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Retirement Woes Mount as Workers Live Longer

By Michael Omondi


June 26, 2007

Kenya is facing a beautiful problem that is fast becoming a nightmare to the pension management industry— workers on average are now living longer than they were expected.

While official figures estimate that someone born is Kenya is likely to die at age 49, counting the grim reality of the Aids pandemic, actuaries say that many senior citizens are living up to age 78.

An extended life span is coming with one big problem for companies that sponsor defined benefits pension plans:— How to manage the assets invested to cover future pension liabilities to match the estimated life span of the worker.

With people living longer than expected, companies will have to absorb huge pension liabilities—that were unbudgeted for— and which are expected to climb further. The Kenyan government is especially a big victim of this phenomenon given that it guarantees pension payments from the taxes it collects every year.

At individual level, with rising costs of living, surveys by the Retirement Benefits Authority (RBA) have found out that many Kenyans who started retiring in the 1990s are finding out that they are going to outlive their life savings.

The problem is also affecting senior citizens under defined contribution scheme where companies cover their exposure to workers living for too long by buying annuities, a product that guarantees a regular income for a lifetime. Most annuities guarantee to pay a surviving spouse a regular income for 10 years after the death of the pensioner.

However, it has become normal to see surviving spouses outliving the 10 years and spending the rest of their lives as dependants on family since they have no money.
In the past, outliving one’s life savings was not a big issue in Kenya because there was a large extended family, but as the social fabric breaks, it is becoming a major headache to dependants.

It is now typical to find professionals spending all their life savings in five years after retirement and only having to fall back on meagre pensions from the Government and companies which are not adjusted to factor the rising costs of living.

While most of the company provident retirement benefits—which are usually as little as Sh40,000 in the case of the National Social Security Fund—are usually sank into small businesses that fail in two years, it has not helped that Kenyans do not have a strong retirement savings culture.

Buoyed by improved medical care, life expectancy for Kenyans aged 55 years has been growing over the past decade and policy makers anticipate that it’s set to grow further in the coming years.

This contrary to earlier forecast made in the 90’s that indicated that life expectancy after the retirement age of 55 years was set to shorten due to inadequate retirement savings and diseases.

But statistics from the UN show that life expectancy after 55 years has increased from 18.2 years to 22.5 years in 2005, an indication that on average, pensioners are likely to pass on at 78 years up from 73 years over the period.

This means five more years of pension, which is good news for the pensioner, but potentially catastrophic for the pension providers who will have to bear additional pension cost they had not factored in their books.

The UN expects the Kenyan life span to grow to 28 years by 2050 on the strength of rising standards of living.
Actuaries have raised the red flag that the higher than expected life span of pensioners would put an extra burden on pension schemes as they face extra liabilities resulting from the extended payout period.

“Pension providers of defined benefit schemes will have to cough more from their pockets to meet the expected pension costs,” said Mr Leslie Okudo, the managing director of Actuarial and Benefit Consultants.

In a defined benefits scheme, the employer guarantees the retirement benefit, which was normally agreed at the start of employment, and the amount paid is not influenced by the schemes accumulated wealth, a move that make the employer shoulder the deficit in the scheme.

With the expected rise in the pension bill, it’s clear the guarantors to the scheme would have to absorb huge pension bills in the coming years in a period when most firms are in the race to cut their pension costs.

Currently, under the new accounting standards, pension liabilities are expected to be reflected in the balance sheet, which means a huge deficit would help reduce the quality of the firms’ financial positions, a scenario likely to grip more than half of the 144 defined benefits schemes whose funding levels have remained in the deficit.

The spate of corporate lay offs in the 1990s did not help the situation because it removed a constant stream of contribution income from a larger and younger workforce.

In Kenya today, the pension liability in parastatals has been worsened by the fact that there are too few young workers supporting a retired workforce.
This comes at a time when the industry’s pension liabilities mainly of state owned firms have far outpaced their assets, leaving the parastatals with a funding deficit to the tune of Sh52 billion.

Mr Machira says the deficit does not pose a huge challenge to the industry, but warns that should it mount it may result in funding difficulties for most of the schemes.
“It is not a big issue now, but it’s something people should ponder about as pension problems do not balloon at once” said Mr Charles Machira, an assistant manager in charge of compliance at Retirement Benefits Authority.

He noted that firms can increase the retirement age of their employees or increase contributions to the pension schemes to help soften the impact of the additional liabilities.

This is highly unlikely as a string of firms are in the race to shift from defined benefits schemes to defined contribution schemes, where the pensioners bare the risks burden as opposed to the sponsors or employers.

Though the defined benefit plan was popular in the 1960s and 70s, it has grown out of fashion in this new century as businesses and governments faced cost cutting pressures.

For instance, faced with a pension liability of Sh9.3 billion, Telkom Kenya has applied for conversion and so has Kenya Pipeline Company.

Globally, corporate behemoths like General Motors and Ford are facing bankruptcy because of pension obligations accumulated under the defined benefits plan. In the US, where the government’s Social Security system which operates some form of defined benefit plan is expected to go bankrupt in a few decades, there is a huge political debate at the moment over how to reform the pension system to avert a catastrophe.

Similarly in Kenya, faced with a growing pension bill that will top Sh24 billion in this new fiscal year and rising at 15 per cent annually, Treasury is worried that the pension crisis is going out of hand.

Actuaries estimate that the pension bill might rise to a range of Sh70 and 80 billion by 2017, a situation that could force the government to increase taxes aggressively to match the payments or the entire system could go broke if the economy does not grow much faster than anticipated.

A move that looks set to starve off the critical sectors such as education, health and fixing the dilapidated infrastructure that are baying for more funding.

Faced with these pressures, the Treasury had opted for a funded contributory pension scheme to keep the bill under control and provide an adequate retirement nest egg for its employees, whose pension payouts have remained low. But this has since been rejected by civil servants as entry to the scheme was optional

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