As with most things, what you put into your retirement savings determines what you get out in the end. At least, that’s the theory. The reality is a lot more complicated. Old Mutual Corporate Consultants’ research places contribution rates at an average of around 12.7% among pension fund members and 10.7% for provident fund membership. The most common contribution category is 10% on both types of funds.

‘Only 20% of total membership in funds forming part of our data-driven research were found to be contributing at 15% or higher, with most if not all of those being pension fund members,’ says Keri-Lee Edmond, Consulting Analytics and Insights Manager at Old Mutual Corporate Consultants. ‘Provident funds tend to occupy the majority of the lower contributing membership, who also tend to have lower incomes. There are a number of complex intertwined realities underlying this finding of low contribution rates.’

‘People aren’t calibrated to understand compound interest because non-linear things don’t make intuitive sense to us,’ says Martin Poole, Senior Old Mutual Corporate Consultant at Old Mutual Corporate Consultants. ‘We may understand that we need, say, R5 million to retire, but understanding that it requires us to put away more than 10% of our money for 30 years to get there just doesn’t feel obvious.’

He explains that the same happens in reverse – the absence of compounding simply can’t be caught up. ‘If you don’t start saving for retirement before 50, you’ll have to put away 100% of your money every month before you turn 60 to replace your salary with a pension. For the ordinary person, this is an impossible ask.’

Contribution rates

The recommended retirement fund contribution is 15% of one’s salary. However, nearly half of provident fund members and a quarter of pension fund members are contributing less than 10%.
NET CONTRIBUTION LESS THAN 10%
PROVIDENT 45% | PENSION 26%

A significant percentage of fund members are contributing 10% or more of their monthly salaries towards their retirement, but still less than the recommended 15%.
NET CONTRIBUTION 10% - 14.9%
PROVIDENT 40% | PENSION 37%

More than a third of pension fund members are contributing the recommended 15% of their monthly salary (or more), but relatively few provident fund members are doing the same.
NET CONTRIBUTION 15% OR MORE
PROVIDENT 15% | PENSION 37%

Why are contribution rates so low?

The recommended contribution percentage is 15% or higher. Old Mutual Corporate Consultants’ study found that approximately 80% of fund members contribute less than 15%. Low contribution rates are a major impediment to retirement security. Only a few members are within the recommended minimum contribution percentage of 15%, with members of pension funds more on track than those belonging to provident funds.

Low contribution rates are influenced by expenses and risk deductions, default contribution categories set by employers, individual member choices, and the general need to maximise take-home pay for affordability reasons.

‘In our data-driven analysis, we found an alarming number of members who are paying 3% or more in total deductions for risk, advice, investment and administration fees,’ says Edmond. ‘Across the industry, more than 30% of pension fund members and as much as 50% of the provident fund membership have more than 3% of their total retirement contribution not going to their actual savings, but rather to provisions of service provider fees and other benefits – like death and disability insurance.’

Contribution rate deductions for expenses are necessary to provide for the regulated operation of the employer retirement fund. The introduction and growth of Umbrella Funds has allowed for economies of scale and cost-sharing, so many of those expenses have reduced over the years, but this is still an area that retirement fund professionals and management need to keep a close watch on, especially with the pending introduction of the Two-Pot Retirement System. ‘We always want to ensure that a maximum portion of contributions is actually going towards members’ retirement savings by taking advantage of scale and cost-sharing techniques,’ says Edmond. ‘Risk deductions from contribution rates also need to be explored in context,’ she says. ‘Many employers may value increased risk cover (death and disability) for their employees due to the nature of the work being performed, which may be appropriate in many industries, as these are the only forms of risk cover employees may have.’

Old Mutual Corporate Consultants’ research indicates that there are instances in which the default contribution is appropriate for the long term. However, with the choices available to members, some may choose to opt into the lowest possible contribution category in order to increase take-home pay.

‘The reasons for this may be layered, and include affordability, priorities and preferences,’ explains Edmond. ‘For many people, bonds/rent, groceries, transport and children’s education are their highest priority for most of their working life. People may value increasing spending on these items more than savings in the long term. Many, still, are in a position where the extra cash is required on a monthly basis to cover various debt repayments.’

Poole agrees. ‘The number of employees who are living in debt is concerning. The problem is that they don’t have the take-home pay to survive in terms of their daily needs. We’ve seen this in our client analysis, where we looked at payslip data and found that people were taking home either zero or a negative balance.

‘In many cases employees are living beyond their means,’ he says. ‘But a lot of this is down to a lack of financial literacy, or a lack of understanding what they could be doing better.’

Another interesting reason for members opting into lower contribution categories is an individual preference to save money in alternative vehicles. It was observed that, among mid- to high-income earners, there exists a strong perception of being able to earn more return elsewhere on the additional take-home pay.

‘They may prefer property, stocks or cryptocurrencies,’ says Edmond. ‘Our research further shows that while lower-income earners and women may not have much disposable cash available after expenses, where they do, the data demonstrates a preference for saving cash in accounts with their banks or in stokvels.’

A savings culture in South Africa is certainly to be encouraged. But, as Edmond explains, it is also important for financial education and literacy to be widespread and readily available to assist citizens in making appropriate choices for their holistic financial wellbeing. ‘It can be complex and overwhelming to make the right choices, and we want to empower our society with the information and guidance to consistently grow their assets for the benefit of themselves, their families and the economic future of our country,’ she says.

The heart of the challenge lies in the balance of short-, medium- and long-term financial needs. South Africans are facing unprecedented economic pressures, and many are finding it difficult to manage the immediate need for take-home pay with the medium-term provision for insurance risk cover and the even longer-term need for retirement cover.

‘Lowering contribution rates to increase after-tax cash or increasing risk cover does detract from retirement outcomes, but all of these are important financial needs that need to be considered,’ Edmond says. ‘It is imperative, therefore, to understand members’ holistic financial requirements and to create both individual and shared solutions that address our South African realities, like the introduction of the Two- Pot Retirement System.’

Are ‘contribution police’ the answer?

On whether minimum contribution rates would solve the issue, Poole is a convert and explains the benefit of early and sustained saving for a pension. ‘Anyone can certainly make do with less, given enough time, by “making a plan” somewhere. There’s evidence that we naturally expand our consumption to match what’s in our pocket,’ he says. ‘That tells you that you should absolutely have a minimum contribution rate; although we need to both get people to understand the benefits of what they are “deprived” of and also phase in the minimum contribution over years so that people have plenty of time to adjust.’

To put it another way, he says, ‘The trick for members is to make do with less than they earn, and the trick for the retirement industry is to demonstrate how important contribution levels are for members’ future outcomes.’ He adds that he believes that very few people can afford a sudden reduction in income, no matter what the future benefits.

Edmond thinks that contribution rates to retirement vehicles are one of the most important levers on the savings journey. The recommended net contribution rate is usually around 15% for a 35-year working lifetime to reach a replacement of 70% of one’s income at retirement. ‘Mathematically, an increase in contribution rates has a significantly positive effect on retirement outcomes,’ she says. ‘Introducing minimum mandatory contributions through regulation, whether via employer, employee or state-funded rates (or combinations of the three) will certainly have an impact on member outcomes. The significance of the effect would depend on the minimum thresholds that would be set.

‘The retirement industry would look to National Treasury to set those minimum thresholds as part of its ongoing reforms,’ Edmond says. ‘The level of such a minimum would determine the extent to which this would improve outcomes, but anything at 15% or above would have a positive impact on total member retirement outcomes. Having said that, a responsibility also lies with employers to ensure that, when they set their benefit policies, there is a reasonable minimum contribution rate with the option to flex up.’

Poole adds that, in a way, the Two-Pot Retirement System is the first step to setting the minimum contribution level, because two-thirds of whatever the member’s current contribution level is, will be preserved for retirement. The next step would be to raise the members’ current contributions by setting some absolutely lowest percentage of income.

Behavioural change

Old Mutual Corporate Consultants further found that 92% of workers in the public sector have a retirement fund they are contributing to, while just 50% of workers in the private sector have the same. ‘The former is a well-worn path, and the latter is as a result of the change we discussed earlier,’ explains Poole.

‘If you work in the public sector, having a government pension and medical scheme is more or less an inescapable part of the deal – you just participate. In the private sector, some firms provide retirement funds, some say people can have retirement annuities if they want, and some make no insistence on saving at all. Their principal concern is getting employees to show up to work and do their jobs.’ Poole says that some private sector remuneration packages are largely in line (there are exceptions of course) with those in the public sector for similar jobs, but there’s an illusion at play.

‘If you don’t have a contributory savings vehicle, you might have the impression that you’re taking home more pay – despite paying a higher tax rate. People may feel “richer” in the private sector on a like-for-like basis, but that could be because they’re not saving for retirement. There’s a distinct difference in income after retirement.’

Societal change

Edmond says the retirement conundrum is a complex societal problem where there are already myriad complicated South African-specific issues at play. ‘We have seen the most positive reform and progress in the last few decades through collaboration between various stakeholders, including employers, policymakers, retirement service providers and professionals, government and the individual employees and citizens themselves.

‘But it is also important that fund members realise that it’s their individual responsibility to save for retirement,’ she says. ‘The message to them is: “No one else will save for your retirement, and if you don’t save, the State Old Age Grant will become your safety net.” Many people do not realise this until it is too late.’ Lower-income earners, especially in SMEs, need enhanced support, she adds. ‘We understand that when many small businesses start out, retirement contributions for employees may be one of the last items of priority, but it’s important as these businesses grow to consider their overall employee wellness and security. Retirement is an important part of this holistic picture.

‘In addition to encouragement, employees will also need practical assistance from their employers and providers in supporting their retirement savings. This may include anything from increased contribution support or drives and campaigns around retirement education and communication to improve understanding of this savings journey,’ Edmond concludes.

* This article originally appeared in the Old Mutual Mindspace Thought Leaders Forum special issue. Read the full publication here.