Many people are dependent on their company retirement fund for their future financial well-being. Yet many of us don't even know the name of our company fund, let alone what benefits we will get from it. Charlene Clayton looks at 10 questions you should be able to answer.
Are you one of those people who stares blankly when a financial adviser asks you some pertinent questions about your company retirement fund? Then it's time you asked your fund for some answers so that you can get to grips with your financial future.
For most people their retirement fund represents their biggest saving and it is frightening that so few take an interest in their funds. Most people don't even know what benefits they or their dependents can expect when they retire, if they resign from their companies or if they die or become disabled.
Your fund is legally obliged to give you basic information about your fund, how it works and the benefits you are entitled to.
This information should be made available to you when you join a company. You may have received it, but then you put it away in such a safe place that now you don't even know where to find it.
Even if you have the basic information, it's always a good idea to get an update on what's happening with your retirement fund.
The main purpose of a retirement fund is to provide you with benefits when you can no longer provide for yourself financially or to provide benefits to your dependants when you die.
The answers to the following questions will put you in the picture regarding you retirement fund assets.
1. To what kind of fund do you belong?
The structure of the fund, what you receive in benefits and how the benefits are taxed depends on whether you belong to pension fund or a provident fund.
If you belong to a pension fund, you can claim a tax deduction for contributions up to a maximum of 7,5 percent of your earnings.
If you belong to a provident fund, your contributions are not tax deductible. Pension and provident funds can be divided into two broad categories, namely, those with defined benefits and those with defined contributions.
* If you belong to a defined benefit fund, your employer effectively guarantees the fund's promise to pay a specified amount of money to you when you retire. This is usually in the form of a monthly pension.
This promise by the fund is calculated according to a certain formula which is based on factors such as the number of years you belonged to the fund and your salary at, or close to, retirement.
In these defined benefit funds, your employer carries the risk of poor investment performance. So if the fund's investments perform poorly, or when inflation is high (when salaries and therefore benefits are rising sharply in cost), your employer may have to contribute more than budgeted for in order to meet the benefit promise.
* A defined contribution fund is more like a savings account into which both you and your employer contribute a specific amount every month.
This investment grows over the years, but you don't know what your end benefit will be until you retire. This is because the end benefit equals the total contributions (yours and your employers) plus return on the investments. You also often have to bear a risk that, if expenses rise, the amount invested for your benefit drops.
If the investments perform well, you will receive more money and if it performs poorly, you will have less at retirement. This means that you carry the investment risk.
It is important to realise that pension and provident funds can be either defined benefit or defined contribution arrangements.
2. How much money is going into your fund every month?
To build up a retirement nest egg, you and your employer contribute money to whatever retirement fund is offered by your employer. The money is invested and you get to share in the investment returns.
Most funds today tend to be contributory funds with both the member and the employer contributing to the fund. Usually employees contribute about 7,5 percent of their monthly salary to the retirement fund and the employer matches that contribution.
Some funds are non-contributory, which means that only your employer makes contributions to the fund on your behalf.
The maximum amount an employer may contribute to your retirement fund for tax deductible purposes (in your employer's hands) is 20 percent of your salary.
On average though, the contributions are between five and 12 percent.
Bear in mind that your full contribution to a retirement fund is not available for investing. The fund pays investment costs and the costs of an administrator out of the contributions, a portion is used to fund the risk benefits (life and disability cover) and only the rest is invested.
3. How much money do you get when you retire?
If you have a pension fund, at retirement, you can take a maximum of one third of the total benefit in cash and the rest is paid as a monthly pension (or annuity). However, if the annuity is less than R1 800 a year you can take it in a single cash payment.
If you have a provident fund, you can take all your money in a cash lump sum. Some funds will allow you to buy a pension instead of taking the full cash amount as a lump sum, similar to a pension fund.
As to when you can retire, the rules of your fund will specify the minimum and maximum ages. Generally it is from 55 years to 65 years. Traditionally men retire at 65 and women at 60. The current trend among funds is to decrease the difference between these retirement ages. Early and late retirement is allowed by most funds, however, and you are not usually compelled to retire at a specific age.
4. What about tax?
Another difference between a pension fund and a provident fund is the way in which the funds are taxed.
You should remember that the tax advantages only apply to approved funds, in other words, to those funds that meet certain criteria stipulated by the taxman.
There are three distinct stages of a retirement fund and different tax rules apply.
Tax on contributions:
* Employer contributions: In the case of both pension and provident funds, your employer may deduct a contribution of up to 20 percent of your salary for tax purposes.
* Member contributions to a pension fund: Up to 7,5 percent of your salary is tax deductible.
* Member contributions to a provident fund: Your monthly contributions to a provident fund are not tax deductible. For this reason most funds are structured on a salary sacrifice basis. This means that your employer pays money into the fund before deducting tax off your salary.
Tax on investment buildup
The interest and net rental income earned by retirement funds is also taxed. The tax is paid by the fund, but indirectly you are paying it because it means a portion of your money is going towards tax.
Tax on benefits
* Pension Fund: You have the option of taking up to one third of your benefit as a cash lump sum at retirement and the rest has to be used to buy a compulsory purchase annuity or monthly pension. There is one exception to the one-third maximum lump sum rule. If you receive a total monthly pension of less than R1 800 a year, you can take your entire retirement benefit as a lump sum.
You are taxed on part of the cash lump sum. The portion of this which is tax free, is calculated according to a formula, while the taxable portion of the lump sum is taxed at your average rate of tax in the year of retirement and in the previous tax year.
The monthly annuity that you receive is taxed in your hands at your marginal rate (in the same way that your income is taxed). So what you pay in total will depend on your total income. You may, for example, receive income from investments that you have made or from occasional work such as consulting.
* Provident Fund: The money that you contribute to a provident fund over the years cannot be deducted from tax, but it increases the tax-free ceiling that you get when the final benefit is paid to you. You do get a certain minimum amount free of tax and the taxable portion is taxed at your average rate of tax in the year that you receive it and the previous tax year.
5. Who is managing the investments of your fund?
If you are obliged to belong to a retirement fund, it makes sense that you should have some say in where you money is invested or who should manage your retirement fund assets.
There is a move in the industry towards individual investment choice but not everyone thinks it is a good thing. The less informed you are about financial matters and investments, the better it is to leave these decisions to the experts. The cost of pooled investments can also be lower leaving more of the pie for you.
To give you some choice, many funds are offering options such as a growth portfolio, a conservative portfolio and a guaranteed portfolio. You get to choose the portfolio that best suits you without having to make tricky decisions about the individual unit trusts in which you want to invest your contributions.
Where you do have investment choice it is vital that you get information about the investment strategies that will be exercised by the investment managers for each of the choices on offer.
6. What is your retirement fund worth?
In an effort to improve communication between funds and their members, the Registrar of Pension Funds has instructed all registered retirement funds to disclose certain minimum information to members. If your fund is registered with the Financial Services Board and cannot comply with the requirements, it has to apply for an exemption and has to give reasons why it cannot provide the information to its members.
At the very least, your retirement fund should give you a benefit statement showing the value of your fund once a year. Your fund can communicate benefit information to you more frequently, but once a year is the minimum.
The kind of information that the benefit statement must contain is also set down by the Pension Funds Registrar. This includes, your pensionable salary at the date of the statement, the date you joined the fund, the benefit that you are entitled to at normal retirement date, an explanation of how the benefit is calculated, what the rules are for fixed pension increases as well as what you are entitled to at death, what you would get if you stopped working because of ill health and what your withdrawal benefits are.
7. Do you get any money if you become disabled in an accident while working?
In addition to providing an income for your old age, a retirement fund may also pay out if you have to stop work because of ill health. Usually you do not get disability or ill health cover from your retirement fund but rather through a separate insurance policy between your employer and an insurer, if such a policy is offered at all.
The most common type of disability cover provides you with compensation when you can no longer, as a result of disablement, continue your own occupation or an alternative occupation. This type of disability cover usually pays out a lump sum.
A better option is what is known as permanent health insurance or income security cover. With this type of cover you are paid a portion of you salary, plus you and your employer continue making contributions to your retirement fund and may escalate these contributions by the inflation rate every year.
About half the retirement funds in South Africa provide benefits for temporary disability and about two thirds provide an income benefit.
8. Will your family be okay when you die?
Many employers provide death benefits to your family if you die while you are employed. In some instances, you may even get a funeral benefit, which can be used by your family to cover the cost of your funeral or by you to cover the cost of the burial of one of your family members.
Funeral cover is not provided for from within a retirement fund, but your employer may contract with an insurer outside the fund. The large number of members involved could make such funeral cover cheaper than if you took out a funeral policy on your own.
Death benefits from your retirement fund do not automatically form part of your estate and importantly, the trustees of your fund have total discretion and may even override your wishes.
They have to follow a strict process in deciding who gets your death benefits.
Although you may nominate a beneficiary who is not dependent on you, the trustees must take account of any of your dependants when deciding how to split any lump sum payable on your death.
If no dependants can be traced within a year of your death, the trustees must pay it to a nominated beneficiary. You can nominate anybody as a beneficiary, it need not be a family member. If you did not nominate a beneficiary to receive your death benefits while you were alive, the money will go to your estate.
9. What happens if you resign from your job?
Some funds only pay out your contributions plus a minimal growth, while more enlightened funds pay both your and the company's contributions after anything between one and five years' membership.
Funds have generally improved their withdrawal benefits in recent years to at least your contribution plus market-related returns.
10. Have you seen the rules of your fund?
The way your fund works should be spelt out in the rules of your fund and it is your right to get a copy of the rules. But be warned, the rules are not always written in easy to understand language. A progressive employer should give you a simple, one-page summary of the rules of your fund.
While the rules of your fund provide the backdrop to how your fund should operate, unfair rules can be challenged, as they frequently are, by taking up the issue with your fund and failing that, taking it to the Pension Funds Adjudicator, who has been appointed by the Minister of Finance, to resolve complaints between members and their funds or employers.
Remember that you are entitled to information about your retirement fund. If you are having trouble getting information from your fund, canvas your member trustees. As of December 1998 at least 50 percent of the board of trustees must be elected by staff rather than by your company's management.
John Murphy, the Pension Funds Adjudicator, is also making it increasingly clear that he will rule against retirement funds which fail to give their members the information they require to make informed decisions.