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How do South Africans save and invest?

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In brief:

According to Trading Economics research, at the start of 2019, the ratio of household savings to disposable income in South Africa stood at 0.15%. Against the backdrop of South Africa’s savings culture, this article seeks to illustrate the importance of education around saving for retirement – and indeed also preserving retirement fund savings when changing jobs.

The context

It’s widely accepted by economists and policymakers that a high savings rate is critical for any country to meet its growth and development objectives. For South Africa, with its high levels of unemployment and inequality, the topic of savings and investment should remain a national priority.

Ideally, retirement savings are intended to provide individuals with the financial means to continue their lives after retirement with a reasonable standard of living, while not becoming a burden to the fiscus and/or their family. As longevity increases, such savings become more important to help prevent pensioners from outliving their retirement savings and from becoming a burden on the state (by drawing the SASSA Old Age Pension grant), or by having to depend on their families.

South Africa’s poor savings culture

Data from the Investec GIBS Savings Index shows that South Africa’s savings levels are at their lowest level since 1990 and have declined for eight years in a row1. Although the 2018 Schroders Global Investor Study has indicated that the trend globally has been that there is an increasing gap between retirement expectations and the financial realities of life post retirement, the survey found that this issue is particularly dire for South Africans2. Among G20 countries, South Africa ranks lowest in the household savings rate. At the start of 2019, the ratio of household savings to disposable income was at 0.15%3.

A road to (un)comfortable retirement

Comfortable retirement is generally accepted as when a pensioner retires on approximately 70% of their pre-retirement salary. At present, only 6% of South Africa’s population is on track to retire comfortably, according to National Treasury4. A survey by 10X Investments found that around 41% of economically active (individuals with a monthly income of R7 600 or more) South Africans are estimated not to have any formal retirement plan in place. Furthermore, the survey estimates that more than 40% of economically active women, across all demographics, have no investments or savings in any form5.

Various research studies have indicated that the poor savings culture of the average South African citizen is a complex issue, linked to cultural, behavioural, and economic issues6.

Making provision for Inflation

The 10X Investments survey reports that a lack of understanding about key financial concepts, such as the need for retirement savings to keep up with inflation, has in part contributed to South Africa’s current retirement crisis7. Inflation is a measure of how fast the prices of goods and services are rising8.

If your retirement income – whether you buy a guaranteed* or living annuity9 or draw from investments – does not grow in line with inflation, you will either experience a decline in your living standard or your money will be insufficient to last into retirement.

This highlights the importance of careful planning around one’s investment and savings strategy for retirement10. Consequently, simply putting money aside for retirement without due consideration for inflation risk is insufficient. If you, for example, place your long-term savings – such as savings intended for later use in retirement – in a traditional bank account in an inflationary environment, your money is actually shrinking. The consequence is that in your future retirement years – when this money will be most needed – it will be able to buy less than it would today.

* A guaranteed annuity secures you a pre-determined income for the rest of your life. There are different types of guaranteed annuities.

Why savings and investment are important to retirement fund members:

Savings and investments provide individuals with financial security and independence as they retire from work – or find themselves unemployed due to disability, retrenchment etc.;

Savings can reduce the burden of care on government and society (taxpayers), especially considering that people are increasingly living longer;

Savings and investment by ordinary workers play a crucial role in the economy. As such, long-term savings can fuel economic growth;

Regular saving and investing throughout an individual’s working life contributes to wealth creation, which in turn can contribute to a more prosperous and equal society;

Retirement fund savings are, in the overwhelming majority of cases, the only form of savings for working South Africans.

 

 

How South Africans save and invest for retirement?
There are a number of different savings and investment vehicles available for savings and investments10 , all of which serve a unique purpose:

  1. Short-term deposits: Investments are made into an interest-bearing deposit account at banks or other financial institutions. Although the minimum investment amounts vary from institution to institution, entry level savings and investment amounts are quite low in comparison to other forms of investing. There is also generally speaking less investment risk (being loss of capital) to the investor when compared to investing in equities or shares for example.
  2. Unit Trusts: Unit trusts, or collective investment schemes, are a unitised portfolio of investments which are managed by a fund manager according to a specific investment mandate detailing the objectives of the portfolio. Unit trusts / collective investment schemes allow the retail investor access to various asset classes with varying levels of risk and investment term. A unit trust investor can invest via a monthly debit order or a lump sum deposit, following which the unit trust management company buys underlying asset classes such as shares, bonds or property11 .
  3. Retirement / Pension fund: A member employee and their employer pay monthly contributions during the employee’s working life. At retirement, the money invested (including the income earned on it) allows the member to purchase an annuity (also called a pension) from a life insurer which will pay them for the remainder of their life (if a guaranteed annuity) in monthly or quarterly instalments, or until the funds are depleted (if a living annuity). It may also pay an annuity to the surviving spouse or child, if applicable. The law allows a member who is about to retire to, take up to one third of the capital value of their pension savings at retirement in the form of a lump sum, with the remaining balance to be used to purchase an annuity as described earlier. This lump sum will be taxed if it exceeds R500,000.
  4. Provident Fund: A member employee and their employer pay monthly contributions during the employee’s working life. Upon retirement, however, the law permits a member of a provident fund to access a lump sum benefit of all their retirement savings capital (instead of purchasing an annuity).  This lump sum will be taxed if it exceeds R500,000.
  5. Retirement Annuity Fund: This is a retirement fund usually used by members who are typically not employed by an employer and to which a member may make a single or several contributions during their working life. Like a pension fund, it allows the member to elect to take up to one third of the capital value of their pension savings at retirement as a lump sum, with the balance used to purchase an annuity. This lump sum will be taxed if it exceeds R500,000.
  6. Preservation Fund: This is a fund to which a ‘contribution’ is transferred by a member from their existing retirement savings, after leaving their place of employment due to resignation or termination of employment. These retirement savings are then invested by the preservation fund for the member until they reach retirement age (any date after the member reaches 55 years of age) in the same way as a pension or provident fund although the rules may allow a member to make one withdrawal (which they will pay tax on if it exceeds R500,000) from their retirement savings before they reach retirement age.
  7. Beneficiary fund: Should a member of a retirement fund die and there is no parent or guardian to look after the financial interests of the member’s minor children, their fund can make a distribution of that deceased member’s pension savings into a beneficiary fund which will invest those savings and pay for the child’s education, healthcare, clothing and household expenses until they reach the age of 18. Any remaining funds will then be paid out to the child.

 

Defined Benefit vs Defined Contribution:

Important to note is that the calculation of the final pension benefit a fund member will receive upon retirement will be determined, to a large extent, by whether the retirement fund they contributed to was a defined benefit fund or a defined contribution fund.

Defined benefit fund: Provides a guaranteed pension benefit on retirement which is calculated based on the member’s final average salary multiplied by the years of their fund membership as an employee. The rate at which the employed member contributes to the fund is usually fixed as a percentage of their remuneration. The employer’s rate of contributions is usually calculated by the fund’s valuator who works out the rate at which the employer will need to contribute to the fund to enable the fund to pay the member their guaranteed pension benefit after retirement. The employer carries the investment risk of the fund having to guarantee the member’s pension after retirement.

Defined contribution fund: Provides a pension benefit on retirement whichcis calculated based on the accumulated contributions made to the fund by the member (and/or, if applicable, the member’s employer). The returns earned on the investment of those contributions, less deductions of the costs of running the fund and providing for death and disability benefits, are added to the pension benefit. The rates at which the member and employer contribute to the fund are fixed or defined as a percentage of the member’s remuneration. Importantly, the amount of the member’s pension is not guaranteed, but is rather determined by the contributions made by member and employer, combined with the fund’s investment performance. This means that the member carries the risks and rewards of their final pension amount.

 

REFERENCES:

  1. Lawlor, P. One Magazine. 2018. Why do we struggle to save? [Online]. Available: https://bit.ly/2kok4QZ
  2. Businesstech. 2018. Here’s how much South Africans put towards their retirement each month. [Online]. Available: https://bit.ly/2knwOHp
  3. Businesstech. 2019. The rule of thumb when it comes to saving. [Online]. Available: https://bit.ly/2GlkPlE
  4. Smith, C. Fin24. 2018. Nearly half of SA’s workforce estimated to have no retirement plan – survey. [Online]. Available: https://bit.ly/2FIhCv6
  5. Ryan, C. Moneyweb. 2018. South African’s are known to be poor savers. [Online]. Available: https://bit.ly/2xddRKA
  6. Businesstech. 2018. Here’s how much more financially vulnerable South Africans are compared to the start of 2018. [Online]. Available: https://bit.ly/2kGQiqV
  7. Arnold, B. Schroders. 2016. How to prepare your portfolio for inflation. [Online]. Available: https://bit.ly/2kQpqEL
  8. Fin24. 2014. Guaranteed annuity vs living annuity explained. [Online]. Available: https://bit.ly/2kTdeD5
  9. Arde, A. Sowetan Live. 2019. Invest to beat inflation or get poorer over time. [Online]. Available: https://bit.ly/2Vngp38
  10. See Savings / Investment Vehicles as identified by the South African Savings Institute. [Online]. Available:
    https://bit.ly/2kQPS13
  11. Jordaan, E. Moneyweb. 2019. Smart Savings. [Online]. Available: https://bit.ly/2ksVfDw

 

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