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Suresh Krishnamurthy

Relaxing the investment restrictions for PF may be necessary. However, allowing them to invest in the equity market can give scope for misuse and harm investor interests; a better option would be allowing it to lend for home construction.

THE 2003 Budget is just weeks away and there are already fears that the interest rate on the provident funds may be brought down. The reason is because long-term government securities are now yielding less than 9 per cent while we are being offered 9.5 per cent on our provident fund balances.

Interest rates on provident fund balances were brought down in two instalments from 12 per cent in January 2000 to 9.5 per cent. The Finance Minister cited the sharp fall in yields on other securities then. The same logic would hold good now.

So, will the Government reduce rates for third year in a row? Quite possible.

Irrespective of whether interest rates are brought down on PF, there will more attempts to explore options for enhancing the return on PF balances. This is because the issue of adjusting the interest rate on PF balances may prove to be a long-term problem.

The Government may not pay a higher interest rate on provident funds but, at the same time will want investors in PF to get decent returns.

In this context, relaxing the investment restrictions for provident funds may be necessary. However, allowing them to invest in the equity market is not an option at all. That would create enough scope for misuse and harm investor interests in the process.

As such, allowing investors to invest in top-rated corporate securities is a distinct option. However, that may not increase the yields either.

The yield on top-rated corporate securities is equally poor, compared to government securities.

In this backdrop, allowing provident funds to lend for building homes appears to be a reasonable option.

Now, investors can withdraw only in part the amount standing to their credit in their PF account to finance their housing needs. However, this can be relaxed and PFs can be allowed to lend more than the amount at the credit of the investor, subject to restrictions.

For instance, if an investor has Rs 1 lakh as balance in his PF account, Rs 2-3 lakh can be lent to him, depending on several other parameters such as monthly income and so on.

This can certainly enhance the return on investment for PF. Companies now extend long-term home loans at 11.5-12.5 per cent.

On the other hand, investments in government securities fetch lower than 9 per cent. Besides, the amount is being lent against security. In addition, the experience of the housing companies with regard to credit risk in home loans has been more than encouraging.

The other side of allowing PFs to lend for home construction is it can prove risky for the investor's old age security, if he fails to repay. In the event of default, the balances in PF may also be depleted reducing his old-age security. However, these risks appear quite limited.

Moreover, the value of the property is likely to cover completely the loan's value and, therefore, it is not likely to endanger the PF balances. As such, this certainly looks like an option worth exploring.

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