 "Arun Jaitley")
I am not sure whether I read it somewhere or heard it on one of the Tamil TV debates where learned professors debate on issues the nation does not want to know. It was an anecdote about arrack and buttermilk. An old lady sold buttermilk in the village. She carried the earthen pot on her head all day and cried out to her customers. In her singsong voice, she used to convince them how it was the best thing man made to beat the summer. In contrast was the business of an arrack seller. He hid somewhere on the outskirts, he hardly made any noise, yet he had a queue every evening.
The takeaway was: While good things need to be sold hard, people fall prey willingly to the not-so-good things.
It is a fundamental personal finance principle that the only part of your market-linked investment that you can control is its cost. Investments like Employees' Provident Fund (EPF) and National Pension System (NPS) come with the least cost. Insurance plans are at the opposite end of the spectrum in this respect. Most high-cost plans are not transparent about their charges and train their selling forces to focus on the ‘good returns’, over which they have no control over.
Read our full coverage on Union Budget 2016
Read our full coverage on Union Budget 2016
I recently had a strange experience while trying to open a National Pension System (NPS) account. After being convinced that it was a good product that also comes with an additional tax exemption of Rs 50,000, I went to the bank to open this account. This bank was sending me mailers talking about the additional tax benefit. The lady at the call centre convinced me all I had to do was to go with the ID and address proof to the nearest branch.
The executive at the bank branch did not have any clue about NPS. At least, he pretended to be so. Initially, he told me his “id was not authorized”. He then wanted to send me to a nearby branch, where there could be someone who can guide me. After I stood my ground, saying his technical issues are not my problem, he grudgingly started to find out the procedure to open the account. By the time, I took out my cheque book to write the cheque for NPS, he started asking, “Sir, kuchh tax saving investment karenge aap?”. Puzzled, I looked at him saying that is precisely what I was trying to do. Not this one sir; there are others, he told me. Soon, I got to know he was trying to sell me an insurance plan.
Insurance products are most preferred by the people like my bank friend because everybody wins on it, except the person paying for it. These policies are sold as investment products, with hefty upfront charges. They are sold to unsuspecting walk-in customers, financially illiterate relatives and elderly widows. They have wreaked havoc on people’s lives.
In September 2015, a panel headed by former finance secretary Sumit Bose documented the havoc as follows: “Anecdotal evidence suggests that investors bought the equity-linked ULIP assuming that they were buying a three-year guaranteed product that would double their money. The regulation on a three-year lock in period which allowed companies to keep the entire value of the policy if surrendered within three years, left very little incentive to the insurance companies to promote follow-on premium payments from their customers. The rule on front-loaded commissions, which were as high as 40-45% in the first year, incentivised agents to sell products that earned them the highest pay-off. The tax benefits made this product even more attractive. When the product did not provide the (falsely) promised returns, a lot of customers stopped paying, and lost money as also in other financial products. This was reflected in the spike in the lapsation in insurance policies after the introduction of ULIPs in India. Halan, Sane, and Thomas (2014) find that investors lost more than a trillion rupees from mis-selling over the 2005-2012 period on account of these mis-sales.”
You read it right, a trillion rupees. That is about the sum the finance minister allotted to his hyperactive road minister Nitin Gadkari's grand plans to build highways across the country for all of 2016-17.
The Insurance Regulatory and Development Authority of India (Irdai) took several steps to bring down charges on Ulips after market regulator Securities and Exchange Board of India (Sebi) took an ambitious step to regulate them, over five years ago. Yet, the Bose committee notes that agents have just shifted from Ulips to traditional policies.
The panel noted that “the commissions structure of the traditional endowment product has not undergone any change. Today, this product earns the highest commission, and as described in earlier sections, has become popular once again.”
“The Committee studied the benefit illustration of life insurance, mutual funds and NPS. The disclosures in the traditional plans of insurance particularly offer a greater scope for improvement so as to provide greater transparency and clarity to the target customer,” the Bose panel added.
Here, you have a product (insurance) that is loved by sellers because it is lucrative for them, even though it may not be very suitable to the consumer’s needs. In their eagerness to earn this commission, intermediaries often missell these products, which the committee found to be wanting on transparency.
If at all, you wanted to incentivise NPS, tax should have been on these insurance products, and not EPF. With prime minister's insurance plans increasing penetration manifold (over 120 million policies in two flagship schemes), this sector should no longer require tax incentives to increase coverage. There is ample record to show that the incentives were in any case being misused.
The Exempt Exempt Exempt (EEE) tax applicable to insurance plans is one important selling point. With both EPF and NPS now falling under the “60 % tax on withdrawals” regime, the position of insurance gets bolstered as the only long-term product with a full tax exemption. Insurance companies also squarely beat the equity mutual funds in commission.
Bose committee also details how lack of distribution incentives hampers the popularity of NPS. Remember my experience at my bank. While Bose's recommendations are gathering dust, I am sure many insurance policy-wale uncles are working their phones trying to explain the EPF tax to their newly employed nieces and nephews.
Worse even are those uncles who are going to sell one of those thousands of designer ponzi schemes (land, cow goat, tree and what not) that are operating in the country. “EPF mein tax lagega, insurance mein Irdai aayega, hamara product mein na regulator, na tax,” might well be their sales pitch as the proposed legislation to attack such illegal schemes may take a few more campus arrests and disrupted sessions to see the tables of the Parliament.
So, dear finance minister, don’t tax poor buttermilk, when you have allowed a million arrack shops to bloom.
(Disclosure: The writer proposes to drink a lot of butter milk after April 1, 2016 and is allergic to arrack)
