South Africa

February 16, 2007

The government is looking to create a compulsory earnings-related social security system that will include retirement benefits for all citizens. It will consult all interested parties. And there are unlikely to be shocks to the pension fund industry.

That much is clear from President Thabo Mbeki’s State of the Nation address and industry commentators -- although further details of the government’s plans are expected to be revealed in next week’s budget speech.

In his address, Mbeki spoke of comprehensive consultation with all social partners and the need to explore a social security system, indicating that nothing has been set in stone.

South Africa is unique in having a reasonably healthy voluntary pension fund industry with higher coverage of employed people than many leading economies -- but no state involvement in providing universal retirement benefits.

The old-age pension that forms part of the state’s basic welfare programme is only available to the very poor and is funded from current budget revenues.

Judged by the World Bank’s “multi-pillar” approach to pension provision, South Africa has the first and third pillars -- the welfare-based old-age pension and private savings. The second, which the government wishes to build, will require employed citizens to contribute to a state fund, which will give them a minimum benefit on retirement, along British lines.

This is not simply an altruistic endeavor; it is driven by the state’s growing burden of support for the elderly. The second pillar would take the pressure off the social old- age pension system.

Tim Cumming, MD of Old Mutual Corporate, said that while current state pensions reached two million people, many did not qualify, because they were means-tested.

Although about 50% of employed people belong to a pension fund, many do not save enough, or cash in retirement funds when moving jobs. Many work for small companies without pension funds or earn too little for their own retirement provision.

Cumming said the government wanted to ensure adequate savings on retirement and provide for cross-subsidization. But, he said, it was unlikely that it would end tax benefits on voluntary savings as a way of boosting social pensions, as suggested in the Sunday Times.

“If you take away the tax benefit of pension savings it will decrease take-home pay and provide a huge injection into the fiscus, which is doing fine already,” he observed.

Cumming said it was possible that the government would phase in changes over time and introduce a cap on tax deductions, as in Britain. In South Africa, a similar system already applies to the tax treatment of medical aid contributions.

He also believes the government is unlikely to force all citizens to invest their full pension in a single fund, and will offer a choice, as in other countries.

Although people could still contribute to private schemes, every citizen was likely to be compelled to fund the state’s social security scheme, either by a specific allocation of part of their retirement funding contributions, or by cross-subsidisation through differential taxation.

As part of the phase-in, Finance Minister Trevor Manuel could in the short term change provident fund legislation. In the original White Paper on pension fund reform, the treasury spoke of the need to review provident funds.

Currently an employee with a provident fund can cash in his or her full fund on retirement. The payout is taxed, but in contrast with pension funds, the purchase of an annuity is not legally required.

Colin Bullen of Lekana, an employee benefits company, said the government might introduce measures requiring provident fund members to purchase annuities on retirement.

The next step would be to prevent employees from gaining access to their pension or provident funds until retirement -- a potential flashpoint that sparked a spate of strikes in the 1980s.

Bullen said this was a particularly sensitive issue for trade unions, which believed workers should have access to their pension contributions to deal with life crises.