The treasury has made it clear that it is concerned about South Africans’ lack of savings and its current discussion documents about reforming the retirement sector are intended to promote greater saving.
But the large blue-collar or lower-income sector, and if possible the large informal sector, will have to be brought on board if the treasury’s plan to increase retirement saving is going to succeed.
Only six million people out of a population of 51.8-million belong to a retirement fund, suggesting there is a lot of room for some savvy retirement companies to come up with suggestions for those less catered for, such as the very large sector of low-income employees.
In mid-July, the treasury released its latest retirement reform paper on charges in retirement funds, Charges in South African Retirement Funds.
The treasury found that local retirement funds were expensive compared with global norms. Old-generation retirement annuities were the most expensive out of the plans reviewed.
New-generation retirement annuities were found to be marginally cheaper and commercial umbrella funds slightly cheaper still, but all were found to be relatively expensive.
Expensive risk benefits
Some of the reasons included: that there were too many small funds that could not benefit from economies of scale; preserving benefits on retrenchment and resignation was voluntary; fund membership was not compulsory for all employees; and, of greatest concern for the treasury’s plan is that lower-paid members had relatively more expensive risk benefits.
Daniel Acres, chief executive of investment management and research company Prescient Life, said that one way to reduce the high costs incurred in the retirement sector would be to introduce a “default” retirement option to cater for the “lower-end market”, in particular blue-collar workers, which would not have several investments to choose from but rather have a single appropriate investment selected by a trustee or financial adviser.
“The living annuity option does not make sense for the lower-income sectors. An alternative is needed and the treasury is aware of that.”
He submitted this proposal and others for consideration, as have many other fund managers looking for ways to make retirement cheaper.
What concerns Acres is that lower-income workers are going to need special vehicles to make retirement funding affordable.
Discussions about the retirement sector have revealed that employees, both high income and lower income, are often confused by retirement options and, because retirement is voluntary and the importance of saving for it is not well communicated, particularly to lower-income employees, staff members will often not invest in a retirement plan, or they will remove their money when they leave a company and not preserve those funds.
What happens on retirement
“What tends to happen is that, on retirement, staff will buy a car or something like that and then the rest will be given to the community to invest in the form of a stokvel and the community will look after them.
“Now this works well when mortality is high, like an area servicing the mines, but longevity is improving and, for those people, a community investment will not cover medical or inflation costs,” he said.
Acres said it was possible to get away with the lowest cost default option for staff if the fund was cleverly designed by a trustee or adviser.
“If those with special needs, like Muslims who want sharia options, or someone with impaired health, need to be specially accommodated, then those staff members can opt out of that option.”
Sometimes, he said, it might be better to offer less choice and, for the more financially astute, there could be a variety of products available, with higher risk-taking options.
Acres said, for the informal sector, a co-contributor option might be a preferable option.
Forced preservation a good idea
“It has worked in the United States around education, where, for every rand contributed by a member of the public, the government contributes a rand, but it is a very expensive option. And the question facing the government would be how to fund their contribution without lessening the tax break for the upper end of the tax bracket.”
Acres said forced preservation was a good idea but only where there was a first tier of social security. “It’s not good if a person has a pension but is starving,” he said.
The treasury’s research also showed that hidden charges were also a problem, particularly for low-income earners.
“Annual recurring charges of 2% of assets under management can reduce a member’s retirement benefit by some 40% over 40 years of employment,” Acres said.
The treasury also found that fees were not sufficiently disclosed, and there was a tendency to shift from upfront charges to recurring charges, which some members do not detect and the increased costs of which are not immediately obvious.
Clients were also found to have been misled by other hidden costs. Funds, for example, can offer low administrative fees, which make them appear a good deal, but increase the investment management fees.
Acres said one solution would be to encourage fund consolidation into umbrella funds and to put pressure on trustees to improve fund governance.
“Strengthen regulations by issuing standardised documents such as fund rules, investment mandates, service-level agreements and codes of practice,” he said.