Friday, June 10, 2011

Small Savings Reformation Recommendation to be implemented

Dear Comrades,

The Central Government on 8th July, 2010 constituted an Expert Committee under the Chairpersonship of Smt. Shyamala Gopinath, Deputy Governor, Reserve Bank of India for comprehensive review of the National Small Savings Fund. The terms of reference of the Committee include review of the existing parameters for the small saving schemes in operation and recommend mechanisms to make them more flexible and market linked; review of the existing terms of the loans extended from the NSSF to the Centre and States and recommend on the changes required in the arrangement of lending the net collection of small savings to Centre and States; review of the other possible investment opportunities for the net collections from small savings and the repayment proceeds of NSSF loans extended to States and Centre; review of the administrative arrangement including the cost of operation; and review of the incentives offered on the small savings investments by the States.

Consequent to the recommendation of the Thirteenth Finance Commission for comprehensive reforms in overall administration of National Small Savings Fund (NSSF), this committee was constituted by Ministry of Finance vide its Order No. 5- 2/2010-NS-II dated 8th July, 2010 to recommend on the reforms required in National Savings Scheme Fund. The Committee‘s recommendations on the rationalization of instruments of small savings are as under:

Savings Account Deposits
The Reddy Committee (2001) had recommended that as long as the rate of inflation is more than 3.5 per cent, the rate of interest on postal savings deposits may continue to be 3.5 per cent. Incidentally, the rate of interest on postal savings deposits had been aligned with the savings deposit rate of commercial banks since March 2003. The Reserve Bank has since increased the savings bank deposit interest rate from 3.5 per cent to 4.0 per cent, effective May 3, 2011 since the spread between the bank savings deposit and term deposit rates had widened significantly. The Committee is of the view that the postal savings deposit rate may be similarly raised by 50 bps to keep it in alignment with bank savings deposit rate. Further, the Reserve Bank has advised scheduled commercial banks to pay interest on savings bank accounts on a daily product basis with effect from April 1, 2010. The Committee is of the view that the Government may consider applying the same formula for the calculation of the interest on savings deposits of post offices once the post offices are fully computerised. On the issue of relaxation/removal of the ceiling, the Committee considered the following two options: if the ceiling has to be removed, the interest income may not be exempt from income tax under Section 10 of IT Act. Alternatively, if the income tax exemption is to continue, the current ceiling may be retained. Taking into account the above considerations and the need for harmonisation with the DTC code removing most tax exemptions, the Committee favours the first option.NSSF

5 Year Recurring Deposit Scheme
To improve the liquidity of the scheme which is needed more by the smaller savers, the Committee is in favour of a reduction in the lock-in period of the scheme from 3 years to 1 year. The penalty on premature withdrawal could be fixed at 1% lower rate of interest than time deposits of comparable maturity. The rate of interest could be benchmarked with G-sec yields of 5 year maturity as was recommended by the Reddy Committee. The 4 per cent commission payable to agents makes it an agent driven scheme. Financial literacy programmes should promote postal savings instruments and the commission should be progressively reduced to 1 per cent over a period of up to three years (by a minimum of 100 bps each year).

Time deposits (of 1, 2, 3 and 5 year maturity)
The postal time deposits, designed to promote thrift, may not enjoy similar liquidity as bank deposits. However, the liquidity of postal time deposits could be improved keeping in view the interest of the small savers. Accordingly, if withdrawn within 6-12 months, the Committee recommends that savings bank deposit rate may be paid (as against nil at present). If deposits are withdrawn prematurely after 1 year, a 1 per cent lower rate of interest than time deposits of comparable maturity may be offered.

Monthly Income Scheme (MIS)
Keeping in view the higher interest rate (inclusive of 5% maturity bonus) on MIS vis-à-vis market rates, the Committee recommends that the bonus should be abolished and the effective rate of interest be aligned with the market rate. Further, the Committee favours retaining the present ceiling on MIS as it would adequately serve the interests of the small savers. The Committee also favours a reduction in the maturity of MIS to five years with the rate of interest benchmarked to 5 year G-secs.

Senior Citizens’ Savings Scheme (SCSS)
The Committee is of the view that SCSS is serving a useful goal as an instrument of social security. At the same time, the bank dominated intermediation of savings under SCSS appears to reflect the rural-urban distribution of the savers under this scheme. As a higher mark-up of 100 basis points over 5-year G-sec security (as against 25-50 basis points proposed for other schemes) is recommended, the Committee is currently not in favour of an upward revision in the investment ceiling, presently fixed at `15 lakh and deemed adequate, keeping in view the fiscal implications.

Public Provident Fund (PPF)
The Committee considered the suggestion of the Department of Posts and some of he State Governments of an increase in the annual investment limit on PPF to `1lakh from the current ceiling of `70,000 to coincide with the ceiling on Section 80C of the I.T. Act. The Committee noted that in the past, the investment limit on PPF used to be usually revised in tandem with that of the exemption ceiling for Section 80C. In the last instance, however, notwithstanding the upward revision of Section 80C from `70,000 to `1 lakh, the investment limit under PPF was not raised. Keeping in view the tenor of PPF and the need to reduce the ALM mismatch of NSSF, the Committee recommends an upward revision in the investment limit to `1 lakh. The Committee is, however, aware that the current provisions permitting premature withdrawal/taking advance against deposits is not in sync with the objectives of the scheme. More importantly, it is not considered practicable to monitor the end use of the funds withdrawn prematurely. Keeping in view the above considerations, the Committee, therefore, recommends that the rate of interest on advances against deposits may be fixed at 2 percentage points higher than the prevailing interest rate on PPF (as against 1 per cent at present).

Savings Certificates
The Committee noted the observations made on savings certificates, viz., KVP and NSC by the Rakesh Mohan Committee that both these instruments are quite expensive in terms of the effective cost to the Government and should be discontinued. The Committee is, however, of the view that while KVP may be discontinued as it is prone to misuse being a bearer-like instrument, NSC could continue with the following modifications: (i) Two NSC instruments would be available with maturities of 5 years and 10 years; (ii) The interest rates would be benchmarked to 5 year and 10 year government securities; and (iii) income tax exemption under section 80C on accrued interest would not be available. Since income tax exemption under section 80C on deposits under NSC would be available, NSC may not be encashed before maturity. NSC would, however, continue to be eligible as collateral for availing loans from banks, as hithert

Aministered Interest Rates for July 1, 2011 to March 31, 2012

Proposed Rate (%)

Savings Deposit 3.50 4.0
1 year Time Deposit 6.25 6.8
2 year Time Deposit 6.50 7.2
3 year Time Deposit 7.25 7.5
5 year Time Deposit 7.50 8.0
5 year Recurring Deposit 7.50 8.0
5-year SCSS 9.00 8.7
5 year MIS 8.00 ( 6 year MIS) 8.0
5 year NSC 8.00 (6 year NSC) 8.0
10 year NSC New instrument 8.4
PPF 8.00 8.2

Review and Recommendation on Commission paid to Agents
The Committee therefore recommends that under PPF, the commission should be abolished. Under PPF, 90% of the transactions are happening through banks and for banks commission is not payable for any other scheme of theirs. The Committee feels that 4% commission under MPKBY is very high and is affecting the viability of NSSF. The Committee recognises that the RD scheme requires considerable effort on part of agents in mobilising monthly deposits. However, 4% commission is distortionary and expensive. The committee recommends that this should be brought down to 1% in a phased manner in a period of three years with a 1% reduction every year. Under SAS, while the commission for senior citizen saving scehme is 0.5%, it is 1% on other scheme. The Committee recommends that while commission should be abolished on Senior Citizen Saving Scheme, on other schemes, it should be brought down to 0.5%.

Although most of the State Governments have already abolished the commission being paid by them, some states are still paying commission to agents in their state. This creates distortion in operation of the scheme and needs to be discouraged, as recommended by 13th FC. In order to ensure that the State Governments do not give any extra incentive to the Agents, the Committee recommends that the incentive paid to the State Government may be reduced from the incentive payable by the Central Government to the Agents.

Table 19: Payment of Remuneration to DOP and the Rates

Year Amount (cr) Rates per Account / certificate (`) SB IVP SC
2004-05 1,861 106.97 8.02 30.19
2005-06 2,318 111.12 8.33 31.36
2006-07 2,490 114.46 8.58 32.3
2007-08 2,476 117.89 8.84 33.27
2008-09 2,802 123.33 9.24 34.8
2009-10 3,133 129.49 9.7 36.54
2010-11 (RE) 3,215 135.96 10.19 38.37
2011-12 (BE) 3,518 142.76 10.69 40.29
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