The future of "umbrella" retirement funds

By Roy Zazeraj

Are umbrella retirement funds the way of the future, or an unrepresentative anachronism worthy only of a quick burial?

This debate has been building for some time in South Africa and needs resolution soon (along with many other matters related to retirement provision in our country). Heated comments, misinformation, misperceptions and vested interests have already clouded many of the issues, bedevilling quick solutions.

However, assisting staff in providing for post-career income remains a major employee benefit, of crucial interest to employers, employees and the state. The various structures and legislative enablers available to promote this worthy cause are now in dire need of a major makeover anyway. There are clear signals that this is now on the way, and the future role of umbrella funds should be decided as part of this process. The Financial Services Board already has a discussion document on "the supervision of umbrella funds" in circulation, and this should help provide some impetus.

But what is an umbrella fund, and why is it worthy of separate attention?

Simply put, an umbrella retirement fund is a single fund in which different and unrelated employers (and their employees) participate. An umbrella fund is particularly attractive to small employers who cannot justify a standalone fund for their employees, and who can benefit from economies of scale, risk pooling etc. They are certainly not new to South Africa, which has a long history of such arrangements, initiated by chambers of commerce, trade unions, industry bodies, local government structures and insurance companies. Many millions of rands in accumulated employee benefits are currently invested via these structures and many thousands of employees draw benefits from them. New umbrella funds continue to be created and employers continue to join them, either providing these benefits to their employees for the first time, or transferring existing funds into them. The national government has itself recently announced the intention to create a Local Government Pension Fund for all municipal employees, currently catered for under a wide range of differing and independent funds.

However, umbrella funds are not without their problems and critics. To start with, the widely used term "umbrella" is not defined in our legislation, in particular the Pension Funds Act (the PF Act). These funds have also not been dealt with clearly in the various efforts to improve governance and "democratise" our retirement funds (for example, in the election of board members - or trustees - to represent fund members). Except section 7B (b) (i) of the PF Act does allow for exemption from such election if the fund "has been established for the benefit of employees of different employers which are not subsidiaries of a single holding company". This is the only place that such funds are referred to. All other funds, apart from retirement annuity funds, have the right to elect at least 50% of the board members. This is seen by many as a significant step towards appropriate member influence over this major employee benefit, but is easily circumvented in the case of umbrella funds. Here, members could have no representation at all, and have to rely on the fiduciary integrity of trustees with no link to their immediate world of employment.

Much of the recent criticism has centred on umbrella funds sponsored by financial institutions or administrators (sponsors). We could term these commercial funds. It is usual in these cases for the board of the fund to be made up of (mostly expert) employees of the sponsor, with some obvious conflicts of interest. The perceived lack of independence is being highlighted and even fiercely attacked in some quarters. As a counter, these boards are increasingly bringing in independent trustees, who, apart from being independent, are expert in some appropriate area and remunerated accordingly. This remuneration of independents (not just in the case of commercial umbrella funds) is seen as adding to overall costs and maybe duplicating some governance costs allowed for in administration fees. Concern is expressed that increased costs could, in some cases, reduce the money available for retirement provision and other benefits.

So the major concerns have revolved around lack of legislative clarity, employee representation, conflicts of interest and the cost of independent trustees. All of these concerns and criticisms of umbrella funds need to be thoroughly canvassed, analysed and addressed, and they can be. Lets not overlook the fact that umbrella funds continue to have significant benefits and attractions for many stakeholders. The management of umbrella funds needs to be properly regulated to limit any problems and maximise the benefits.

The benefits include the following.

Government, and citizens alike, clearly have an interest in seeing more people employed and less dependent on the state. There seems to be a wide consensus that both are best achieved through the rapid growth of small businesses: businesses able to provide an appropriate and affordable range of employee benefits. Umbrella retirement funds can be an ideal vehicle for such small, and medium, businesses.

Then, in a highly competitive business environment, organisations are keen to focus on their own prime profit-generating activities. Outsourcing of non-core services (such as security, cleaning, payroll, employee benefits etc) is now common in the global economy. This has added to the desire of employers to "outsource" their retirement funds to umbrella funds and expert trustees. A large amount of management and employee time can be saved.

Retirement related regulation has also become more complex and fraught with compliance issues. More and more time is spent in meetings, reading and signing off documentation etc. The need to train part time trustees, new and old, has increased, as has the personal risk (and lack of enthusiasm) involved in the role. All the more reason to "leave it to the experts", although at present this can result in also outsourcing the benefits of democratic representation.

Finally, many of the principles of good corporate governance are being discussed and applied to the world of retirement fund management, including that of umbrella funds. This includes better governance structures and the use of independent trustees (as with independent non-executive company directors). Independents have no (or very limited) conflicts of interest, coupled to knowledge and expertise of benefit to the fund. But good governance does come at a cost (although the benefits should ensure a net gain). The Financial Services Board has also expressed a desire to build a central register of approved independent trustees.

For these reasons alone, it seems umbrella funds are here to stay. They can and should continue to play a major role in future retirement provision in South Africa. Their supervision and management just need to be quickly agreed upon and enacted.

First published in HR Future in May 2005

Roy Zazeraj is CEO of Artique (Africa), a Human Resource and People Development Consultancy, which also offers various independent trustee services. Roy is also the independent chairperson of two umbrella retirement funds.