Pension act: short term vs long term consequences
By design, pension funds are long-term institutional investors whose primary objective is to ensure that their members receive adequate regular replacement income when they reach retirement age.
In 2011, Malawi embarked on a long-term project when it passed the Pension Act 6 of 2011. The objectives of the Pension Act were captured in section 4 of the Act. For our purposes, the important objectives are to “(b) ensure that every employee in Malawi receives retirement and death benefits as, and when, due; [and] (e) foster agglomeration of national savings in support of economic growth and development of the country.”
Since the adoption of the Pension Act 2011, several successes and challenges have been reported. For example, in December 2021, the Registrar of Financial Institutions reported that pension assets under management amounted to K1.3 trillion. On the regulatory side, the Registrar has kept abreast with the industry development by introducing several measures including the Pension (Payment of Benefits From Pension Funds) Directive 2014 and by intervening when employers failed to forward contributions to pension funds. Another challenge has been the slow pace at which pension funds have deployed fund assets as investments towards infrastructure development projects to enhance benefits and contribute towards economic growth of the country. This is what is contemplated under subsection (e) above to “foster agglomeration of national savings in support of economic growth and development of the country”.
However, in any long-term project like the Pension Act, it is expected that from time-to-time authorities will review the legislation to assess whether the objectives are being achieved, and if not, to adopt new measures to promote those objectives.
The first major reforms were proposed in the Pension (Amendment) Bill 2022. The Bill was passed by Parliament in December 2022 and assented to by the President on 8 February 2023 as Act 6 of 2023.
Members of Parliament passed the new Pension Act
The Pension Act 2023 has replaced the Pension Act 2011. However, it has reproduced the objectives from the Pension Act 2011 and reformed several areas, including governance of pension funds, early access of benefits, benefit design, and administration. In this article, I intend to discuss just two of these reforms and their possible implications.
The first reform relates to the death benefits. The Pension Act 2023 has expanded the definition of a dependant to include extended family members. According to these reforms, a dependant is defined as a close relation who was financially dependent on the member at the time of death.
A close relation is understood to be (a) spouse of the member; (b) child of the member or a child of the spouse of the member; (c) brother, sister, parent, aunt, uncle, nephew, niece, grandparent, or grandchild of the member; and (d) the spouse of any of those mentioned in (b) and (c). These reforms have removed the distinction that existed under the Pension Act 2011 between a dependent and a close relation by focusing on financial dependency a main criterion for entitlement to death benefits.
The implication is that the Act has widened the net of possible beneficiaries of a death benefit. This reform is commendable for the potential it has to promote social protection in Malawi. However, this reform must be understood within the broader legislative scheme in the Pension Act, which is that (even if there have been withdrawals from the fund) there will always be a lump-sum death benefit payable under the Pension Act 2023 because of the mandatory life insurance provisions in the Act. The proceeds of that life insurance policy are designed to be paid as a death benefit together with any other benefits in the fund.
“While I support the expanded definition, there is a potential negative effect. If at the time of death, a member had withdrawn benefits from the fund, it means that the only significant amount of money or benefits that will become available for distribution in the event of death will be sourced from the life insurance policy.
The statutory amount of life cover is the annual salary, which could potentially be shared among the expanded list of close relations. Such a scenario will unlikely produce a lasting financial impact on survivors.
The second notable reform is the reduction of the amount of time a member must wait before they can access their pension benefits during job loss or changes from six months to three months. Before these reforms, an employee who lost or changed employment had to wait for six months before they could be allowed access to their pension benefits. They had to demonstrate that they have been unsuccessful in getting re-employed.”
Through these measures, Parliament encouraged the preservation of benefits to ensure that members retain their benefits until retirement save for those needy situations. The six months waiting period was criticised by many because it was viewed as causing unnecessary financial distress for employees who no longer had an income. Due to public pressure that was exacerbated by the Covid-19 pandemic, Parliament decided not to eliminate the preservation policy in the Pension Act but decreased the waiting period from six to three months.
This reform must be understood together with other reforms in section 91 of the Pension Act 2023 that have increased the percentage of lump-sum benefits that may be paid out to a member from 40 percent to 50 percent when a member has retired; has 5 five years of less to reach retirement age; or has left Malawi permanently.
The implication of these reform is that going forward pension funds may be expected to make early and larger percentages of payment frequently under the three circumstances in section 91. The net result is that these short-term risks and liabilities of the fund may translate into less long-term investment by pension funds. Pension funds may also need to revise their investment policies to increase the amount of cash they hold to honour these early payment requests.
Given that infrastructure investments require a long-term outlook, there may be less funds available to commit to these types of investments. The situation may put pressure on pension funds and asset or fund managers to outperform expectations, encourage the pooling of investment resources by pension funds and increase the need to professionalise the boards of pension funds to enable them to meet the long- and short-term demands.
These reforms must be viewed against a larger reality that most pension funds in Malawi (and globally) are defined contributions funds. This means that the benefits paid to members upon their exit depend on the underlying investment performance of the pension funds and is subject to the vagaries of the financial markets. A member is not guaranteed any benefits because the value of their pension benefit is determined on the date of exit.
If members retire and there is insufficient savings in the fund to support them due to previous withdrawals, and if pension fund do not have adequate assets to investment in infrastructure projects due to early payments, then there is potential for the goals in the Pension Act 2023 to be undermined.
Having said the above, governing a modern society is a complex task that requires intricate policy choices to be made. Malawi is not the only country in the region that has had to reform its pension laws and increase access to benefits. In Botswana, the Retirement Funds Act 38 of 2022 read with the Income Tax (Superannuation Funds 2022) Regulations No 147 of 2022 has increased the percentage of lump-sum pension benefits available to retired persons from 33 percent to 50 percent.
In Lesotho, the Specified Offices Defined Contribution Pension Fund Act 17 of 2022 has also been reformed to increase the percentage of the lump-sum pension benefits paid on retirement from 25 percent to 50 percent. This is just an indication that questions of pension reforms are not unique to Malawi.
They require a balancing exercise between short and long-term risks and needs. Most of the reforms contained in the Pension Act 2023 have to do with early access to benefits than the preservation of benefits.
For a society dominated by defined contribution funds like Malawi, this could have short term positive gains but long-term negative consequences that the nation needs to find ways to manage. n
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