Voluntary Retirement Scheme – An Overview

The Government of India, with liberalization, adopted a new economic policy whereby significant changes in the industry and business sectors were brought about. One of the important aspects of the liberalized economic policy was the Exit Policy. The government allowed business and industrial establishments to reduce their excess staff and employees. The reduction of excess staff is a result of restructuring of organizations due to modernizing, applying new technology and new methods of operation, so that the industrial organizations could operate economically and withstand the competition with companies and organizations which have accepted foreign collaborations, innovative methods and technology up gradation, rendering some employees surplus. Excess manpower caused the following problems;

  • High labour cost which increases the production cost and thus ending in high product or service costs.
  • Reduction in the competitive ability of the enterprise.
  • Reduction of employee efficiency and labour productivity.
  • Threat to technology up gradation which is essential in the competitive market.
  • Resulting in poor industrial relations and unrest amongst labour.

Since the procedure under Industrial Disputes Act 1947, for retrenching involves a lot of legal hurdles and complex procedures, the Government authorized schemes of voluntary retirement of employees after offering them suitable voluntary retirement benefits, and giving some tax relief on such payments to employees who are eligible to retire voluntarily under the guidelines issued by the Government and Income Tax authorities. Further, Trade Unions strongly oppose retrenchment and reduction of staff and workforce giving rise to industrial relations problems. Therefore, a way had to be found by allowing employers including those in the government undertakings, to offer voluntary retirement schemes to off-load the surplus manpower without giving rise to industrial relations problems.

The voluntary retirement scheme (VRS) is a process adopted by companies for trimming the workforce employed in an industrial unit. It is a common method used to cut down excess manpower and thus improve the performance of the organisation. Often, a VRS is also known as a ‘Golden Handshake’. The government has shown its support for VRS by exempting income tax on the money received by an employee as VRS compensation based on a ceiling limit of Rs 5 lakhs, as per Section 10(10B) of the Income Tax Act. The success of a VRS depends on its ability to attract as many employees belonging to the targeted category as possible to accept the scheme, at the least cost to the organization.

In the past, VRS has been introduced in companies owing to a number of reasons, chief among which were;

  • Recessionary economy – Perhaps one of the most common reasons for introducing VRS by establishments is a slow economy with little or no growth, where reduction in manpower becomes an imperative
  • Decline in sales and increase in cost – In the event a business becomes unworkable or unfeasible due to decline in sales and increase in costs, VRS are introduced to cut manpower costs
  • Improving efficiency – in light of the present economic circumstance, it has been seen that organizations are unable to survive or face competition in the market without improving their efficiency. Reduction of employees and wage bill are one of the measures taken to attain these objectives.
  • Due to joint-ventures with foreign collaborations etc. – Joint ventures and foreign collaborations, mergers and takeovers etc. often result in reshuffling of manpower, owing to which a certain department/category of employees may not be needed by the establishment anymore. Here’s where VRS schemes are introduced to part ways with such employees making sure they’re well compensated for.
  • Due to obsolescences of Product/Technology – When a certain technology in a Company/the Industry becomes obsolete, there is no more need for the employees who operate the machines and devices with respect to that technology and therefore are offered VRS.

Procedure involved with Voluntary Retirement Schemes –

The employer issues a circular communicating his decision to offer voluntary retirement scheme – mentioning therein;

a. Detailed reasons for downsizing

b. Eligibility i.e. who are eligible to apply for voluntary retirement

c. The age limit and the minimum service period of employees who can apply (Employees who is 40 and above and those who have completed minimum 10 years of service in the establishment.)

d. The benefits that are offered.

(It should be noted that employees who offer to retire voluntarily are entitled as per law to the benefits of Provident Fund,’ Gratuity and salary for balance of privilege leave up to the date of their retirement, besides the voluntary retirement benefits.)

e. The right of an employer to accept or reject any application for voluntary retirement.

f. The date up to which the scheme is open and applications are received for consideration by the employer.

g. The circular may indicate income tax incidence on any voluntary retirement benefits which are in excess of Rs. 5 lakhs, which is maximum tax free benefit under such schemes.

h. It should also indicate that those employees who opt for voluntary retirement and accept the benefits under such scheme shall not be eligible in future for employment in the establishment.

Steps to be taken for Introducing and implementing Voluntary Retirement Scheme –

  • If the company is a public sector undertaking, prior approval of the government should be obtained.
  • Departments/employees to whom VRS is to be offered must be identified (Target group of employees -age above 40 years and employees with more than 10 years’ service in the company).
  • If there is a union of employees in the establishment, they should be informed the reasons for introducing VRS, the target group and the benefits to be offered to those who opt for the scheme.
  • Terms of V R S and benefits to be offered are to be mentioned in the circular or communication to employees and the period during which the scheme is to be kept open must be decided upon.
  • Counseling employees is an essential part of implementing the scheme. The counseling should include what the retiring employee can do in future i.e. rehabilitation, how to manage the funds received under the scheme.
  • After receipt of applications for accepting VRS, the applications are scrutinized and decisions are made as to whose applications are to be accepted and those which are not to be accepted.
  • For those whose application are to be accepted a worksheet is prepared showing the benefits each will receive including other dues like Provident Fund, gratuity and earned leave wages for the balance un-availed earned leave, and tax incidence, should the V R S amount exceeds Rs. 5 lakhs.

The Challenges in Implementing VRS –

  • The effect of downsizing on the work of the establishment is to be considered i.e. post reduction operations to be carried on should be planned
  • Ensuring that all concerned employees and managers participate in the decision making to down size.
  • The downsizing plan should match with the Strategic plans of the company.
  • Transparency should be seen and used in choice of persons to be retired.
  • Being prepared to manage the after effects of the downsizing – both social and psychological effects.
  • Motivating employees who will stay with the company, removing their apprehensions and fears, if any.
  • Providing professional assistance to employees who agree to accept VRS to plan their post retirement, activities and financial management

Voluntary retirement schemes may attract opposition from the Unions. Though by their very nature these schemes are voluntary and involve no compulsion, the Unions need to be informed in advance, who may at the most, try to secure a better package for the employees. If an employer wants better results from a VRS there should not be any opposition from the Union, if not support. Even though the VRS was introduced in both the public and private sectors, public sector undertakings have to obtain prior approval of the government before offering and implementing a VRS.

Provisions of Income Tax Act –

Companies can frame different schemes of voluntary retirement based on different situations, for different classes of their employees. However, these schemes have to conform to the guidelines prescribed in rule 2BA of the Income-tax Rules. The guidelines for the purposes of section 10(10C) of the Income-tax Act have been laid down in the rule 2BA of the Income-tax Rules. The guidelines state that the scheme of voluntary retirement framed by a company should be in accordance with the following requirements, namely:

  • It applies to an employee of the company who has completed 10 years of service or completed 40 years of age
  • It applies to all employees (by whatever name called), including workers and executives of the company excepting Directors of the company
  • The scheme of voluntary retirement has been drawn to result in overall reduction in the existing strength of the employees of the company
  • The vacancy caused by voluntary retirement is not to be filled up, nor the retiring employee is to be employed in another company or concern belonging to the same management
  • The amount receivable on account of voluntary retirement of the employees, does not exceed the amount equivalent to one and one-half month’s salary for each completed year of service or monthly emoluments at the time of retirement multiplied by the balance months of service left before the date of his retirement on superannuation. In any case, the amount should not exceed rupees five lakhs in case of each employee, and
  • The employee has not availed in the past the benefit of any other voluntary retirement scheme.

Communication of the VRS –

Companies are usually candid about the reasons for introducing a VRS and the following are communicated clearly to the employees about the scheme being introduced;

  • The reasons for the downsizing
  • The eligibility criteria for the scheme.
  • The age limit and the minimum service period of employees who can apply for the scheme.
  • The benefits that are offered to the employees who offer to retire voluntarily.
  • The rights of the employer to accept or reject any application for voluntary retirement.
  • The date up to which the scheme is open.
  • The income tax benefits and income tax incidence related to the scheme.
  • employees who opt for the scheme and accept the benefits shall not be eligible in future for employment in the organisation.

Management’s discretion –

Even though taking up voluntary retirement by availing voluntary retirement scheme of an establishment is based entirely upon an employee’s decision and there is no compulsion involved, managements usually retain certain rights in the interest of business; Managements retain the discretion to accept or reject the application of an employee under VRS so that they can retain people with appropriate skills. Since crucial manpower is an asset to any organization, most organisations will retain the right to decide whether to grant VRS to an applicant or not. Further, Managements also retain the discretion to withdraw the scheme before the declared date.

Compensation –

All organizations have their own formulae to compute compensation under VRS and most organisations offer attractive terms under their VRS so that the most number of targeted employees are attracted, however, statistics have indicated that higher amounts of compensation under VRS, thus making the scheme more attractive, does not always ensure the success of VRS and further, very low amounts may also lead to non-acceptance of the scheme. One of the common methods to make a VRS attractive has been to compensate employees for their remaining period of service.

Important pointers with regard to implementation of VRS-

  • Transparent and proactive communication by senior managers is essential before the announ-cement of VRS regarding the economic climate, health of the organization and the need for manpower trimming.
  • The management must actively explore all other alternatives to manpower reduction and make attempts to explore the possibilities to retain the employees productively. Some companies are known to have introduced new products and services just to be able to retain their employees.
  • It is usually not an easy task to arrange for funds for a VRS. This is where banks and financial institutions become relevant as they provide companies with the finances to implement such schemes. Government owned organisations or establishments belonging to large business house receive support from the Government or the owner of the business on implementing VRS to enhance the performance of the organizations.

Demerits of VRS –

  • To a certain extent introducing a VRS may create fear, a sense of uncertainty among employees.
  • Sometimes the severance costs are’ heavy and outweigh the possible gains.
  • Trade unions generally protest the operation of such schemes and may cause disturbance in normal operations though such protests are mostly superficial.
  • Some of the good, capable and competent employees may also apply for separation which may cause embarrassment to the management.

Every VRS scheme is unique, for a scheme to be successful, it has to be strategically planned and well communicated. Its procedure and reasons for introduction must be discussed with all management staff including top management. The scheme should be transparent, fair and open to debate, in order to develop employee trust. Companies should keep the scheme open for appropriate time so that the organizations as well as the employees get enough time to take the decision. Managements should be careful that the crucial manpower is not allowed to go out and must decide the target category of employees for VRS very carefully.

For a closer look at how VRS Schemes are drafted, click here to see a draft VRS Scheme.