Two-pot retirement system warning

South Africa’s new two-pot retirement system is set to be implemented before the end of 2024. Yet, it risks the sustainability of the country’s retirement industry as funds may flood out of the system. 

This is feedback from product development actuary at Coronation Rael Bloom, who said in a research note that several risks are associated with implementing the largest retirement reform in South African history. 

A major risk is that the system will not be properly implemented, resulting in discontent among retirees and undermining confidence in the retirement industry, Bloom said. 

This stems from the aggressive timeline the government has set for implementing the system, initially set for 1 March 2024 but now pushed back to 1 September 2024. 

The rush to implement the system increases the chances of delays, errors, and a lack of understanding from savers about the changes to the system. 

A raft of regulatory changes is required to give legal effect to this new system and clarify the changes. 

This includes changes to the Income Tax Act and Pension Fund Act. This enabling legislation must still be finalised and promulgated.

However, the most significant risk lies in the rapid flood of money out of the system once South Africans are allowed to withdraw from their “savings pot”. 

Your contributions are split into a locked “retirement pot” for long-term growth and a “savings pot” for occasional withdrawals in times of need. 

While the retirement pot secures your golden years, the savings pot offers tax-advantaged early access compared to the traditional withdrawal option. 

This reform aims to create better outcomes for retirees by promoting higher levels of savings and by preventing South Africans from withdrawing all of their retirement savings early. 

The significant long-term risk relates to the expectations that may be created following the initial seed capital lump sum payout. 

It is critical to the long-term sustainability of the retirement system that this initial seed payment is only allowed once and that additional lump sum withdrawals from members’ retirement pots are not allowed. 

After the seeding has taken place, the only amounts that should be accessible to members should be the balances available in their savings pots, Bloom argued. 

To highlight the risks of creating an expectation for recurring lump sum withdrawals, Bloom outlined what happened in the Chilean retirement market during the Covid-19 pandemic. 

Prior to the pandemic, Chile’s pension system was generally well-regarded. However, the retirement system was decimated following a series of Covid-19-related withdrawals, with over $50 billion flowing out of the system.

In contrast, Australia also allowed emergency withdrawals from Superannuation funds during Covid, but only under very specific and limited means-tested conditions. 

This protected the integrity of the Australian system, allowing it to recover once the immediate needs of the pandemic had passed.

To avoid a fate similar to Chile’s, it is essential for South Africa’s shift to the two-pot system to clearly establish that no further rounds of seeding will be permitted. 

Such discipline is crucial to protect the industry and avert severe harm to retirement savers and to the broader economy over the long term, Bloom said.