JOHANNESBURG — Regular readers of this website would probably already have a good idea around what direction they need to be taking with their savings for retirement. But this piece by Solidarity’s Gideon du Plessis is yet another reminder of how important this is. – Gareth van Zyl
By Gideon du Plessis*
As a trustee of one of the country’s largest retirement funds and as a trade union official who is often involved in retrenchment processes, I notice time and again that employees do not provide sufficiently for retirement.
While modernisation in 1990 brought about a move towards defined contribution funds resulting in more flexibility and ownership, it also resulted in additional risk being shifted to members. Their investment in a retirement fund is for most working South Africans the largest investment they will ever own, and the consequences of irresponsible investment decisions will only be felt at the time of retirement when it is too late to do anything about it. In this regard, World Bank research shows that only 10% of employees make sufficient provision to maintain their standard of living after retirement.
Where members of defined benefit funds have a pension expectation of around 2% of their last salary per month for each completed year of employment, members of defined contribution funds expect to procure a comfortable retirement with a 75% net income replacement rate. The motivation for 75%, and not necessarily full income replacement, is based on the assumption that by the time of retirement employees would be debt-free and their children would have left home by then and will no longer have to be financially supported.
The extent to which employees themselves accept responsibility for their retirement from their very first payday is key to their financial wellbeing after retirement. That being the case, the general guideline is a contribution rate of at least 15% of total remuneration, over a career span of 40 to 45 years with net investment returns of 6% above the inflation rate over the longer term. Contributions of at least 15% are needed to procure a healthy income replacement rate after retirement. This percentage refers to pension contributions made by both the employer and the employee but does not include premiums for risk benefits such as death and disability cover as those are additional benefits that do not form part of a retirement investment.
Where members can exercise individual investment choice the advice of the fund I am involved in is that members should be prudent in exercising choices and that they should consider staying in a life stage option. The risk profile of a life stage option is usually structured to ensure the appropriate risk exposure throughout the individual’s life stages and to achieve the best possible outcome on the net income replacement rate.
Cautionary that is not heeded enough pertain to the impact that premature withdrawals have on retirement provision. Although modernisation of retirement funds improved the transferability of accrued benefits to a new employer’s fund, given that career changes are more commonplace these days, too many employees regard resignation or retrenchment as an opportunity to withdraw pension money to provide solutions for other financial problems. Such a step is understandable in cases where a long period of unemployment could lie ahead, but ideally, financial challenges should be addressed through the severance package, and if it falls short a partial, rather than a full withdrawal of retirement benefits, should considered.
Employees’ choice to use only a portion of their earnings as pensionable emoluments actually results in monthly erosion and it means that the income replacement rate that will be achieved will only apply to a portion of the actual earnings.
Offering voluntary severance packages to employees who are close to retirement has also become the norm during the first phase of retrenchment consultation processes. A severance package paid out as a lump sum often appears very appealing if combined with a pension pay-out. In such circumstances it is imperative to take pension provision very seriously and to seek expert financial advice. It is not the time to take all the money and invest all of it blindly in a business undertaking. Premature withdrawals are most certainly the main destroyer of retirement provision and the necessity of preservation must be emphasised.
Costs and fees charged to members’ investments could also make a significant difference to the end result. Such costs not only pertain to investment and administrative costs imposed during the savings cycle, but also include the cost associated with the transition from contributing member to pensioner. Although such costs may appear to be relatively low, an additional 1% per year over a contributing period of 45 years may have a material impact on the end result.
The National Treasury has already made progress with reforms in the retirement industry, and the recent promulgation of three new regulations to promote retirement provision, should bear positive results for members of retirement funds. However, it does not obviate the responsibility South Africans have to provide for their own wellbeing; nor does it make that responsibility easier. At the same time, there has to be awareness that to achieve a comfortable retirement, retirement savings must be preserved throughout until retirement is reached.
- Gideon du Plessis is Solidarity’s General Secretary.