By Brett Ladouce
When you enter into an employment contract with your employer, compulsory membership of a retirement fund in which the employer participates is generally a condition of employment. In some industries, employers are bound by bargaining council agreements to participate in industry retirement funds and to make fund membership of thefunds a condition of their contracts of employment.
Your contract of employment will consist of two components, namely working conditions and compulsory participation in retirement funds, group insurance policies and medical schemes set up for the benefit of employees of the employer, as illustrated below:
New employees often question why they are forced to take home less money each month due to the deduction of compulsory retirement fund contributions from their salaries, without taking the benefits of fund membership into consideration.
The first reason for compulsory retirement fund membership is that it is a requirement under the Income Tax Act in order for a fund and its members, to receive favourable tax treatment. Your contributions to the fund (up to 27.5% of taxable income limited to R350 000 per annum) are tax deductible. This reduces your taxable income and thus your income tax liability.
All investment income earned by the fund is tax-free, which accelerates your investment growth. Where you choose to take lump sum benefits at resignation or retirement, those benefits are taxed on tax scales that might be significantly less than the marginal tax rate you are paying. The table below illustrates how your income tax bill is reduced by fund contributions:
Compulsory retirement saving creates economies of scale that reduce the average fund operation costs per fund member. Employers have more power to negotiate lower fees from service providers, such as fund administrators and asset managers, on behalf of their employees as a group than those employees have individually. As a result, retirement funds that are set up for groups of employees are cheaper to operate than individual/voluntary retirement saving products where all the benefits of economies of scale are not always passed on to the fund member.
Employers are often also in the position to negotiate lower insured life premiums via fund-owned policies. The fund can enter into an agreement with an insurer to provide life cover to all members, often without the requirement that members provide proof of good health, where the premiums calculated on a group basis can be significantly less than the premium that a member might have to pay on an individual basis.
Life is about give and take. You sometimes have to give up the freedom of choice to participate or not to participate in a retirement fund to accept a greater benefit, namely the benefits offered by retirement funds. Before you enter into a contract of employment, ensure that you obtain as much information as possible from your potential employer as possible regarding the retirement vehicles that you are obligated to join. When in doubt, get assistance from a financial adviser who can compare the various retirement fund options that are available and who can help you find the most suitable retirement vehicle that best suits your needs and wants.
* Ladouce is a pension funds lawyer and the author of Pension Funds for Palookas