The Code On Social Security, 2020

Impact on Compensation Structures

Khushwant Pahwa, FIAI, FIA KPAC (Actuaries and Consultants)

Founder and Consulting Actuary www.kpac.co.in
[email protected] [email protected]
Agenda

Introduction to The Code

on Social Security, 2020

Key changes impacting

Compensation Structures

Potential impact of the

changes

The way forward

Introduction
An overview of the background

• Labour falls under the Concurrent List of the Constitution. Therefore, both Parliament and state legislatures can
make laws regulating labour.

• Central Government stated that there are over 100 state and 40 central laws regulating various aspects of
labour such as resolution of industrial disputes, working conditions, social security and wages. The Second
National Commission on Labour (2002) found existing laws to be complex, with archaic provisions and
inconsistent definitions.

• To improve ease of compliance and ensure uniformity in labour laws, the Central Government recommended
the consolidation of central labour laws into broader groups such as:
(i) industrial relations,
(ii) wages,
(iii) social security,
(iv) safety, and
(v) welfare and working conditions.

• In 2019, the Ministry of Labour and Employment introduced 4 Bills to consolidate 29 central laws. These Codes
regulate: (i) Wages, (ii) Industrial Relations, (iii) Social Security, and (iv) Occupational Safety, Health and Working
Conditions.

• While the Code on Wages, 2019 was passed by Parliament, Bills on the other three areas were referred to the
Standing Committee on Labour. The Standing Committee has submitted its report on all three Bills. The
government replaced these Bills with new ones on September 19, 2020.
Introduction
Journey of the bill so far

• The Code On Social Security, 2020 was introduced in the Lok Sabha on 19th September 2020.

• Journey of the Bill so far:

Introduced to Passed by Lok Passed by Rajya Notified in the

Lok Sabha Sabha Sabha Official Gazette

• Sep 19, 2020 • Sep 22, 2020 • Sep 23, 2020 • Pending *

* Act was notified in Sep 2020. It shall come in-force from the date of implementation, which shall be notified in
Official Gazette of India.

Once notified, the Code on Social Security, 2020 will replace 9 existing laws (detailed in next slide).

The implementation date of the Code of Social Security is not known at this stage
(i.e., end of June 2021). Refer following article :

https://www.thehindubusinessline.com/opinion/rework-social-security-code-for-informal-
workers/article34599616.ece
Introduction
Acts merging into the Code on Social Security, 2020

The Payment of Gratuity Act, 1972

The Employees' Provident Funds and Miscellaneous

Provisions Act, 1952

The Employees' State Insurance Act, 1948

The Employees' Compensation Act, 1923

The Employment Exchanges (Compulsory The Code on Social

Notification of Vacancies) Act, 1959
Security, 2020
The Maternity Benefit Act, 1961

The Cine Workers Welfare Fund Act, 1981

The Building and Other Construction Workers’

Welfare Cess Act, 1996

The Unorganised Workers Social Security Act, 2008

Agenda

Introduction to The Code

on Social Security, 2020

Key changes impacting

Compensation Structures

Potential impact of the

changes

The way forward

Key changes impacting Compensation Structures

Key changes
impacting
compensation
structures

Vesting criteria for

Vesting criteria
Definition of Wages fixed term
for journalists
employment

The changes and the impact of the same on compensation structures / employee
benefits are discussed in the following slides.

Note: Above are the key changes only and there may be other changes as well. We
are not lawyers and it is best to consult a labour law consultant to get a complete
overview of the changes you need to implement for your organization. Please refer
to the disclaimer section at the end of this presentation for further details.
Definition of Wages
What does Section 2 Sub Section 88 require?

Old World New World post Implementation

Qualifying wages means ALL REMUNERATION, whether by
Qualifying wage for gratuity defined as:
way of salaries, allowances or otherwise, and includes:
- Basic Pay
- Basic Pay
- Dearness Allowance
- Dearness Allowance
(Allowance paid to employees to offset the
impact of inflation) - Retaining Allowance INCLUSIVE
DEFINITION
And there was NO MINIMUM LIMIT on what BUT DOES NOT INCLUDE:
proportion of total compensation should the
qualifying wage constitute
- Bonus payable under any law
- Value of any house-accommodation
- Contribution to any pension or PF plus interest accrued
- Conveyance allowance
- Sum paid to defray special expenses
- House rent allowance
These components - Any award / settlement under order of a court / Tribunal
cannot exceed 50% of - Overtime allowance
total remuneration. - Commission payable to the employee
- Gratuity payable
- Retrenchment compensation or other retirement benefit
Definition of Wages
Text from Section 2 Sub Section 88
(88) "wages" means all remuneration, whether by way of salaries, allowances or otherwise, expressed in terms of money or capable
of being so expressed which would, if the terms of employment, express or implied, were fulfilled, be payable to a person employed
in respect of his employment or of work done in such employment, and includes,—

(a) basic pay;

(b) dearness allowance; and
(c) retaining allowance, if any,

but does not include—

(a) any bonus payable under any law for the time being in force, which does not form part of the remuneration payable under
the terms of employment;
(b) the value of any house-accommodation, or of the supply of light, water, medical attendance or other amenity or of any
service excluded from the computation of wages by a general or special order of the appropriate Government;
(c) any contribution paid by the employer to any pension or provident fund, and the interest which may have accrued
thereon;
(d) any conveyance allowance or the value of any travelling concession;
(e) any sum paid to the employed person to defray special expenses entailed on him by the nature of his employment;
(f) house rent allowance;
(g) remuneration payable under any award or settlement between the parties or order of a court or Tribunal;
(h) any overtime allowance;
(i) any commission payable to the employee;
(j) any gratuity payable on the termination of employment;
(k) any retrenchment compensation or other retirement benefit payable to the employee or any ex gratia payment made to
him on the termination of employment, under any law for the time being in force:

Provided that for calculating the wages under this clause, if payments made by the employer to the employee under sub-clauses (a)
to (i) exceeds one half, or such other per cent. as may be notified by the Central Government, of the all remuneration calculated
under this clause, the amount which exceeds such one-half, or the per cent. so notified, shall be deemed as remuneration and shall
be accordingly added in wages under this clause.
Definition of Wages
Implication of the change

Definition of wages is the key change impacting compensation structures / employee benefits
of employees.

To ascertain impact of change, we analyzed Basic (and DA) to Gross Salary ratio of the top
listed Companies for whom we have performed the year end valuation for FY 2019-20.

Pie chart below captures split of Companies based the above ratio:

5%
Less than 35%
15% Majority of Companies will have to re-design
10%
their compensation structures, with basic
35% - 39%
salary (and DA) seeing an increased
40% - 44%
proportion in the total CTC / Compensation.
20%
45% - 49% 25% About a third of Companies will experience a
material impact on qualifying wage, which
50% - 59% will push up actuarial liabilities and may
25% impact take salaries.
60% and Above
Key Question
Which components should be included in wage?

Given inclusive definition:

Bonus: Is there a
Should all components not excluded be included? linkage? Is it
universally payable?
Supreme Court Judgment
The Regional Provident Fund Commissioner West Bengal
Vs.
Vivekananda Vidyamandir and Others

Principle of Principle of
Reimbursements
Universality Incentives
Emolument that is universally, Exclude any incentive wage Reimbursements or payments
necessarily and ordinarily paid from basic wage if it has a direct made to defray special
to all across the board shall be nexus and linkage with the expenses arising due to nature
included as qualifying wage. amount of extra output. of employment shall not be
included as qualifying wage.
Whatever is not payable by all If there is no such direct linkage
concerns or may not be to extra output for a component
earned by all employees of a in question, the component Special Allowance:
concern is excluded from the shall be included as qualifying Isn’t it universally
qualifying wage wage. payable?
Common components of Salary
Components LISTED in the definition
Included in Excluded Considered in total
Component
wage? from wage? remuneration?
Basic pay Yes No Yes
Dearness Allowance Yes No Yes
Retaining Allowance Yes No Yes
Any bonus payable under any law, which does not form part of remuneration
No Yes Yes
payable under terms of employment

Value of any house-accommodation, or of the supply of light, water, medical

No Yes Yes
attendance or other amenity

Any contribution paid by the employer to any pension or provident fund, and
No Yes Yes
the interest which may have accrued thereon

Any conveyance allowance or the value of any travelling concession No Yes Yes
Any sum paid to defray special expenses entailed by nature of employment No Yes Yes
House Rent Allowance No Yes Yes
Remuneration payable under award / settlement / order of court or Tribunal No Yes Yes
Any overtime allowance No Yes Yes
Any commission payable to the employee No Yes Yes
Any gratuity payable on the termination of employment No Yes No
Any retrenchment compensation or other retirement benefit payable to
employee or any ex gratia payment made on termination of employment, No Yes No
under any law for the time being in force.
Common components of Salary
Components NOT LISTED in the definition
Included in Excluded Considered in total
Component
wage? from wage? remuneration?

Supplementary or Special Allowance

(typically paid to all employees, is part of employment contract and is not Yes No Yes
linked to any increase in production output)

Variable Bonus (other than statutory bonus, linked to additional output) No Yes No
(only if NOT UNIVERSALLY AND REGULARLY PAYABLE and there is DIRECT NEXUS BETWEEN EXTRA OUTPUT AND PAYMENT)

Medical Reimbursement (as reimbursement) No Yes No

Leave Travel Allowance (not universally payable) No Yes No

Reimbursements for books and magazines, Food Coupons, Travel,

No Yes No
Entertainment, Broadband, mobile phone

One-time payments such as Joining bonus, Buy out of notice period

No Yes No
(not universally payable)

Note: The above table merely suggests possible treatment based on common understanding of the components involved.
It is not a final judgment as to whether a component should be included or excluded in the qualifying wage. Also, we are
not lawyers and it is best to consult a labour law consultant / lawyer to get a complete overview of the changes you need
to implement for your organization. Please refer to the disclaimer section at the end of this presentation for further details.
Definition of Wages
Implication of the change

Impact on Gratuity Liability (Post Employment Benefit)

• Applicable wage for gratuity set to increase, which shall result in a one-off increase in gratuity liability.

• Impact of increase to be charged to Income Statement or Other Comprehensive Income (OCI),

depending upon approach to re-structuring and applicable accounting standard.

• Extent of one-off increase in liability will depend on the level of qualifying wage in existing
compensation structure.

Impact on Leave + other non statutory benefits liability (Other Long Term Employee Benefit)
• Re-structuring of compensation structure may result in a one-off increase in the liability

• Impact of increase to be charged to Income Statement in most cases.

• Impact will differ from Company to Company, depending on Company’s leave policy (i.e., based on
salary on which the leaves are encashed) and the requirements of the Shops and Establishment Acts
of the state(s) in which the Company operates.

• Company may be able to mitigate impact by considering revisions in leave policies.

Fixed Term Employment
Vesting Criteria to not apply!
• In case of Fixed Term Employment, gratuity pay-outs will be made upon expiry of the fixed term,
irrespective of whether 5 years have been completed or not. Calculation of gratuity benefit, in such
cases, shall be done on pro-rata basis.

• This is expected to result in increase in gratuity liability in case of Companies that offer fixed term
employment.

• The increase in liability because of this change shall be treated as Past Service Cost and charged to
Income Statement, either immediately or over a period (depending upon the applicable accounting
standard).

• Refer next section for treatment of Past Service Cost under different accounting standards.

What is Fixed Term Employment?

As per Section 2, sub section 34 of the Code on Social Security, 2020, Fixed Term Employment means the
engagement of an employee on the basis of a written contract of employment for a fixed period, provided that:

(a) his hours of work, wages, allowances and other benefits shall not be less than that of a permanent employee
doing the same work or work of a similar nature and

(b) he shall be eligible for all benefits, under any law for the time being in force, available to a permanent
employee proportionately according to the period of service rendered by him even if his period of employment
does not extend to the required qualifying period of employment.
Vesting Criteria for Journalists
Reduced to three years from five!

• Gratuity is payable to an employee on the termination of his employment after he / she has
rendered continuous service for not less than five years.

• However, for working journalists, the Code on Social Security, 2020 reduces the vesting criteria
from five years to three years.

• This shall result in an increase in liability for the Companies in the News and Media industry
i.e., the Companies that employ working journalists.

• Increase in liability shall be treated as Past Service Cost and charged to Income Statement,
either immediately or over a period (depending upon applicable accounting standard).

• Please refer to the next section for treatment of Past Service cost under different accounting
standards.
Agenda

Introduction to The Code

on Social Security, 2020

Key changes impacting

compensation structures

Potential impact of the

changes

The way forward

Impact on definition of Wages

Increase in Gratuity Liability of Provident Fund: Limit of Rs.

NSE 50 index companies - Inclusive Definition - Increase in cost 15,000 on wage for PF to
about Rs. 18,000 - 20,000 of retirement benefits mitigate impact on PF deductions
Crores (just 50 companies) and contribution!

Increased cost relating to PAST SERVICE for Increased cost relating to CURRENT AND FUTURE
Gratuity – will have to be borne by employer SERVICE – employer has choice

• No choice but to recognize immediately

additional liability arising due to change in
qualifying salary. Employer absorbs the Employer passes additional
additional cost cost to employee
• Net worth may be eroded by increase in
provisions, which is akin to a retrospective • Profitability will drop. May make • Take home salaries will reduce
taxation and against ‘Ease of Doing Business’. certain businesses unviable. as employers charge additional
costs back to employees.
• No flexibility for this increased liability for past • Reduced profitability and higher
service as employers can do nothing to recover provisioning may result in • Reduction in take home salary
increased costs. decrease in economic activity. may vary from company to
company.

Companies should carefully analyse and re-structure components of salary structure to optimise the
gratuity liability. This may be an iterative process!
Accounting Treatment
Income statement or OCI?

Attributable to change in Treated as PAST SERVICE COST and

definition of qualifying wage charged to income statement.

Accounting Treatment of
one-off increase in Gratuity
Liability

Treated as ACTUARIAL GAIN OR LOSS

Attributable to increase in basic
and charged to income statement or
salary more than expected
OCI, depending upon AS.

Should this also be a past

service cost as increase in
basic salary is driven by
change in law

On-going costs (i.e., year-on-year charge to Income Statement) will also increase as Current Service
Cost and Interest Cost will be calculated on increased salary

*Accounting treatment of Past Service Cost and Actuarial Gains / Losses is discussed in the following slides.
Treatment of impact due to re-structuring
Past Service Cost under various GAAPs

Recognition of Past Service Cost under various Accounting Standards:

Recognition of IAS 19 /
AS 15 US GAAP
Past Service Cost Ind AS 19

Immediate for Vested

Immediate or Deferred? Immediate Immediate
Deferred for Un-vested

In case of post employment plans,

Recognised where –
initially OCI with subsequent charge
Income Statement or Other Income Statement Income Statement
to Periodic Benefit Cost (Income
Comprehensive Income (OCI)?
Statement)

Reclassification to Income
Statement in case of initial Not applicable Not applicable Yes, refer below *
recognition through OCI

* Minimum recognition prescribed as per ASC715. The Company can choose to recognize all immediately
or any other systemic approach provided certain criteria is met.
Treatment of impact due to re-structuring
Actuarial Gains / Losses under various GAAPs

Treatment of actuarial gains and losses under various Accounting Standards :

Recognition of Actuarial
AS 15 IAS 19 / Ind AS 19 US GAAP
Gains or Losses

Immediate or Deferred? Immediate Immediate Immediate

OCI in case of Post

Employment Benefits (e.g.,
Gratuity) In case of post employment
Recognised where –
plans - initially OCI with
Income Statement or Other Income Statement
Income Statement in case subsequent charge to Periodic
Comprehensive Income (OCI)?
of Other Long-Term Benefit Cost (Income Statement)
Benefits (e.g., compensated
absences)

Reclassification to Income
Statement in case of initial Not applicable Not allowed / required Yes, refer below *
recognition through OCI

* Minimum recognition prescribed as per ASC715. The Company can choose to recognize all immediately or any other
systemic approach provided certain criteria is met.
Agenda

Introduction to The Code

on Social Security, 2020

Key changes impacting

compensation structures

Potential impact of the

changes

The way forward

The way forward
Can the outcomes be optimized?

Current Scenario Target Scenario

Design compensation structure largely between explicitly
included or explicitly excluded components

Components Modify leave policy to manage impact on earned leave

explicitly included Components liabilities (do check compliance with S&E Acts)
(e.g. Basic Pay) explicitly included
(e.g. Basic Pay) Ensure bonuses are not part of employment contract, are not
paid monthly, are not payable universally and have direct
linkage to increased output

Components
explicitly excluded
(e.g. HRA,
Conveyance) Swell these components, eliminate doubts in
Components compensation structure.
explicitly excluded
(e.g. HRA,
Components Conveyance)
not mentioned
(e.g. Special
Allowance)
Components Minimize these components, retain only those that
not mentioned cannot be sacrificed (e.g. for tax benefits)
Reimbursements Reimbursements
The way forward
It is not just about actuarial valuations!

• The Code on Social Security, 2020, proposes to replace nine existing labour laws and is likely to impact
most organisations in someway or the other.

• Once notified, amongst other things, a majority of the companies will have to re-design their
compensation structures.

• Such a re-design of compensation structure may impact the take-home salary along with the value of
certain post employment and other long term employee benefits.

• The impact may be material for organisations that require significant change to their existing
compensation structure.

• It may be advisable for companies to reach out to labour law (and rewards and benefits) consultants
to understand the complete implications of this new law for their organization.

• The companies are also advised to reach out to actuaries to understand the implication on the values
of liabilities (and consequent charge to Income Statement / OCI) determined using actuarial principles.
Disclaimer
Very important - must read!
This presentation and any accompanying material or talk, if any, has been furnished / made available to
you solely for your information and must not be reproduced or redistributed. This material is for the
information of the recipient and we are not soliciting any action based upon it. Also, it does not constitute
any recommendation.

It should also be noted that we are not engaged in the practice of law. The information contained in this
document does not constitute and is not a substitute for legal advice. The Company should consult a labour
law consultant / lawyer for any legal advice relating to the implementation of the Code on Social Security,
2020.

In particular, the information contained in this document is available in public domain and is for general
purposes only. It is not an advice on actuarial valuations or legal advice on the Code on Social Security,
2020 or anything else. The information given above is in summary form and does not purport to be
complete. We have reviewed the above and in so far as it includes information or facts, it is believed to be
reliable though its accuracy or completeness cannot be guaranteed.

The information contained in the above report should be construed as non-discretionary in nature and the
recipient of this material should rely on their own investigations and take their own professional advice.
Neither KP Actuaries and Consultants nor any person connected with it accepts any liability arising from
the use of this document.

The recipient(s) before acting on any information herein should make his/her/their own investigation and
seek appropriate professional advice and shall alone be fully responsible / liable for any decision taken on
the basis of information contained herein.
Contact details

Khushwant Pahwa FIAI, FIA Arpaan Begdai

Founder and Consulting Actuary Senior Manager - Actuarial
Phone: +91 - 99102 67727 Phone: +91 - 98998 24848
[email protected] [email protected]

Tanu Saharan Aarzoo Dawar

Senior Manager - Actuarial Actuarial Consultant
Phone: +91 – 98737 60219 Phone: +91 - 8860195272
[email protected] [email protected]

Surbhi Jindal Aayush Agarwal

Senior Actuarial Consultant Senior Actuarial Consultant
Phone: +91 – 95820 54132 Phone: +91 – 82854 63097
[email protected] [email protected]