well, it is the management's prerogative to grant extension of service to a retiring employee based on the need of the organisation and the value added performance of the employee.
the employee could be given standard retirement settling his account and closing the legal benefits like pf/superannuation etc to keep the record straight.
offer him a suitable retention appointment on agreeable respectable terms for a certain period with a salary package and benefits excluding benefits like pf/superannuation etc
practical aspects whether this will set a wrong precedent tempting others to expect such extensions, or negotiate extensions, force extensions by keeping assignments pending, etc need to be carefully looked into and handled more as a special case.
moreover sending a signal that high performers are valued by the company beyond the normal terms of the employment and taken extra care of is a good signal promoting employee retention and reducing attrition rate and preventing moving to competitors etc as i would think. a straightforward case in isolation needs not much worry and other employees may appreciate the signal too as a right step by the management.
infact the trend as we hear is to hire retired employees as retainers with suitably designed packages even from outside for their valued experience which cannot be got from the youngsters, especially when there is a talent crunch all around.
in a unionised environment one may have to set norms of objective practice avoiding sense of favouritism towards certain employees more with a view to win the confidence of the union preventing emotional objections and issues of blocking claimed promotion chances of juniors in the pipeline - just mentioning to be aware and to think about if so.
granting retention extension to a retiring employee is a good hr practice not to worry much about as i would tend to think based on the need of the organisation - in general.
one could have a check with the labour advocate/consultant of the company for any implied legal issues and court precedents if any at all under certain cicumstances - more for personal knowledge and being on a confident footing.
hope this helps,
regards/kshantaram