By: Rowan Burger, Head of Investments Strategy from Liberty Retail SA
As expected, there was not a great deal impacting directly on retirement savings, with certain minor exceptions which are discussed below, in this budget speech. However there are a number of cues which give us a sense of the continuation of the regulatory policy direction which has been set out previously.
While the intention is to improve national savings which we strongly support, there are some contradictory messages which probably represent the difficulty in balancing the needs with the revenue available.
Tax on Contributions:
The tax structure on contributions announced at the previous budget has not yet come through but is envisaged for 2014. This is part of the broader retirement reform program. We have already seen a simplification of tax on withdrawal, death and retirement. This change was looking to also remove the unequal treatment of contributions to pension and provident funds and remove the latter as part of the broader retirement reform program. However these tax changes may have some unintended second order effects that need to be dealt with, within the broader framework, hence the delay.
The original proposal has been extended slightly to allow persons over 45 to claim a deduction of 27.5%, rather than the original 22.5% applying to all others. While this has been seen by many commentators as a concession, it should be pointed out that 27.5% is broadly the effective deductible amount for all savers currently. An insistence that administration fees, death and disability costs be included in the deductible amount creates inequity for persons in small funds (high fees) and hazardous industries (high insurance costs).
It is therefore not inconceivable that next year a cap on tax deductibility is introduced. This therefore means that higher earners should make the most of the favourable tax regime at present.
The key reason that the majority of South Africans retire with insufficient funds to secure a comfortable retirement is the ability to encash these savings whenever employment changes. It is therefore understandable that government would look to ensure tax concessions given will lead to pensioners being self sufficient and not a burden on the State in old age.
It is disappointing that charges in the industry are highlighted, despite a number of studies indicating that these costs were a function of the legislative structure, rather than artificially high profits.
There has historically been recognition of any legacy rights attached to savings. It is therefore highly unlikely that a situation will be created where historic savings may be tied up, leading to a mass withdrawal of savings just prior to the changes to the provisions.
The consequence of this is that South Africans will need to consider the types of products they use for savings more carefully. There needs to be a tax incentivised long term allocation for retirement in retirement annuities and pension funds, a short term allocation for immediate expenses in cash (or near cash) and a medium term savings need (family, job, health emergency, holiday, or education) in unit trusts and tax incentivised endowments.
It is probably for this reason that there is the proposal that a shorter term tax incentivised scheme has to been introduced. This allows for R30 000 per year to be saved, up to a maximum of R500 000 over a lifetime. We await further details in this regard.
The future focus is therefore to ensure annuities are purchased at retirement (removal of provident funds alluded to above) and the introduction of mandatory preservation. It would not make sense to not introduce the two simultaneously.
Investigations by Treasury are underway as to the efficiency of the life annuity market to ensure customers are getting a fair deal. It should be noted that the introduction of compulsory annuitisation brings many more customers to the market which would lead to a more competitive prices as companies compete for the greater volume of business available.
Steps have already been taken to improve the number of options available in the living annuity market with the introduction of RIDDAs (Retirement Income Draw Down Annuities). This enables the Manco of a unit trust company to issue its own living annuity. Previously these could only be provided through life insurance companies, which gave annuitants more security given the additional capital and more rigorous regulatory oversight that applies to these products.
Social Security Grants
Increases to social security grants are slightly below expected average inflation for the year.
The proposed increase in the means tests for the state old age grant is welcomed. This has been a significant deterrent to low paid workers savings.
Social Security Reform
The key announcements on Social Security reform have most likely been deferred to the Social Development Minister. The consolidation of the various grants paid and occupational benefits (such as UIF, COID, RAF) makes a great deal of sense.
We are fully supportive of the policy imperatives to create a strong social security net for all South Africans to help many escape the poverty trap they and their children find themselves in. It is likely that some of the proposals to deliver to these objectives will be contested, primarily as the private sector believes that we have a strong capability to deliver more optimally to these imperatives.
Some guidance as to the contents of the green paper proposed for this later this year is given:
· A mandatory earnings related scheme will be introduced
· It is pleasing to see recognition of the significant dangers of a non funded system ,learning the lessons from Europe
· Risk will be shared across the industry and the state will stand behind the fund
· This implies mandatory participation with no opt out for those with equivalent existing schemes.
This proposal will have a significant impact on the retirement savings landscape for existing schemes. While there are comments as to their continued support, the introduction of a national savings fund will significantly crowd out these schemes and make the costs within these far higher. We look forward to debating the successful implementation of the appropriate social security net for all.
While purporting to be saver friendly, there were a number of announcements which are not good news for investors. The key is the increase in the capital gains tax inclusion rate which was increased from 25% to 33%. As inflation erodes the value of any asset, it is imperative that the growth of an asset must at the very least match inflation. Taxing this inflation protection becomes a disincentive to hold assets.
An increase in effective tax rate on dividends from the originally proposed 10% to 15% is also concerning to long term savers.
To some extent this is offset by the proposed short term tax incentivised savings scheme. However this does little to encourage emerging families with practically no tax bill to save for their future needs. A further concern is the comment that this scheme may be introduced at the same time the rebates on interest earnings are removed.
While it may be positive for a life insurance company offering tax incentivised solutions, for broader society this means savers reach retirement with fewer assets. It is difficult in the current economic environment for savers to set aside a higher monthly contribution to achieve the equivalent position prior to these proposals.