Simplifying pension headaches
New rules are meant to help pensioners figure out what to do when they retire. But it’s still no simple process
Life should get easier for people who find choosing the right pension confusing, thanks to new default regulations. Since March 1, all pension funds have to have a "default investment plan", which automatically puts members into a portfolio chosen by the trustees.
The new rules also force people, when they resign from their job but don’t opt to take the cash or move their savings to another pension fund, to preserve their capital inside the fund. If they don’t want to preserve their savings this way, they need to inform the fund in writing.
Andrew Davison, head of advice at Old Mutual Corporate Consultants, says this should help improve SA’s high rates of cashing in pension capital, which has reached 90% in the current poor economy.
"For most people, retirement only becomes a reality when they reach 50," says Davison. "A large majority of people, from all income groups, cash in in their 20s and 30s."
Up to now, pension funds have washed their hands when their members reach retirement. Members were expected to buy an annuity on the open market, or speak to a financial adviser.
It is no surprise that living annuities (see graphic), in which retirees decide how much of their savings to reinvest in the market and how much they’ll take as a monthly sum, account for 90% of the annuity products sold.
By contrast, guaranteed life annuities, which provide a predetermined monthly sum that cannot fall based on market performance, barely get a look-in even though they provide a more secure income for life.
As it stands, the National Treasury is uncomfortable with the lack of longevity protection in living annuities, in which your capital can fall to the point where it cannot pay an adequate monthly pension. What mitigates this, to some extent, is that in a living annuity, the reinvested capital can continue growing, which is essential to fund a retirement that could exceed 30 years.
Fund trustee boards are now expected to provide a recommended annuity option for the members of their pension funds.
Sygnia CEO Magda Wierzycka says these are not strictly "defaults", as members have to opt in rather than opt out.
Sygnia has tried to combine the best features of living annuities and a guaranteed fund through its Sygnia ForLife living annuity.
Wierzycka says that up to the age of 65, people who have this product are 100% invested in the market through a conventional living annuity; at age 66, 10% of the money is then used to buy units in the Sygnia Lifetime Income Portfolio, underwritten by Just SA. It is a with-profit annuity in which bonuses are determined by the returns from the Sygnia Skeleton 70 Fund, a balanced fund which uses index-based building blocks and is 70% invested in equities. Every year up to the age of 75, a further 10% of the capital is moved to the income portfolio, but this can be altered for each client.
There are other interesting products out there too. Just SA, run by former Metropolitan Life actuary Deane Moore, is the most active player in the "impaired annuity" space. It offers a higher income not just for smokers, but also for people who earned lower incomes over their life, as well as underground workers or those with life-shortening illness.
Alexander Forbes also offers a hybrid of a living annuity and a with-profit annuity, a low-risk option in which part of the money is invested in the market and a "bonus" is declared each year based on the performance of that fund.
With-profit annuities barely feature in the retail market, but they have been very popular with institutional clients, as they combine a guaranteed lifetime income with the potential for reasonable increases.
Still, it seems inevitable that some SA pension funds will opt to make living annuities their default option. But Davison says this will be discouraged. "To be sustainable, the annual drawdown rate for a living annuity must be no more than 4.5% at age 60 for women, and increasingly modestly after that."
Liberty Corporate’s Braam Naudé says it is dangerous to recommend a guaranteed life annuity as the only option. He points out that while members can move out of living annuities at any time, they cannot switch out of guaranteed life annuities.
But there are clarifications coming from the Treasury, as it has concerns that many of these products come with high fees. Trustees will now be obliged to consider an index-tracking option, which is meant to lower costs.
The problem is that many of the index-tracking options available for pension funds are expensive. Naudé says: "We can try to reduce fees and limit annual drawdowns, but we aren’t tackling the problem, just the symptoms. The problem is clearly insufficient saving."
Naudé says retirement funds provide attractive savings for income taxpayers, as contributions are deductible and investment returns are tax free. But it makes no sense for people who aren’t earning an income, like retirees, to keep their money tied up in a fund.