Compulsory retirement funding preservation - can it work?

The law allows retirement fund members to withdraw their accumulated capital when resigning from a pension or retirement fund. Given the high level of mobility during one’s working career – either by career-driven job changes or as a result of retrenchment – the amount of capital available at retirement becomes considerably eroded.

One of the ways to tackle the withdrawal habit would be for government to enforce preservation in the retirement funding space. Unfortunately the previous attempt to implement compulsory preservation, back in the 1970s, resulted in widespread riots and general opposition from union workers.

Their reaction can be blamed, in part, on the poor levels of trust in the retirement fund industry at the time. In those days there were no member trustees and little transparency with regard funds’ administration and investment activities. Of course the penchant to live in the "here and now” rather than save for an event three decades in the future exhibited then too.

A strong argument against compulsory preservation was – and remains – that there is little point in storing up funds for retirement when current financial hardships threaten the fund member’s home – or the ability to provide food for the family.

But the debate is gathering momentum once more. Treasury and government have started making noises about instituting some form of compulsory preservation – soon! Will it work this time? And is government intervention the right solution?

On the one hand, one can sympathise with the authorities, who are trying to alleviate the burden of looking after the aged. Existing tax incentives aimed at promoting savings have little, if any, effect on lower-income earners. In addition the current limitations on accessing capital (at least until age 55) are largely ineffectual, because they can be circumvented by early withdrawal.

Tax penalties on withdrawal will not deter someone in financial distress. In many cases the withholding of tax on withdrawals simply magnifies the problem, reducing the amount of cash available to the retiring fund member. We also have to accept that a person falling on hard times who is unable to access his retirement savings as a "bridge” will turn to the government for support anyway.

On the other hand, critics will raise the issue of a "Nanny State” in which government interferes in the affairs of its citizens rather than letting them take actions appropriate to their unique financial circumstances. People will come up with a plan to circumvent whatever legislation is put in place – especially if they are in a tight spot!

Any move to compulsory preservation will meet with considerable resistance. It could also result in employees putting further pressure on employers to do away with retirement funds, thereby having the opposite effect to the desired outcome.

A compulsory state scheme combined with forced preservation should solve the dilemma, provided it is structured, implemented and managed properly. But this solution has its detractors too. A state-run retirement fund may "lull people into complacency” on the basis they believe the compulsory scheme will provide adequately for their retirement. This outcome is almost certainly not achievable.

The retirement savings environment will suffer further if the proposed retirement reforms place an additional burden on financial intermediaries. Hard-working advisers currently play a huge role in increasing the level of retirement saving.

Even if it is possible to ensure that people have sufficient savings at retirement, one has to face the challenge of trying to educate older people who have never had the responsibility of managing their finances, to arrange their affairs suitably in retirement.

This suggests that the answer lies in building citizens’ understanding of finances rather than legislating specific financial behaviour. In this regard education is a critical function performed by the intermediary, with limited recognition.