employees.
3. No guaranteed returns: Unlike the OPS, the NPS does not offer guaranteed returns, which can be a concern for employees looking for a stable post-retirement income.
Benefits and challenges of the Unified Pension Scheme (UPS)?
Here’s what this means for both the government and you as an individual, according to FPSB India's Krishan Mishra:
Benefits for the government
1. Long-term fiscal sustainability: The UPS is designed to be more fiscally sustainable in the long run compared to OPS, reducing the government’s long-term liabilities.
2. Reduced long-term liabilities: By capping the financial burden on the government, the UPS aims to ensure a balanced approach to pension funding.
3. Simplified and transparent pension structure: The UPS simplifies the management of pensions by unifying them under a single system, which also ensures equitable retirement benefits across different sectors.
4. A step towards pension reforms: Mishra says the introduction of UPS is seen as a progressive step towards reforming India’s pension system.
Challenges for the government
1. Political opposition: Implementing the UPS may face political challenges, particularly from those who oppose changes to the existing pension schemes.
2. Logistical challenges: There will be significant logistical challenges in implementing the UPS due to the large number of people and organisations it covers.
Benefits for individuals
1. Increased pension security: Compared to NPS, the UPS may offer more predictable benefits and greater security for retirees. The scheme blends the market-based returns of NPS with the fixed benefits of OPS, including features such as an assured pension, inflation indexation, family pension, and a minimum pension.
2. Enhanced returns: The UPS could offer better returns by leveraging the growth potential of market investments, similar to NPS, while still maintaining a base level of guaranteed income from OPS elements.
3. Hybrid model with dual benefits: The UPS offers a hybrid model that combines the stability of OPS’s fixed benefits with the flexibility and self-contribution features of NPS. This provides you with both a guaranteed pension and the possibility of higher returns from market-linked investments.
Challenges for individuals
1. Market risk: The UPS incorporates market-based returns, which means that your pension could still be affected by market volatility, similar to NPS.
2. Lower guaranteed pension: While the UPS offers more security than the NPS, it might not match the full guaranteed benefits of the OPS, particularly if market conditions are unfavourable.
3. Limited flexibility: The hybrid nature of the UPS may limit flexibility compared to the OPS. Adapting to this new system might require a better understanding of both defined benefits and contribution-based pensions.