In terms of a controversial section of the Pension Funds Act, the trustees of your retirement fund are obliged to ensure that all your dependants - from a former spouse, parent, parent-in-law or child born out of wedlock - benefit from your retirement fund savings when you die, whether you name them as beneficiaries or not. Critics say Section 37C is "overly paternalistic" and poses problems for trustees.
For the most part, the government considers you responsible enough to decide who will get your assets when you die. But there is one major exception, and that is your savings in a retirement fund as well as any life assurance cover that may be attached to your retirement fund savings.
Effectively, in terms of Section 37C of the Pension Funds Act, the needs of your dependants override your decisions on how your savings should be distributed.
Whether you are in retirement or not, your retirement savings will probably account for the major part of your financial worth when you die. So, as a result of Section 37C, you have little control over the greatest part of your wealth.
The trustees of your retirement fund can even ignore conditions you place in your will about how your savings should be disbursed. The trustees are responsible for deciding how to distribute the death benefits attached to your retirement fund savings.
The person who, on your death, becomes the guardian of your minor children may also be treated as a child as he or she may not be given control of the retirement assets that have been earmarked to support your children.
The law, through the Maintenance of Surviving Spouses Act, provides for the protection of dependent surviving spouses, and dependent children also have the right to claim maintenance.
However, the definition of dependants who may benefit in terms of Section 37C of the Pension Funds Act extends beyond your direct dependants, such as your spouse or dependent children, who have rights in terms of your will. Under Section 37C, any dependant - including a former spouse, a parent or parent-in-law and children born out of wedlock - may have a right to receive benefits.
Richard Krepelka, the chief executive of trust company Fairheads, says Section 37C overrides the freedom of testation (the freedom to decide who gets your assets). When it comes to retirement fund benefits, the government is of the view that all your dependants must benefit from your retirement savings when you die. "This is why there are tax concessions on retirement savings and risk benefit premiums," he says.
Krepelka says the government wants to ensure that neither you nor your dependants become dependent on the state. In other words, the state does not want to take the risk that you will behave irresponsibly and leave everything to the proverbial cats' home.
He argues that Section 37C does offer some benefits. For example, if you were declared bankrupt and your retirement savings formed part of your insolvent estate, the money would be used to pay creditors and there may be nothing left for your dependants.
Section 37C does not entirely disregard your desires on how your retirement savings should be distributed when you die. You are entitled to name (and should do so annually) the people you wish to benefit from your retirement savings, and how much each should receive. But this is only a guide to your trustees.
The trustees of your retirement fund must take your wishes into consideration, but they will regard them as a guide only, particularly in identifying dependants. Your trustees have to act within strict legal parameters, spelt out in the Pension Funds Act and any rules or guidance policy of your retirement fund. The trustees must also take into account a number of rulings by the Pension Funds Adjudicator.
Although Section 37C accounts for only one page of the Pension Funds Act, it poses a number of problems for retirement fund trustees.
Krepelka says trustees have three duties when it comes to deciding on the allocation of the benefits of a deceased member. These are:
- To identify all dependants;
- To decide how much each dependant should receive; and
- To decide how the amounts will be paid.
This may seem simple, but Jonathan Mort, the chairman of the Pension Lawyers' Association and a director of corporate law advisers Edward Nathan, says allocating death benefits from a retirement fund poses numerous problems. For example, there may be more than one death benefit payable in respect of one person (from an occupational retirement fund, a preservation fund, or one or more retirement annuities), and the boards of these funds may adopt different approaches to the distribution of the death benefits.
"There is no consistency of approach in both the method for determining who should benefit from a death benefit or the manner of payment," Mort says.
He says trustees must apply their minds to each of the three duties mentioned above if they want to avoid legal action against themselves and their funds.
Identification of dependants
In identifying all dependants, trustees cannot merely rely on a beneficiary form signed by the deceased member. Mort says the trustees must establish "the legal and factual dependants of the deceased member at the time of death".
Krepelka says this is not an easy task and is made more onerous for trustees by the Aids pandemic, because the disease has claimed so many lives and left so many dependants. Trustees must weigh up the cost to the fund (and therefore its members) of having to identify all the dependants, against the limited resources available to the fund.
Who gets what?
Mort says generally dependants have a superior claim over the people you may nominate as beneficiaries but who are not dependants. Also, not all dependants are necessarily equal.
Krepelka says trustees are guided by the Pension Funds Act in determining who are the dependants of a deceased member, and also in determining the percentage of funds that they will receive.
Mort says the award of benefits to each dependant will be determined according to his or her current and future dependency on the deceased. Thus, a spouse will generally have a greater award than a child, because the dependency of the child should end when that child has completed his or her education.
Sanlam has come to the rescue of trustees of retirement funds by designing a calculator to help trustees decide on dependants and the level of dependency.
Kobus Hanekom, the head of Sanlam Employee Benefits' consulting division, says the calculator has been based on legal precedents built up in court cases involving the dependants of victims of fatal motor vehicle accidents.
In the calculator, the claims of dependants are first established before taking account of other beneficiaries, such as those based on the "freedom of testation principle" using either the beneficiary nomination or the adjusted laws of intestate succession as a basis.
Hanekom says it takes three hours to explain to fund trustees how the calculator should be used.
Payment of benefits
Mort says Section 37C sets out three methods of payment. These are:
- Direct payment to the beneficiary, or, if the beneficiary is a minor, to the legal representative in the form of a guardian; or, if the beneficiary is under curatorship, to the curator bonis; or, if the beneficiary is insolvent, to the trustee;
- To a trust for the benefit of a beneficiary; or
- In instalments from the retirement fund. This means that the dependants will in effect receive a pension for life or for a prescribed period. The rules of the retirement fund must provide for the payment by instalments to dependants and/or beneficiaries.
Mort says in deciding which method of payment should be used to distribute a benefit, the trustees must consider what is in the interests of each beneficiary according to the beneficiary's circumstances.
For example, he says, it is not appropriate for the trustees, as a matter of course, to pay the death benefits due to minor beneficiaries into a trust. And, equally it is not appropriate to make payment to the guardian of a minor child without assessing the probable capacity of that guardian to administer that benefit responsibly for the benefit of the minor.
Disputes often arise over the decision to pay benefits into a trust, from which beneficiaries are paid.
Trusts are serviced by financial services companies, banks and specialist trust companies, such as Fairheads, which is the largest trust company in South Africa. Trust companies manage "umbrella trusts". Krepelka says an umbrella trust is registered with the Master of the High Court, with each death benefit for each beneficiary administered as a separate sub-trust under the umbrella trust.
Umbrella trusts comply with Section 37C of the Pension Funds Act so that retirement fund trustees can use them to pay benefits to dependants.
When benefits are transferred to an umbrella trust, the trustees of the umbrella trust become the custodians of the benefits. The trustees administer the benefits, and this includes investing the money and making payments to the beneficiaries of the sub-trust.
These payments can be made directly to the beneficiary, to the guardian of a beneficiary, or even the direct settling of bills, such as school fees or medical accounts.
Krepelka says the investment strategy for each sub-trust is determined by the needs of its beneficiaries.
Mort believes that legislation governing umbrella trusts should be tightened up. He points out that umbrella trusts do not have special statutory recognition distinct from other types of trusts. They are governed by the same law applicable to all other types of trusts, namely the Trust Property Control Act, and common law and precedents set in court cases.
One anomaly with umbrella trusts is that the Master of the High Court treats an umbrella trust as a single trust despite the fact that it is a composite of a number of sub-accounts, while the South African Revenue Service recognises each sub-account as a separate trust in respect of which a separate tax return is submitted.
Mort says the following stipulations should be introduced for umbrella trusts to provide greater protection for beneficiaries:
- Umbrella trust accounts should be subject to annual audits;
- A regulatory mechanism should be put in place to ensure that there is a proper reconciliation of the pooled assets with each sub-account (trust) of the umbrella trust; and
- Each sub-trust should have its own bank account. In terms of the Trust Property Control Act, an umbrella trust is required to have one bank account only. Separate sub-trust accounts would avoid possible reconciliation problems in respect of the cash relating to each sub-account.
Guardians and trusts
Mort says that trustees cannot escape their obligations merely by making a blanket decision to transfer the benefits of all minors into an umbrella trust.
Recently, the tribunal of the Pension Funds Adjudicator set aside a decision of the Mine Workers Provident Fund to pay money into a trust on behalf of a child of a deceased member.
In terms of the ruling, all retirement fund trustees will now have to take all factors into account before deciding to transfer benefits to an umbrella trust. These factors include the size of the benefit, the ability of a guardian to manage the benefit and whether the benefit will in fact be used to provide for the beneficiaries until they reach majority.
Krepelka says that retirement fund trustees should determine some form of guardian competency test as a guide to whether benefits should be provided to a guardian or handed over to an umbrella trust.
"If the trustees have acted reasonably and done a proper guardian competency assessment, then there is little risk of recourse back to them should the guardian use the funds inappropriately."
Krepelka says that this can become complicated if the guardian dies, but, he says, the beneficiaries would then claim against the estate of the guardian.
He says that Aids is the biggest issue currently facing trustees in South Africa. As a result of the pandemic, there are many cases where a legal guardian (as appointed by the court) does not look after a dependant. In most cases, a relative or even a sibling takes on the responsibility of looking after the dependant.
Even where there is a legal and competent guardian, trustees must also take into account the possibility of the guardian dying.
Mort suggests that a solution to this problem may be for the trustees of a retirement fund or an umbrella fund to insist that any amount paid to a guardian for the benefit of a minor beneficiary is paid into a bank account in the name of that minor, even if only the guardian or legal representative can access the account.
This would make the payment clearly distinguishable from the assets of the guardian or legal representative. The death of the guardian or legal representative would, in this circumstance, not affect the minor's ownership of the payment.
Krepelka says there have been numerous court cases in which it has been found that trustees must act in good faith in making decisions on the distribution of retirement fund death benefits.
If the trustees of retirement funds can show, after due research and consideration that they acted with reasonable care and in good faith neither the courts nor the Pension Funds Adjudicator is likely to overrule their decisions.
Section 37C is likely to change
Section 37C of the Pension Funds Act is likely to be amended if the recommendations made by a National Treasury task team is accepted.
The recommendations were made in draft proposals for retirement fund reform, published in December 2004.
In the document, the National Treasury says Section 37C "has been strongly criticised". However, it says, the principle that retirement fund trustees should have the responsibility to allocate benefits on the death of a member "seems to be welcomed by stakeholders".
Trustees are "perceived to be performing a valuable social service by exercising investigation and distributive functions. On the other hand, critics of the section say it is overly paternalistic."
It has recommended that in future retirement fund trustees should be obliged to:
- Require that fund members, at least once every five years, state in writing the identity of all their dependants, both financial and legal, and the people to whom they want their benefits to be paid.
- Comply with the expressed wishes of the deceased member unless, in their opinion, there are compelling reasons why they should not.
- Pay benefits to dependants and nominated beneficiaries in the form of an income unless the benefits are so small as to make such payments cost inefficient. If the trustees determine that a dependant is not capable of responsibly managing the income, the trustees should have the right to establish a trust into which the benefit could be paid and managed for the benefit of the dependant.
This article was first published in Personal Finance magazine, 3rd Quarter 2005. See what's in our latest issue