1 KEY THEMES IN A REVIEW OF THE PENSION FUNDS ACT, 1956 NATIONAL TREASURY Presentation to Portfolio Committee on Finance 15 February 2005.

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KEY THEMES IN A REVIEW OF THE

PENSION FUNDS ACT, 1956

NATIONAL TREASURYNATIONAL TREASURYPresentation toPresentation to

Portfolio Committee on FinancePortfolio Committee on Finance15 February 200515 February 2005

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PROCESS SO FAR• National Treasury pension reform document was released in December

2004, opened up for public scrutiny and comment

• Minister hosted a roundtable with industry players on 24 November 2004

• First presentation was done in NEDLAC 03 February 2005, follow up

discussion 17 February

• Today’s presentation sets the scene for future engagement

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OBJECTIVES• Plan for a regime that will be effective in the long term

• Improve efficiency, equity and fairness of system

• Enable and encourage South Africans to adequately

provide for their retirement

• Ensure that all employees have affordable access to

appropriate retirement funding vehicles

• Protect pension resources against corrosion (costs)

• Improve standards of fund governance

• Promote the adequacy of retirement fund provision

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BACK-DROP• Continued piecemeal amendments no longer desirable

• Worldwide paradigm shift from DB to DC has changed dynamics:

– risk shifted to employee

– education of trustees important

• South African retirement funding system broadly sound

• Growing consciousness for higher national savings

• Need to Take cognizance of recommendations of various commissions (eg.

Taylor, Smith, Mouton, Katz)

• Reconsideration of taxation on pension funds

We have opted for a systematic and holistic approach

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LANDSCAPE• Pillar 1: SOAP of R740 per month (means tested)

• Pillar 2: Large public sector DB funds, and mostly DC in private sector; hybrid funds; and umbrella funds

• Pillar 3: Private provision over and above Pillar 2 (eg. Retirement annuities)

Is this an optimal structure for South Africa’s conditions?

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MACRO BACKGROUND

1994 2000 2004

Unemployment rate (broad)

31.5% 35.5% 41.2%

Gross saving as % of GDP

16.9% 15.8% 14.8%

HH saving as % of disp inc

2.8% 1.2% 1.1%

Informal Sector (mln)

with agriculture

without agriculture

3.33

1.82

2.17

1.83

Employment (mln)

Formal

Total

6.80

7.97

7.43

11.88

8.76

11.98

Social grants as % of GDP

2.00%

(2.9mln)

2.50%

(7.9mln)

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COVERAGE• In total, approx 9 million individual members across

15 000 funds

– GEPF : 1.1 million

– Gauteng Building Industry Fund : 407,000

– Mineworkers provident Fund : 175 000

• Coverage in formal sector estimated between 66%

and 84%. Even the lower estimate is internationally

comparable

• Problem of high unemployment translates to poor

provision in the aggregate, hence greater burden on

the State

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LEAKAGE

• Sanlam surveys suggest 10-12% (net) of earnings

contribution for DC funds in 2004 for retirement,

against a gross of 16.5%

• Costs seem to be increasing (problematic)

• World Bank recommends contribution rate of 10-

13%

• Anecdotal evidence suggests leakage is a major

problem

– Increases future liability on State to provide SOAP for

greater proportion of population

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REPLACEMENT RATIO• Leakage implies replacement ratio at retirement will

be substantially reduced • To give some idea: assuming a net 10% contribution,

over 40 years with a real return of 3%, one would only achieve a replacement rate of approx 55%

• In other words, one cannot escape the numbers:– Staying invested (for a long period of time) is

important– A culture of saving for retirement needs to be cultivated– Investment performance is crucial, particularly for DC funds

• Need to minimise leakage

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Years of contribution

3% real return 4% real return

10 8,6% 9,0%

15 13,9% 15,0%

20 20,0% 22,1%

25 26,9% 30,6%

30 34,9% 40,8%

35 44,1% 53,0%

40 54,5% 67,7%

45 66,6% 85,3%

Assumptions: net of costs 10% of contribution goes to retirement

: R13,80 of capital buys R1 of pension at age 65

ILLUSTRATION

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KEY THEMES AND PROPOSALS

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ACCESS • Basic question: What can be done to increase

access?

• Compulsion on employer to provide a retirement vehicle or payroll facility

• Compulsory preservation on change of jobs

• Consider erratic employment (informal/seasonal)– National Savings Fund

• Costs in general are a concern and may inhibit access to retirement fund provision

– Increase disclosure

– Increase competition

– Explicit regulation of costs

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KEY BENEFITS• Preference for limited lump-sums, with the purchase of

an annuity on retirement – Challenge for provident funds

• Should pension fund offer ancillary benefits (eg. medical, disability)?

– Consistent with SA conditions?– Benefits from scale economies for the individual?– Ring fencing?

• Housing: Only guarantees and not loans from funds• Distribution of benefit upon death in accordance with

nomination of beneficiary form, else his/her will, else intestate succession

– Currently the nomination form only a guide

• Unclaimed benefits– Set up a central fund to trace beneficiaries/dependants– Unclaimed monies eventually revert to the State (SOAP)

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CAUTIONARY

• Success of proposals dependant on good regulation

• Landscape will have to change notably

• Re-engineering of regulatory framework

• Give more powers to regulator

• Significantly increase capacity of regulator

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GOVERNANCE AND REGULATION

• Recover monies removed from funds inappropriately• Power to remove trustees• Educate trustees• Formulate codes of good practice and codes of conduct• Better use of office of Adjudicator• Retain minimum 50% rule for member elected trustees• Deal with conflict of interest issues• Deal with intersection of labour and pension laws• Deal with umbrella funds• Shareholder activism: Exercise voting rights • Sanction investment managers, administrators etc. • Disclosure requirements to members • Permit trustees to be paid - at fund’s discretion

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INVESTMENT• Standard quantitative limits on asset classes

• funds may have own investment strategy that departs

from these limits, if approved by the regulator

• encourage but not mandate shareholder activism

(exercise voting rights attached to shares owned)

• Use of derivatives permitted only for management of

risk / income streams

• Link returns to inflation

• Socially desirable investment

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DISCLOSURE

• Concise, clear and meaningful

• Indicate how much attributed to costs

• Indicate how much is going towards member’s

retirement

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GOVERNANCE• Establish a specialist tribunal (or extension of

Adjudicator’s office) to hear pension fund disputes. – Any appeals against the tribunal’s decision to be made to the

High Court or FSB Board of Appeal

• Funds may only offer limited individual choice – Trustees ensure that majority of fund members can so

prudently elect

• Limit and disclose any potential conflict of interest; and any gifts/rewards or inducements given to trustees

• Trustees must review and monitor the performance of the fund, the mandate granted to the investment manager, and the appropriate investment strategy of the fund, given its membership

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CONCLUSION

• Many features of current legislation will remain

• Approach may conflict with profit maximisation motive

– Balance and objectivity necessary

• Judge outputs on the basis of the objectives set out

• Engagements will have to emphasise sustainability of pension

environment

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WAY FORWARD

• Receive views from the public and stakeholders

– Possibility of a roadshow

• Incorporate views received and revise document, a

final Government position released soon after

• Incorporate tax views, which National Treasury is

currently working on

• Commence drafting of new Act, using the Policy

Document as a base