ASSIGNMENT 1: REVIEW OF BENEFITS STRUCTURES IN INDIA INCLUDING FBT IMPACT

By: ANKITA JAIN 2010B04

Assignment 1: Review of benefits structures in India including FBT impact

Companies provide their employees and workers with a variety of benefits. These benefits are basically forms of value or services that are provided by an employer to his employees for their contribution in the performance of the organisation. Such benefits are an important component of a company's remuneration package for attracting and retaining its employees. These benefits may be financial or non-financial, long term or short term, free or at concessional rates. They may include educational, residential, medical, or recreational facilities. Such facilities may be provided individually or collectively and inside or outside the organization. Thus the employee benefits are the comforts and the facilities given to employees to enable them to work in a healthy and peaceful atmosphere. The benefit elements provided by the organisations are in the form of statutory benefits like basic level of social security (compulsory pension, work-related injury compensation), public holidays, other types of legal holidays (casual leaves, earned leaves, maternity leaves etc), severance and termination benefits (provident fund and gratuity); and optional/ employer sponsored benefits like superannuation, medical plan, life insurance scheme, leave encashment, accident and disability insurance, housing plans, hospitalization cover, company accommodation, car program, personal loans, club membership, education schemes, stock plan, perquisites, flexible benefit plan. Compensation and benefit structure have been changing over the last few years. The major drivers of these changes are Changing income tax rules in India Viewing compensation on a total remuneration basis Changing employee expectations Changing fringe benefit tax over years Evolution of Indias Benefits System The evolution of Indias benefits system (healthcare) can be divided into three distinct phases. In Phase I (1950s-1970s), the policy was based on two principles, namely that employeremployee participation for long-term funding and States responsibility to provide health care and other benefits for the people (especially government employees and the rural population). Phase II (1980s2000) was when the first National Health Policy was introduced to encourage private initiatives in health-care service delivery, while at the same time widening access to publicly funded primary health care. This mainly benefited the urban employee. Present phase, Phase III (post 2000) faced a further shift in two important respects, namely the liberalization of the insurance sector in order to provide new avenues for health financing and a redefinition of the role of the State from being only a provider to being a financier of health services as well (to cover the entire urban population). Such a change in focus over the years has been largely in line with the overall policy framework of moving from a mass-based approach to a class-based approach, from monopolistic market conditions to a laissez-faire regime and from a philosophy of support to a belief in personal responsibility.

The Corporate Benefit Landscape At present, India lacks a unified social security framework and whatever social security is available is overwhelmingly welfare-orientated without any planned financial discipline. Furthermore, one of the other great challenges is that, as each component of Indias social security system has developed separately, there is no agency responsible for a system-wide perspective. Thus, most of the statutory and optional corporate benefits have evolved independently. To capture and understand changing employee benefits design in India, various surveys have been conducted by organizations like Watson Wyatt, MetLife and Marsh India. Some of the recent trends observed are The insured benefit components of the reward structure (i.e. the components insurable with the insurer) are on the increase. Components like hospitalization cover, personal accident cover and group term life insurance are increasing while the non-insurable items like housing loans, car programmes and personal loans are becoming diluted. The gratuity (which is a compulsory retirement benefit) has remained constant while superannuation which had decreased because of the Fringe Benefit Tax (FBT) which made it financially unattractive, is now again been considered by the employers. In sectors like IT and pharmaceuticals (which are deemed to provide superior benefits for employees), a trend towards a greater emphasis on insured components has been reinforced. However, old-economy industries like consumer goods and cars are still somewhat heavier on the non-insured benefits side. Flexible benefits as a concept is still in its infancy in India. Only 33% of the companies in industries like consumer products and cars have continued to offer any significant form of flexi-benefits (which is, in fact, a combination of cash and benefit elements). This further decreases to 30% in the IT sector. In addition, flexible benefits are most commonly provided at middle-management level and above (extended to junior-management employees in certain cases). Benefit options like company accommodation, a car programme and related benefits, are restricted to certain higher levels. Employee education programs are more prevalent in the IT and ITES sectors. The New Pension Scheme (NPS) was thrown open to all citizens of India effective May 1, 2009. NPS has had a slow start; however The Finance Act, 2011 has taken it to the next level.

The employers can now claim tax relief up to the extent of 10% of the employees salary. This is over and above the existing contribution towards PF and superannuation funds. Thus this tax treatment has made NPS a cost effective and effective tool for both employer and employees. Also under the proposed Direct Tax Code (DTC) employers contribution to an approved superannuation scheme on account of an employee will no longer be deductible business expense to the extent that it exceeds Rs 100000. Therefore, the tax allowance on the NPS employer contribution now provides an opportunity to allocate non-tax friendly contribution of superannuation into an NPS account.

Some other trends observed in medical insurance benefit are Group medical expenses among corporate in India are escalating at a fast pace, resulting in increase of 20-30% in their medical insurance premiums. This increase can be attributed to 2 main key aspects- increase in treatment cost and shift in insurer approach towards experience based underwriting As a result of this, some organizations are re-evaluating the benefits offered, some are focusing on changing their current parental coverage by introducing cost sharing and others are introducing an overall cost sharing measure with employees. To reduce the cost some organizations now have built-in policy restrictions and are understanding the importance of employee wellness; organizations have started implementing room rent restrictions, introducing preventive care by way of regular health check-ups, wellness programmes and workshops. The Fringe Benefit Tax The Fringe Benefit Tax was introduced in India in the year 2005-06. By definition, the FBT is a tax levied on perquisites or fringe benefits provided by an employer for his employees, in addition to the cash salary or wages paid. Such prescribed benefits included entertainment, festival celebrations, gifts, concessionary tickets, the use of club facilities, employee welfare, board and lodging in a hotel, running of cars and Employee Stock Options (ESOPs) incurred by the employer to reward the employees. The perquisites that were directly attributed to the employees were taxed in their hands in accordance with the existing provisions of Sec 17(2) of the Income-tax Act and subject to the method of valuation outlined in Rule 3 of the Income-tax rules. In cases where attribution of the personal benefit posed a problem or where for some reason it was not feasible to tax the benefits in the hands of the employee, the FBT was levied on the employer on the value of such benefits provided or deemed to have been provided for the employees, thus it had put extra burden on the employer to pay taxes. As a result of this The employers had started avoiding paying on benefits to the employees on the whole, and preferred giving the equivalent amount as cash/basic salary. The superannuation had reduced because it was financially unattractive for employers. For example, Infosys, which earlier had a defined contribution plan under superannuation plan, after introduction of fringe benefit tax paid a portion of the monthly contribution towards superannuation amount directly to the employees as an allowance and the balance amount was contributed to the trust.

The value of fringe benefits were the aggregate cost incurred. That is, the total expense deducted was to be considered for purposes of levying fringe benefit tax. From this, a certain percentage was deducted. The difference therein was taxed at the rate of 30%. The fringe benefit tax rate varied from 10 50% depending upon the expense incurred. The housing perks were affected because the department of revenue had notified changes in the income tax rules that doubled the taxable income of private sector employees on account of housing perquisites.

However in 2009 budget, the FM announced the abolition of the FBT and re-instatement of taxes on perquisites. That meant that the tax on perks will once again be taxed in the hands of the employee. Thus increasing the tax burden on the employee since the personal income tax rates are much higher than the FBT rate and it can go up to 30% of the perk as against just over 6% on FBT. While the abolition of the FBT was greeted by employers as a welcome move, it was not an unmixed blessing altogether. Implications of abolition of FBT for employers are as follows: The employer will not pick up the administrative burden of the taxation procedures prevalent in the area of the FBT. The abolition would provide employers with the scope to restructure employee remuneration, e.g. the reintroduction of stock options that serve as effective long-term retention and wealth creation instruments. Prior, if any shares or securities were provided free of cost or at a discount to the employees, the benefit was taxable in the hands of the employers as FBT at the stage of exercise of options or allotment of shares. Post amendment, the aforesaid benefit is now taxable in the hands of the employees at the stage of exercise of options or allotment of shares. Employers would be encouraged to strengthen superannuation plans as the third retirement benefit for their staff. Also under the FBT regime, meals provided to the employees, during working hours within office premises, were not subject to FBT and no limits were prescribed. Under the new Rule, a limit of Rs. 50 per meal has been imposed. As the removal of the FBT means that perquisites will be taxed in the hands of employees, they are likely to pay more taxes (at the valuation rules that apply to perquisites). Since there is scope for restructuring employee remuneration, taking into account the tax proposals, there is the possibility that employees may be looking at higher salaries (depending on the companys remuneration philosophy). Apart from the above trends, there also has been an increasing trend to provide flexible benefits programmes for employees where they can choose the benefits that they value the most. Firms where flexible benefits have been implemented, it is more common for the firms to have a well defined corporate benefit strategy in place and communicate information on benefits to their employees. The major benefit of flexible benefit scheme is that both the employer and the employees share the responsibility of providing the benefits. Companies like IBM, Microsoft India, Fujitsu India etc implement flexible benefit scheme.