Closing the retirement coverage gap
Ever since the then Life Offices’ Association (LOA) popularised the concept of a “gap” in the market for domestic life insurance, other industry stakeholders have readily adopted the term. It cropped up again yesterday – 12 October 2010 – at a retirement reform seminar jointly hosted by the Association of Savings and Investments (ASISA) and the Actuarial Society of South Africa (ASSA). In his presentation titled Closing the Coverage Gap – Access for All, Johan Schreuder shared details of a possible private sector solution to government’s social security reform dilemma. The savings model was produced by a seven person ASISA work group tasked with designing a simple fund in an attempt to fill the retirement coverage “gap”.
South Africa’s savings problem has always been one of coverage. Drawing from employment statistics supplied by Old Mutual 2008, the Quarterly Labour Force Survey 2008 and the 2006 Pensions Data Survey released by the Financial Services Board, Schreuder estimates that only5.8 million of the country’s 9.3 million formally employed citizens enjoyed some form of retirement provision. “Between a million and two million of our fellow citizens are employed, earning a salary, but not making a contribution to retirement savings,” noted Schreuder. Challenges to achieving full pension coverage – regardless of the eventual solution – include the growth in the informal sector, the number of formally employed who don’t make any retirement provisions and unemployment.
A cup half full
The model developed by the ASISA workgroup had to take into account systems already in place in South Africa. They acknowledged the retirement benefits paid out by the Social Old Age Grant system to all South Africans (subject to means testing) from the age of 60. They also considered the benefits available to employed individuals thought the Workman’s Compensation Fund and Unemployment Insurance Fund. The solution also had to address obvious flaws such as no compulsion, no auto-enrolment and no forced preservation. And – of course – the cost issue had to be addressed too. Schreuder said: “Retirement benefits are expensive, not only in fees and costs, but also for people who are struggling to put food on the table.”
From this starting point the team built – step for step – a GAP Fund to address retirement coverage shortfalls. The aim of this fund was to give greater accessibility for those who don’t already belong to a retirement fund. The GAP Fund would offer a low cost unitised investment savings account, be administered in the name of the member, cater for regular ad-hoc and/or matching contributions, offer reliable inflation-plus returns, provide limited liquidity regardless of age and offer a contributions booster on early death.
Features of the Gap Fund
For the fund to succeed it would have to accommodate multiple employers, ad-hoc contributions and anonymous donations. The team devised a central multi-managed investment fund solution which offered the same “safe” return for all members by investing in inflation-linked and government-linked bonds. The team chose to address the life insurance aspect – an important benefit for this market segment – as a contribution booster rather than a lump sum. Upon death a contribution would be made to the fund based on the age of the deceased. It was hoped these standardised benefits could be offered without underwriting and with a very short waiting period.
The magic of the solution is it would be based on contributions rather than salaries. Members would have complete choice and portability of administrators. Schreuder believes the system would work without the traditional “brands”, perhaps turning to trade unions or church groups as administrators. Enrolments would come from employers or by the members themselves. And there’s chance for future incentives from government, resulting in a “1 + 1 + 1” system, with contributions from employee, employer and government.
If this simple model is successfully implemented then an individual earning R60 000 per annum and contributing 15% of gross salary for 30-years could effectively double their replacement ratio (form 20% to 40%) provided the means test is abolished.
Perhaps “simple” needs reconsidering
We couldn’t resist a wry smile when the final presentation slide flashed up on the screen. By this time the “simple” Gap Fund had morphed into a complex web of governing bodies, auditors, trustees, investment managers, life insurers, administrators and members – all hovering over a portfolio of unit trusts – which would no doubt boast their own arsenal of trustees, administrators and fund managers. Simple or not, members were going to pay dearly to plug the retirement gap!
Our guess is the model derived by the seven member ASISA team is as simple as it can be within the existing financial services space. And that begs the question: Is there another way to plug the retirement coverage gap?
Editor’s thoughts: We’re certainly not experts in the design and administration of retirement solutions, but we can throw in our two cents occasionally. Today’s moment of madness: What if the local life industry gets together and designs, implements and administers a national social security system [Tier Two of the conventional retirement funding model] 100% free of any charge or fee to the benefit of all South Africans? It flies in the face of conventional capitalism, but if companies view it as a grand social responsibility investments it might just work! Add your comment below, or send it to [email protected]
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