The two-pot system kicks off on Monday in earnest. I’m sure many funds will be ready for the deluge of members — hardworking South Africans who have been subject to hard times thanks to successive ANC governments’ spectacular mismanagement of the economy and a global inflationary crisis — looking for some respite from the hard knocks. Some funds won’t. Especially, I’m told, the security industry fund.
Some of the windfall will go to conspicuous consumption. Some will go to paying down debt to escape the crushing usurious vice of the mashonisas. Much of that is short-term noise. The long-term impact of this overdue reform of our retirement system is arguably as big, if not bigger, than the shift from defined benefit to defined contribution funds. Let me explain.
I’ve been travelling with the country’s largest retirement fund administrator, Alexforbes, for the past two years, facilitating its Hot Topics discussions with retirement fund trustees and principal officers. The clever actuaries inside Forbes have had a clear and consistent message over this period. Modelling the impact of the two-pot system leads to between a two and two-and-half times better outcome in retirement over a 40-year period, assuming one starts squirrelling away from age 25 (which we know most people don’t, but I’ll come back to that).
How can that be, given you are allowing people to dip into their retirement savings? It basically all comes down to what is referred to as preservation in retirement industry speak. We are notoriously bad at it. When we leave our jobs, we cash out our retirement savings, and generally don’t reinvest the money.
The implementation of the two-pot system is the culmination of work that began almost 15 years ago and was championed at the time by former special adviser to the Treasury, David McCarthy. I recall hosting McCarthy on my show in the early 2010s, when he was on his quixotic crusade to enforce mandatory preservation.
The unions were having none of it though and railed against the idea of having their money locked up by the state until age 55. One can sympathise with labour’s plight to an extent. One worker in SA supports up to eight more individuals. Unemployment and grinding poverty send a never-ending stream of blue-collar workers into the mincer of the mashonisas, their savings sausage a feast for the unscrupulous.
McCarthy eventually dismounted his crusade and moved into academia, with only some of his recommendations forming part of the gradual suite of regulatory changes up until the Covid-19 pandemic struck — including harmonising tax benefits between pension and provident funds, cost efficiencies, introducing curated default options and retirement benefit counselling. These reform proposals were initiated by the policy document: “A safer financial sector to serve SA better”, released and endorsed by the cabinet in 2011, and spearheaded by McCarthy.
Covid-19 provided the pressure to finally crack the preservation nut. The extent of our broad savings crisis was laid bare, and unions and government finally caved to the idea through a quid pro quo settlement. You can give members access to one-third of their retirement savings during their working life but two-thirds must now be preserved. That’s quite an important must.
It’s not just blue-collar workers who don’t preserve. It used to also be that when white-collar workers left their jobs that HR would usually default to cashing out the group fund to avoid the tedious paperwork of shifting funds into a preservation fund or new scheme. From Monday all that changes. A choice will have to be made about where to place two-thirds of those funds on resignation.
In a country with an admittedly large, but painfully inadequate, tax and redistribution scheme through our 28-million social grants, today heralds a great victory and puts us on the road to deepening our savings pool, which as Prof Adrian Saville often points out, is the key to unlocking our long-term economic potential. The thing is much more needs to be done if we are serious about boosting retirement savings in SA.
First, we need to save more. Now, the average contribution rate of 12.9% (after costs and risk benefits) by members of retirement funds is woefully inadequate to achieve the ideal 75% income replacement at retirement.
Second, there is an undeniable link between debt levels and retirement savings. The Alexforbes Member Insights from 2021 revealed that members had a debt-to-income ratio of 69%, with 6% of members at high risk of financial stress — particularly millennials. To combat this, robust interventions should focus on budgeting, debt reduction and fostering healthy financial habits, starting with teaching these skills in school.
Lastly, while most formally employed individuals are adequately covered through formal retirement arrangements, there are gaps in coverage for certain groups. Solutions are available, such as auto-enrolment into a fund for all formally employed people, including contractors; abolishing the means test for the state old-age pension at retirement, which now acts as a disincentive to save; and tailored interventions for the informal sector. Many other countries have wrestled with similar challenges in the informal sector though, often with limited success.
If we’re to ensure a secure retirement future for all South Africans, these issues must be addressed head on. The two-pot system is a start, but it’s just that — a start.
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