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We are encouraged to save in retirement funds as early as possible when we work in permanent jobs that offer these types of perks, but there is no guarantee that these savings over a lifetime will be enough to provide an income. A significant disadvantage of choosing a pension fund is that it is caught up in excessive legislation, designed to protect investors – but costly and making the underlying assets vulnerable to government decision-making. This is underscored in this in-depth analysis by independent advisor Candice Paine, who picks up on Regulation 28 and whether it is eroding your pension fund pot. – Editor
Is Regulation 28 killing your pension fund?
By Candice Paine*
The short answer is no, not all by itself. But there are things you should know about Regulation 28 in particular and saving for retirement in general to make sure you actually reach that retirement goal.
As the South African economy slips into irrelevance globally, accelerated by Covid-19 the debate around Regulation 28 circles back more often. Regulation 28 of the Pension Funds Act limits how you can invest pension monies by very simply limiting equities to 75%, listed property to 25% and offshore exposure to 30%. There have been many critics of these limits for some time advising people to cash in pensions as soon as possible, usually on resignation or at age 55, and move the money offshore.
These options are available to you, but you need to understand the pros and cons of doing this.
Saving in pension funding vehicles is enormously tax efficient. An individual is able to save up to 27,5% of the greater of taxable income or remuneration each year (capped at R350 000) which then reduces their tax paid. In plain English, if you are in the 45% tax bracket and you contribute R1000 to a pension fund, the R450 you would’ve paid in tax is allocated to the fund instead. This is a big saving in your favour.
Once invested, your capital grows tax free – even post retirement if you mature the fund and invest in a living annuity. Given that capital gains tax, interest on income and dividend withholding tax can onerous, this is another ‘free lunch’ to be taken advantage of.
And if you are an undisciplined saver being forced to save by virtue of your contributions to an employee-based pension fund is actually in your favour. If you can max the contributions even better.
The limits of Regulation 28 are increasingly becoming a major drawback to pension fund investing. 70% of your assets must be invested in South Africa assets. Whilst our yields are still attractive by global standards, we know that investing solely in fixed interest securities for the long term is not the way to get superior risk adjusted returns. Historically, equity investments have given you long term outperformance, but the jury is out as to whether the South African stock market will and can deliver into the future. The investable universe of the JSE is shrinking. It is no secret that a few dual listed companies have held up JSE performance over the past few years; other headwinds have been scandals, delistings, potential bankruptcies and the lure of capital to private equity or alternate assets i.e. away from the JSE. As the list of quality listed companies shrinks, so does investor choice and in fact would seem to encourage highly concentrated portfolios which introduces another risk.
This leaves just 30% of your pension fund to take advantage of global industries, innovations, technologies and sheer buying power not represented in South Africa. Not to mention as a hedge against the ever depreciating rand – the USDZAR was R6,58 in Dec 2010.
The other spectre hovering over our retirement funds is a possible change to prescribed asset requirements. Last week, when Minister Tito Mboweni addressed parliament, he stressed that pension funds should be used to finance infrastructure projects. He was at pains to say that any changes to Regulation 28 to accommodate this would be reasonable and that the projects should give investors ‘safe’ returns. He is particularly focused on expanding the current definition of immovable property which allows a maximum of 25% of a pension fund to include infrastructure projects. If changes are implemented it will require pension funds to invest a portion of their assets in government infrastructure projects to support the country’s development goals. It is important to note that money isn’t physically removed from your fund. The prescription will be implemented through Regulation 28 which shall stipulate how your pension fund is invested with assets channelled towards government initiatives.
Facing these headwinds, how should you be thinking about retirement?
Whatever your decision, there are elements still in your control. Practising good investor behaviour will take you a long way – choose a strategy or fund or manager upfront carefully and do not chop and change. Let the strategy play out. This takes a long time. Watch costs. Start saving early. If you didn’t, increase contributions.
It is also important to note that not all your saving for retirement needs to be in a retirement funding vehicle. Just as you would diversify your portfolio, diversify the vehicles you save in. This gives you a lot more flexibility and will enable you to go beyond the investing limits imposed by Reg 28 if that is your need.
What you decide needs to be carefully considered. There is no one silver bullet and everyone’s circumstances are different. Your decisions could have large tax, cost and performance implications for you. You only get one shot at saving for retirement so make sure you are taking the right advice.
- Candice Paine is an independent financial advisor and an asset management consultant.
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