Good news about South Africa’s new retirement fund system

The new two-pot retirement system has been subject to considerable scrutiny, but it will boost returns for the country’s youth, increase flexibility, and fix problems with current pension schemes.

This is according to an analysis from Old Mutual, which revealed that the new system, launching on 1 September this year, could enable workers starting at age 25 to amass retirement savings 2 to 3 times greater than those under the old system.

The new two-pot system divides past and future retirement contributions into three components. 

One-third will be allocated to the savings component, which members can withdraw from at any point before retirement. Two-thirds will go to the retirement component, which cannot be touched until retirement. 

Old Mutual explained that by addressing the urgent need for financial liquidity and the essential goal of preserving retirement savings, the two-pot system is poised to guarantee a brighter future for employed South African youth. 

“The ingenuity of the two-pot system lies in its ability to acknowledge the need for immediate financial access, reflecting our socio-economic reality, while still safeguarding long-term retirement goals,” said Keri-lee Edmond, Analytics and Insights Manager from Old Mutual Corporate Consultants.  

“This marks a momentous shift in conventional thinking, which we believe will have a significantly positive effect on retirement outcomes in the future.”

Her research showed that the two-pot system can help young South Africans entering the workforce save up to 9.5 times their annual salary by retirement, even if they use the entire savings component for emergencies.

If no emergency withdrawals are made, savings could reach around 14.5 times the annual salary, providing greater financial security in retirement.

Currently, typical provident or pension fund members save only 2.7 times their annual salary, which undermines financial stability upon retirement.

Experts recommend saving 10 to 15 times one’s annual salary to replace 70% to 75% of working income in retirement.

According to the sixth edition of the 10X Investments Retirement Reality Report 2023, only 6% of the country’s population is on track to retire comfortably. 

This highlights a significant shortfall in current savings practices.

“The two-pot system promises significant progress towards financial security for all employees in occupational funds,” Edmond said. 

“However, employers play a key role in promoting financial education and creating innovative, less expensive forms of liquidity in a crisis. It is important to emphasise that withdrawals from the savings pot should be avoided.” 

The Old Mutual On Track research 2023 analysed half a million employees in umbrella funds and found that members of employer retirement funds have been withdrawing 100% of their retirement assets in cash when changing jobs.

“This action represents the most significant destruction of value and has a negative multiplier effect,” Edmond said. 

“The two-pot system aims to address this by preserving assets while allowing access to savings in difficult times.” 

“Compulsory preservation ensures more assets remain invested longer, benefiting from compound interest and resulting in higher retirement savings.”

Edmond explained that the legislation requires two-thirds of retirement savings to purchase an annuity, providing regular income in retirement and financial security for leisurely activities.

“Additionally, employees can withdraw from their savings component annually without leaving employment, addressing the current economic reality for many South Africans.”

“New employees should be encouraged to engage in financial planning and set aside additional emergency savings as they join the workforce, providing a cost-effective alternative to emergency withdrawals and helping to avoid debt.”

While the new system significantly boosts returns for younger employees, it benefits older workers as well. 

Edmond’s simulations show that for older members with at least 11 years of service until retirement, the new system is expected to provide outcomes at least equal to, if not better than, the current system.

“This new policy is a robust solution for today’s economic challenges and will have a positive impact on employees of all ages,” she said. 

“The longer individuals spend in the two-pot system, the more positive that effect will be.”

The retirement landscape is evolving, and South Africa is taking action to improve outcomes for all individuals, with employers playing a crucial role.

“The Two-Pot system is anticipated to revolutionise retirement planning in our country, offering substantial improvements in savings, especially for younger workers,” Edmond added.  

“By effectively balancing immediate financial needs with long-term retirement goals, it promises a brighter and more secure future for all, and we look forward to witnessing the positive impact this will have on our society.”