Pension & Provident Funds
Many business owners recognise that in order for their businesses to be profitable, competitive and efficient, it is essential for them to attract and retain high quality staff.
It follows that these employers consider their staff to be their most valuable asset, and in this time of scarce skills, companies would like to be ‘an employer of choice’. A way of achieving this is to provide employees with a competitive Employee Benefits Package.
But how does a business go about this?
- What is the cost of providing a retirement fund?
- What type and level of benefits are competitive and appropriate for a particular industry or business?
- How is a fund structured when there are various ‘categories’ of employees within the same company?
- How does a pension / provident fund provide ‘retirement benefits’ when employees are at different stages of their life, with different ages and different needs?
- There are many pension fund ‘products & providers’ in the market – how does a business owner select the best / most cost effective ‘product’ for their management & employees?
The solution is for the business to utilise an independent Employee Benefits Specialist to guide the company through the entire process – from initial consultation to implementation, ongoing servicing, and very importantly, communication with employees to ensure they understand their retirement fund, their benefits and any choices they may have. (See process below).
In the absence of a social security system and the meagre pensions paid by the government, it is essential that individuals save for retirement. Failure to do so means that individuals may need to continue working into old age, (if they are physically able to do so), or rely on family and children for support, or live on a state pension of just over R1000 pm. – Not ideal!
Is has therefore fallen to the employer and / or unions to sponsor retirement saving schemes. The two main reasons for this are:
- Historically, employees were not as mobile as they are today, therefore employers felt a moral obligation to ensure their long serving employees could retire with a pension. However, more recently, prospective employees expect companies to provide a staff pension or provident fund, with medical aid and group insurance as part of their remuneration package.
- Government has acknowledged they cannot afford to pay pensions to all citizens. Therefore, in order to motivate companies to set up retirement schemes, SARS has granted companies tax relief of up to 20% of ‘payroll’ for ‘company contributions’ paid into pension, provident and medical aid schemes. (Changes to these tax free % limits due January 2012).
In this environment, business owners have accepted that the provision of ‘employee benefits’ is necessary in running their businesses, and that a comprehensive employee benefits package is a valuable tool to attract and retain quality employees, in a tax efficient manner.
Additional Benefits – Death Cover, Disability & Illness Benefits
Pension and provident funds can include group death and disability benefits whereby benefits are paid to employees or their dependents, (which will protect the lifestyle) should an employee die or become disabled whilst still in service.Alternatively, group death, disability and other ancillary benefits can be set up independently of a retirement fund, on a ‘freestanding’ basis.
Additional Group Insurance Benefits
In addition to death & disability, the following ‘group insurance’ benefits can be added to the ‘employee benefits package’, either on a freestanding basis, when a retirement fund commences, or over a number of years in a phased in approach, (depending on budgets & affordability), thus allowing employers to create a customised, competitive benefit package that meets their employees’ needs and expectations:
- Funeral benefits for employees only, or employees, spouse & children
- Education cover for children of deceased employees: pays child’s education expenses.
- Dreaded disease cover: lump sum paid on diagnosis of serious illnesses such as cancer, heart attack, blindness etc.
- Medical aid schemes
The above benefits can be structured either for a specific category of employees, or for all employees.
Thus, a comprehensive employee benefits package can provide financial security to employees and their dependents for almost any eventuality.
Without a competitive employee benefits package, the following business implications could arise for the company:
- Quality employees may resign if a competitor offers better remuneration and / or a better ‘employee benefits package’. (The decision to select a new employer is often not based on salary alone).
- With a high staff turnover, profits may be affected temporarily or permanently, especially if quality staff / scarce skills cannot be retained.
- Huge recruitment and training costs can be incurred.
- Clientele may be lost if the businesses ‘client service’ is affected.
For the employees & business, the following situations can arise:
- An employee reaches retirement age but cannot afford to retire, therefore they may ask the employer to extend their employment contract beyond normal retirement age, (when they may not be as productive). This places the employer in a difficult position, especially if the employee is long serving.
- An employee becomes disabled, cannot work so their salary ceases, creating financial hardship for their entire family. – Loyal employees often expect the employer to continue to pay their salary for a reasonable period, or to provide disability insurance cover.
The Solution in Detail
A company can set up a pension or provident fund, with or without death, disability and ancillary benefits. Currently the company costs will be tax deductible up to 20% of the total payroll. Employees can also contribute tax free, to a pension fund up to 7.5% of their salary. (Changes in tax deductibility expected in January 2012).
Both the company and employee contributions are structured and defined based on the needs and affordability of both parties, with due consideration for tax deductibility of contributions.
Should an employee then retire, (particularly after long service), die, or become permanently disabled, a benefit will be paid to the employees or their dependents, thus relieving the employer of any moral obligations to make ‘ad hoc’ payments to the employee or their dependents.
Pension & Provident Funds offer the following Specific Benefits:
- Attract & retain valued employees, stabilise a workforce, and reduce the cost of recruiting and training a new employees.
- Employees have forced, tax efficient retirement savings, on a monthly basis.
- Employees can be financially secure in retirement; with group benefits paid on death, disability, and any other insured eventuality.
The Consultation Process
- The Employer needs a staff pension/provident fund.
- Evaluation of needs with Benefit Consultant / E B Specialist
- Pension / provident fund & insurances set up according to budget, needs & quotations.
- Employer and employee pay monthly contributions, (up to tax deductible amounts), to FUND via payroll system.
- Administrator maintains member records for the fund, and invests money according to instructions.
- Claims are submitted to administrators on retirement, resignation, death etc.
- Fund should be reviewed annually.
A retirement fund will contribute to the success of a business by attracting and retaining valued employees, can stabilise and / or reduce staff turnover, and provide financial security to employees and their dependents, (depending on the benefit structure selected).
In addition, such plans make financial sense for all parties because contributions are tax deductible up to generous limits. (Current tax limits on pension and provident funds are higher than a retirement annuity, but changes are expected in 2012).
Therefore a comprehensive employee benefits package, (that can include pension, provident, group insurances and medical aid schemes), provide business owners and employees with peace of mind, knowing that benefits will be paid to employees at important times in their lives, and assist them to live the lifestyle they would like to lead.
Income Tax on Approved Retirement Funds
(Funds have a choice to include death and disability benefits as part of a fund, or to place them outside the fund).
Contributions Paid into the Fund
Company contributions to pension and provident funds are tax free (deductible) up to 20% of payroll. In addition, member contributions to pension funds are deductible up to 7.5% of their salary. (Taxation subject to change in 2012).
Invested Contributions (members fund values)
Once contributions are invested in the fund, they are exempt from tax on income earned and from Capital Gains tax.
Benefits Paid from the Fund
SARS provides for tax free lump sums, (up to certain limits that change from time to time), on an employee’s resignation, retrenchment, death or retirement.
*Employees should always seek financial advice and make informed decisions before automatically taking a cash benefit and paying tax unnecessarily. (Quoin Wealth provide this service to employees of our clients).
Income Tax on Group Benefits – Death, Disability, Dread Disease etcetera
In terms of the tax deductibility of group insurance premiums and benefits paid to employees, there are different ways to structure these plans, depending on the benefit and the required outcome, therefore it is important for a business to understand their options and the tax implications for both parties – before a policy is implemented.
Recent changes to Section 11w of the Income Tax Act mean that many companies need to review their existing tax treatment of group risk schemes to remain compliant. – Failure to do so can have significant impact on the taxation of benefits.
If group insurance premiums are not treated correctly in the company’s books and payroll system, it could result in employees paying unnecessary tax on a benefit. (Generally speaking, the principle is that if premiums are taxed, a benefit can be paid tax free, and vice versa).
Lifestyle Protection – Freestanding Group Insurance Benefits
(death, disability, severe illness, funeral cover)
Many business owners experience situations where there is a death, disability or funeral within an employee’s family, and they are approached by a member of staff or their dependents for a loan or other financial assistance. – Many employers feel a moral obligation to offer assistance, but their business may not be in a position to do so, or they may not wish to set a precedent whereby staff would expect such assistance.
In addition, they recognise it is essential for a company to offer a good, market related benefit package for them to attract and retain high quality staff.
How does a Business go about this?
- What type and level of benefits are most suitable for a particular industry or workforce?
- How can benefits be structured when there are various ‘categories’ of employees within a company? (e.g. executives, management, office staff, sales & blue collar workers).
- What is the cost of providing these benefits?
- If budgets are a concern, how does a company establish their employees’ priorities?
- There are so many insurance companies with a wide range of products, where does one start?
The solution is to appoint an independent Employee Benefits Specialist to guide the company through the entire process – from initial consultation; obtaining comparative quotations; benefit structuring based on needs, costs and priorities; staff presentations or workshops, to implementation, ongoing servicing, and regular communication with employees to ensure they understand their benefits and any choices they may have.
Due to the unexpected nature of death, accident or illness, if there is not adequate insurance in place the employee and their family may suffer extreme financial hardship, so much so that it can seriously affect their ability to maintain a reasonable standard of living, afford medical care and educate their children.
A comprehensive risk benefit package can indemnify the employee and their families against virtually any eventuality.
Due to the poor savings rate and lack of social security system in South Africa, it has largely fallen to the employer to set up group insurance schemes for their employees.
However, there are very attractive benefits to freestanding group insurance schemes:-
- Beneficial taxation structuring.
- ‘Group insurance costs’ are usually significantly less expensive than individuals can obtain in their personal capacity.
- An independent employee benefits consultant will obtain several quotations and negotiate with insurance companies to obtain the most competitive costs for the group.
- There can be cross subsidisation across ages, genders and occupations.
- Medical requirements (underwriting) on group schemes is far less onerous than individual policies. – Usually only the top few earning employees need to be medically underwritten.
- Therefore death and disability benefits cover most employees against conditions such as hiv and other serious illnesses, without having to provide medical evidence, (up to certain limits, and subject to pre-existing condition exclusions for new cover or new employees).
In summary, once a group insurance scheme is in place, the employer can be assured that the workforce has some protection against unexpected events, and the business is relieved of the moral obligation to provide ad hoc financial assistance to affected employees.