COSATU Submission on the

Pension Funds Second Amendment Bill

Submitted to the Finance Portfolio Committee, 22 August 2001

Table of Contents

  1. Introduction and summary of concerns
  2. Background to the Bill
    1. The Origins of the "Surplus"
    2. Ownership of retirement funds and of "surplus"
    3. The Bill and Process of Negotiation
    4. The Adverse Effects of the Absence of Legislation
  3. COSATU’s core principles and concerns
    1. A pension fund belongs to its members and no third party should have a legal stake or any claim on the fund
    2. Every pensioner is entitled to inflation related benefits
    3. Every member is entitled to a proportional share of what he or she would have been entitled to as a pensioner in the fund
    4. Any ordinary surplus remaining after satisfying the entitlements of pensioners and early leavers should be apportioned to pensioners and early leavers in equal shares
    5. The same principles that will apply to future benefits should apply to the past and should benefit all former members and pensioners since 1980
    6. Any deficit must be made good by the employer over time
    7. Dispute resolution regarding future minimum benefits and restitution of minimum benefits to past members should be dealt with on the basis of the same principles
  4. Conclusion
  5. Annexure A: Legal and actuarial background to COSATU’s submission
    1. The nature of retirement funds
    2. How "surpluses" are generated
    3. Employers do not have a right to benefit from the "surplus" assets of a fund
    4. Rights and duties of the trustees
  6. Annexure B: Glossary of terms

PART 2: SUMMARY OF PROPOSED AMENDMENTS

  1. Definitions
  2. Amendment of clause 14 - Amalgamations and Transfers
  3. Insertion of clause 14A in Act 24 of 1956 - Minimum benefits
  4. Insertion of clause 15A to 15K in Act 24 of 1956
  5. Amendment of section 30 - Special Provisions relating to Liquidation of Funds
  6. Amendment of clause 30H - Jurisdiction and prescription


  1. Introduction and summary of concerns

    2. The issue of the pension "surplus" is one of fundamental importance for COSATU. This issue affects but many previous and current employees at all levels. At stake are huge resources to which the rightful beneficiaries have been denied. As a result many people are now living in poverty , deprived of their hard-earned pensions by unscrupulous employers.

    COSATU thus welcomes the opportunity to comment on the Pension Funds Second Amendment Bill (hereafter "the Bill"). The Bill should address the past injustice of members being denied what was rightfully theirs and should prevent the same situation from arising in future. The absence of legislation has led to a situation where employers have effectively "raided" the "surplus", which rightfully belongs to members, through various dubious mechanisms. Parliament now has the opportunity to address the situation by passing legislation which clarifies and protects members' existing rights and ensures that:

    1. Restitution of "surplus" assets takes place by allocating these assets to former members and pensioners who were deprived of their reasonable benefits in the past; and

    2. Members are not deprived of their reasonable benefits in future.

    In this regard, COSATU welcomes the acknowledgement in the memorandum on the objects of the Bill (the "memorandum") that members have not been paid their benefits from funds and that legislation is required to compensate former members and protect members in future. In particular, COSATU welcomes government's recognition that:

    1. "Surpluses" have arisen as a result of members leaving defined benefit retirement funds without their full benefits;

    2. These past benefit payments practices were inequitable;

    3. It is necessary for the legislation to provide that former members who did not receive the investment reserves on their assets be paid these monies; and

    4. It is necessary for the legislation to provide for minimum pension increases and minimum benefits to be paid to members when leaving a fund or on conversion of a fund in future.

    While COSATU supports the underlying objectives of the Bill, there are a number of fundamental problems with the Bill in its current form that need to be addressed. Without these amendments COSATU cannot support the Bill. Central to our position is the recognition that the purpose of pension and provident funds ("retirement funds") is to protect the assets of members and to use those assets for the benefit of members alone. Employers are not and should not be beneficiaries of these funds. This position is supported in South African law.

    This submission begins by providing a brief history of the origins of the "surplus" and discusses the current legal position in terms of the ownership of retirement funds and of the "surplus" itself. It goes on to outline the process of developing legislation intended to address this problem up to this point. We also highlight some of the adverse effects on members arising from the absence of legislation, and the schemes used by employers to loot pension "surpluses". This is followed by a section setting out the core principles which COSATU believes should inform the Bill and identifying how the current version of the Bill departs from these.

    There are seven main principles of concern to COSATU which we believe should inform the way in which the Bill resolves the issue of the pension "surplus". However, the Bill as it stands is not fully compliant with any of these core principles, and substantial amendments would be required to ensure that past, current, and future members of retirement funds are indeed adequately protected. These principles are as follows:

    1. A pension fund belongs to its members and no third party should have a legal or equitable stake in the fund.

    2. Every pensioner is entitled to inflation related benefits.

    3. Every member is entitled to a proportional share of what he or she would have been entitled to as a pensioner in the fund.

    4. Any ordinary surplus remaining after satisfying the entitlements of pensioners and early leavers should be apportioned to pensioners and early leavers in equal shares.

    5. The same principles that will apply to future benefits should apply to the past and should benefit all former members and pensioners since 1980.

    6. Any deficit must be made good by the employer over time.

    7. Dispute resolution regarding future minimum benefits and restitution of minimum benefits to past members should be dealt with on the basis of the same principles.

    Annexure A sets out the detailed legal and actuarial background to the issue of "surplus" and the arguments underlying our conceptual approach. Given the technical complexity of this area, we have also included a glossary of key terms as Annexure B, and terms included in the glossary are italicised in the submission. COSATU's proposed amendments to specific provisions of the Bill are contained in Part 2 of our submission (separate document).


  2. Background to the Bill

    1. The Origins of the "Surplus"

      2. An understanding of how "surpluses" have arisen in retirement funds is critical to answering the question as to who should be entitled to benefit from these "surpluses" and in assessing whether the Bill will effect the appropriate and necessary amendments to the Pension Funds Act.

      What is commonly referred to as "surpluses" that currently exist in funds are in fact not surpluses at all, but represent assets that defined benefit funds originally set aside to provide sound investment to meet members' reasonable benefits expectations. Over the past 20 years an inequitable practice developed whereby these assets were not given to members when they left funds as a result of resignation, retrenchment, retirement and outsourcing of pensions.

      Without any basis in law or equity, the industry has driven the practice of treating actuarial values as market values, even though the former is about a third less than the latter. Members have therefore left their investment reserves in their previous funds and the profit generated by retaining the reserves is then referred to in the industry as "surplus". These profits or "surpluses" have been considerable and have severely disadvantaged many former members of retirement funds, who as a result will have inadequate private provision for retirement.

      When employees transfer from a defined benefit fund to a defined contribution fund, employer and employee contributions usually remain unchanged from the levels of contribution in the defined benefit fund. The two funds, pension and provident, therefore run in tandem with the same contribution rates. The same investment process and the same accumulation of assets process take place. However, in the defined contribution fund the members receive full benefit from the investment process. In the defined benefit fund they do not, because of the need to stabilise asset values and meet guarantees.

      However, once the guarantee is released, as happens at retrenchment, retirement, transfer, outsourcing of pensioners, there is suddenly and somewhat mysteriously to most observers, a "surplus" or profit in the defined benefit fund. In such instances, the risk has been transferred, but one of the most important means to manage that risk has been left behind, namely, the "investment reserve".

      The benefits of members who exited from defined benefit funds were thus calculated in such a way that they left behind a significant portion of the assets that had in fact been paid into the funds to secure their retirement benefits. Employers and trustees convinced members that they were being paid the benefits they were entitled to in terms of the rules of the funds. Members did not have sufficient knowledge of how defined benefits funds worked or access to proper information to realise that they were effectively being robbed of their benefits.

      The practice in South Africa is therefore, that while the parallel pension and provident arrangements in almost all companies have the same contribution rates, employers and company shareholders in retirement funds ultimately enjoy the windfall benefit from the release of investment reserves. This windfall is used to either enhance profits through contribution holidays or "repatriation", or to benefit future members or different classes of employees. There are countless examples of these.

      The effect of these inequitable practices was to produce "surplus" over and above what existed in funds prior to these events. COSATU will refer to this as "extraordinary" surplus.

      COSATU recognises that, in a defined benefit fund, after members and pensioners receive their fair share of the fund, the fund's assets may still exceed its liabilities. In such a situation it would be correct to say that a surplus existed in the fund. We will refer to this situation as an "ordinary" surplus. In the normal course of events, the ordinary surplus would be a relatively small proportion of a fund. The reason for this is that pension funds are akin to non-profit organisations and that employers would normally avoid building ordinary surplus beyond prudent minimum requirements.

      The Financial Services Board (FSB) estimates that these two categories of "surplus" together amount to at least R80 billion in current terms. Most of the R80 billion can be categorised as extraordinary surplus. These monies must be returned to their rightful owners – the members and former members of funds. The legislation therefore needs to provide for restitution of members' retirement benefits. The fact that millions of members of retirement funds do not have sufficient savings in their funds to survive after retirement or retrenchment will have devastating social consequences and condemns millions of South Africa's working people to a life of extreme poverty and destitution.

      The devastating consequence of these practices for members has not inhibited many employers' continued abuse of these funds. The main form of the abuse was to treat the extraordinary surplus, created through the inequitable practices described above, as if it were ordinary surplus. From the late 1980's up to now many employers stopped paying contributions to the defined benefit funds on a massive scale and used the extraordinary surplus to fund the contributions for which they were liable in the ordinary course of events. This is referred to as so-called "contribution holidays". The extraordinary surplus was also allocated to employer reserve accounts.

      A particularly disturbing and highly irregular practice that has developed in the South African retirement fund industry is that, when profits or "surpluses" are generated in defined benefit funds, these are frequently transferred to employer reserve accounts in the defined contribution funds. The employer contributions are then paid from the employer reserve accounts. Employers are therefore obtaining a direct financial advantage from the members' investment reserves.

      On the one hand it may be argued that the regulatory authorities turned a blind eye to many of these illegal practices. On the other hand, many of the schemes were cleverly structured and designed to ensure that it was not possible to detect from the documents submitted to the authorities what the real purpose of the transaction and rule amendments were. Assets were never transferred into "employer contribution holiday accounts", they were transferred into for example "reserve account number 2" or an "employer protection account" – effectively employer slush fund accounts. Pension increases were granted in return for the members' agreement that they would forfeit their right to post retirement medical aid funding by the employer, but were never recorded as such in the reports submitted to the regulator.

      These schemes saved employers many millions of Rands on an annual basis. However, the assets left behind by members were so extensive that many employers could not use all the assets through their various devious schemes. Employers got greedier – they decided that they wanted to be able to take all forms of "surplus" money out of retirement funds to use for whatever purpose they deemed fit. This includes so-called "repatriation of surpluses'" (the term incorrectly implying that there is some sort of legitimacy to the claim).

    2. Ownership of retirement funds and of "surplus"

      3. The object of a retirement fund is therefore to provide retirement benefits to its members and death benefits to its members' dependants. Employers set up and contribute to retirement funds as a form of delayed remuneration (or deferred wages) to employees. If, with the benefit of hindsight, it becomes apparent that the employer contributed at a rate higher than was actually necessary to fund the benefits of the retirement fund, this does not change the fact that the contributions became part of the assets of the fund. There is no basis in law to argue that an employer is entitled, for reasons of equity or otherwise, to claim back assets which were properly paid in the contemplation of a pattern of investment, withdrawals or whatever, that subsequently proves to be unduly conservative or pessimistic. If a "surplus" arises, it is not distinct from the fund, it remains part of the fund's assets.

      An analogous situation is the payment of insurance premiums (for example for household goods) over a period of time. Even if the person realises with hindsight that they had overvalued their possessions and hence paid higher premiums than were necessary, they have no claim on the premiums that were paid all along to the insurer. An employer has no more claim on the contributions paid to a retirement fund.

      Under the rules, the amount that an employer must contribute is decided by the actuary (who is appointed by the board of trustees). Calculations performed by the actuary depend on a number of assumptions, including the future performance of the investment market. In making these assumptions, actuaries tend to be cautious, and as a result one can, particularly in investment market booms, achieve a significant level of 'over-funding'. The "surplus", it should be clear, is an actuarial conception. The underlying asset it represents remains the property of the fund, and the fund only.

      In South Africa, there is no common law principle or statutory provision that allows a "surplus" in a retirement fund to be distributed to the employer. At common law, trustees are obliged to act in the best interests of the fund. This precludes them from exercising their discretion in order to promote their own interests or the interests of third parties (such as the contributing employer). COSATU submits that this duty precludes the trustees from making distributions to the contributing employer out of considerations of liberality. Such distributions would in effect constitute a donation and, within the context of company law, such donations are plainly impermissible.

      South African law acknowledges that the members and beneficiaries of a fund may have reasonable benefit expectations in retirement funds that exceed their specific benefit entitlements under the rules. In many funds the rules provide that if there is a substantial "surplus" in the fund benefits may be improved and/or pensions increased. In these funds the members and beneficiaries have a reasonable expectation that, if there is a substantial "surplus" in the fund and there are more than sufficient assets to allow benefit improvements and pension increases, the trustees will amend the rules to effect an improvement in benefits and will grant reasonable pension increases.

      Therefore, legislative amendments which make provision for "surplus" assets to be used for the employers' benefit (other than by way of a reduction by the actuary of the contribution rate required by the employer) would have the effect of diminishing the members' reasonable benefit expectations and would obviously not be in the best interests of the funds and their members.

      If the assets of retirement funds had not been used for the benefit of employers, including by way of transfers the contribution holidays to defined contribution funds, the trustees of the fund would have had to exercise their discretion regarding how the assets could be applied for the benefit of the fund and its members. The members therefore had a reasonable expectation that their benefits would be improved by application of "surplus" assets in the fund. COSATU submits that the transfer or use of assets for the employer's benefit is at the expense of the rights and reasonable benefit expectations of the members and beneficiaries of the retirement funds.

      Notwithstanding the fact that the law currently prevents an employer from using the assets of a defined contribution fund to fund a contribution holiday, the Bill proposes that employers be allowed to do so.

      In summary, the use of retirement assets for the benefit of the employer constitutes an unlawful alienation of trust money that improperly advantages the employer at the expense of the members and beneficiaries of the retirement fund. Consequently, where an employer has utilised the assets of a retirement fund in this manner it is not unfair or unlawful to require that an employer pay to the fund such assets as are necessary to reimburse former members of the funds at whose expense these assets were retained.

    3. The Bill and Process of Negotiation

      4. As discussed in section 2.1 above, employers have attempted to devise schemes to extract all forms of "surplus" out of pension funds. However, based on the current statutory and common law provisions, the Financial Services Board (FSB) correctly refused to register rule amendments making provision for the "repatriation of surplus assets". Employers then pressurised for legislation to be introduced to legalise the final plunder of retirement fund assets through the amendment of the Pension Funds Act to make provision for the repatriation of "surpluses" to employers. In June 1998 a Pension Funds Amendment Bill was tabled in Parliament.

      The 1998 Bill was withdrawn after COSATU raised objections about the lack of protection afforded to members and the easy access employers were given to repatriate "surplus" assets in retirement funds. COSATU, after extensive research and after meetings with the FSB and the Department, submitted a proposed revised Pension Fund Amendment Bill to the Department of Finance. Subsequently a number of meetings were held between COSATU, the Department of Finance and the FSB to seek a solution to the pension "surplus" question. The matter was then referred to NEDLAC in January 2000 for government, labour and business to seek consensus and agreement on the proposed Amendment Bill.

      The NEDLAC negotiations were seriously hampered by business's uncooperative attitude and foot-dragging using various stratagems including not seeking appropriate mandates before the meetings. This made it extremely difficult to arrive at a consensus on the Bill. Government and COSATU reached an in-principle agreement on almost all the critical issues regarding the proposed Bill. Due to business's attitude NEDLAC was unable to deal conclusively with the Bill and develop a comprehensive report that should be tabled before parliament. In other words, the parliamentary process almost has to restart from the beginning. COSATU therefore hopes that this process will now conclusively resolve the matter.

    4. The Adverse Effects of the Absence of Legislation

      5. Delays in finalising the legislation and the fact that no legislation is in place causes serious prejudice to members of funds because "surplus" assets, which are currently in funds, including both ordinary and extraordinary surplus, are being reduced on a daily basis. The "surpluses" are being depleted through inter alia:

      • Employer contribution holidays;

      • Restructuring exercises in which members' share of the funds are stripped of their investment reserves and the extraordinary surpluses created by this are allocated to employer reserve accounts in defined contribution funds for employers' exclusive benefit;

      • Employers offsetting their post-retirement medical aid liability by using the "surpluses" in the funds.

      The FSB has informed COSATU that it is powerless to prevent these practices. COSATU has consistently raised its concern that if these practices continue, by the time legislation is in place, any remedies members are given to recover monies which should have been paid to them may be worthless, because there will be no "surplus" assets remaining.

      Further, there are social and economic consequences of depriving members of the assets set aside for their retirement. Whether in the manner proposed in the Bill or by repatriation, the use of retirement funds monies by the employers would lead to a number of adverse consequences.

      Members, former members, and their dependants are exposed to a much large financial risk than they should be, with potentially dire consequences for workers in this country and resulting social implications. Among these consequences the burden to the state would increase substantially because former retirement funds members would be more reliant on the state social security system due to inadequate retirement benefits. Members that did not receive their full benefits have to deal with the vagaries of cost of living and supporting their families on meagre pensions.


  3. COSATU's core principles and concerns

    4. In this section we set out the central principles which we believe should guide the resolution of this issue, and which are currently not adequately covered in the Bill.

    1. A pension fund belongs to its members and no third party should have a legal stake or any claim on the fund

      2. It is accepted in South African law that a pension fund's assets belong to the fund and that it must be preserved for the interests of members. However, the proposed Bill would erode this principle.

      A central concern of ours is that the Bill elevates employers to the position of a "beneficiary" of the fund by requiring trustees to act in the interest of non-members. The Bill in its current form contains provisions that give the employer the same right as members to benefit from extraordinary and ordinary surplus arising in the past and in the future. This would adversely affect a fund's ability to meet members' reasonable benefit expectations.

      The Bill also gives employers unprecedented and extraordinary rights of access to assets in retirement funds for purposes that are contrary to the objects of pension funds.

      Much of the abuse of fund assets over the last 20 years could have been avoided had the proper status of the employer as a debtor of a fund been recognised. This recognition would not reduce the bargaining power and influence of the employer, but would ensure that it is exercised in the appropriate forum, namely the workplace, and in the appropriate context, namely that of the employment relationship. This would establish a more consistent and sound approach to the true fiduciary nature of the relationship between trustee and fund and the duty of good faith owed by the employer to the fund.

      Members' interest would be given far greater protection if representation on the boards of trustees of funds moved closer to 100% member representation, a logical outcome of the acceptance of this core principle. This clearly needs to be combined with trustee training and empowerment as well as stronger regulatory mechanisms.

      Required amendments:

      Amend: clause 15A(1) [item 41]

      clause 15C(2) [item 52]

      Delete: definition of "stakeholder" [item 27]

      clause 15B(3) [item 48]

      clauses 15E - I [items 54-58]

      This principle is also implicit in the following proposed amendments:

      Delete: definition of "contribution holiday" [item 5]

      definition of "employer surplus account" [item 11]

      definition of "member surplus account" [item 17]

      definition of "repatriate" [item 24]

      clauses 15A(2) – (3) [items 42-43]

    2. Every pensioner is entitled to inflation related benefits

      3. Members either stay on in a fund after retirement age as pensioners or leave the fund with a benefit payment. In either situation, it is necessary to prescribe the minimum inflation related benefits that members can reasonably expect. If members stay on as pensioners, they must be entitled to minimum pension increases.

      All pensioners are entitled to inflation related increases. The Bill currently puts an inflation related ceiling on what pensioners will be entitled to. COSATU believes that the Bill should provide an inflation related minimum benefit for pensioners.

      COSATU believes that pensioners are therefore entitled to the greater of the following two values:

      • The defined pension increase policy of the fund, as defined in the rules of the fund; or

      • What is affordable from time to time, i.e. the excess of the gross investment return over the funding interest rate.

      In determining the defined pension increase policy, the fund must give due consideration to meeting pensioners' reasonable benefit expectation of full protection against the effects of inflation.

      Required amendments:

      Amend: definition of "minimum pension increase" [item 20] read with clause 14A (1)(e) [item 36].

    3. Every member is entitled to a proportional share of what he or she would have been entitled to as a pensioner in the fund

      4. Defined benefit funds

      If members leave the fund on or before retirement date, they must receive a minimum benefit. Early leavers, regardless of the cause of their exit or transfer, should equally receive the proportional share of the benefits that they would have been entitled to had they remained in the fund until retirement. Just as with COSATU's proposals regarding minimum pension increases, equivalent provision must be made to accord members similar protection against the effect of inflation on salaries and on pensions and against the vagaries of the investment markets. We will refer to these three elements as the "economic variables".

      The Bill only affords members their actuarial liability and does not contemplate members getting their proportional share of the fund. This means that members will not be afforded their share of ordinary surplus and may not receive protection against the economic variables. In addition, the Bill does not provide for a minimum benefit on resignation and dismissals. In terms of the Bill, the Registrar is empowered to regulate the basis for the determination of the minimum benefit. However, the Registrar is not required in terms of the Bill to take into account the way in which funds customarily protected its members against the economic variables (such as the effects of inflation and the volatility of investment markets). COSATU proposes that members should get the benefit of these protections.

      COSATU therefore proposes that the minimum benefit of each member must be his or her proportional share of the fund. The member's proportion of the assets must be the same as the proportion that the member's actuarial liability bears to the total actuarial liabilities. This would mean that the member would receive all the assets in the fund that had been properly and objectively set aside to meet the member's rights and reasonable benefit expectations.

      In the past, members have not received all these assets on transfers, conversions or other exits (which we will refer to as the "restructuring events"). Therefore, it has become necessary to prescribe what the basis must be for the calculation of the value of the assets and liabilities. COSATU recognises that it must be a "living" basis capable of responding to changing circumstances and that, to a certain extent, professional actuarial judgement must continue to be exercised. However this flexibility must not detract from the fund's ability to give full recognition to the rights and reasonable benefit expectations of all the members, taking into account the economic variables

      In COSATU's view, the correct basis for the calculation must be the basis on which the fund provided for these economic variables prior to the manipulation and distortion which took place. We believe that the basis used at the time of the three yearly statutory actuarial valuations that preceded the first of the major exits, conversions or transfers in the fund is the most appropriate and objective basis. We believe that this basis must be used for the following reasons:

      • The actuarial basis contained in the statutory actuarial valuation reports is the only basis that is known to members; it is lodged with the FSB and is available for scrutiny. Using this basis would enable members to assess how their rights and reasonable benefit expectations were customarily valued.

      • This basis would be a much truer reflection of the rights and reasonable benefit expectations of the members than the basis that were applied in the course of these restructuring events. The actuarial basis used in the course of the restructuring events mostly devalued members' assets and liabilities by manipulating economic variables of exiting or transferring members.

      The definition of "minimum contribution accumulation" and minimum individual reserve in the Bill should be amended in order to give effect to the "share of fund" principle and to the proper recognition of the economic variables that customarily applied.

      Defined contribution funds

      The same principles should apply to defined contribution funds as in the case of defined benefit funds: early leavers should receive the proportional share of the benefits which they would have been entitled to had they remained in the fund until retirement. In defined contribution funds, the minimum benefit should include both the member's contributions as well as the employer contributions for retirement.

      It is not clear whether the reference to "member's individual account" in the definition of "minimum individual reserve" in the Bill envisages that the employer's contributions are included.

      The Bill should therefore be amended to give effect to the principle contained in the memorandum that in a defined contribution scheme the members' minimum benefits should include employer contributions (referred to as Full Fund Credit).

      Window period

      The Bill currently provides for a phasing-in period for the provision of minimum benefits. COSATU acknowledges that in some cases there may be a need for phasing-in periods in the sense of allowing for the effective administration of the new benefit regime. However, the Bill should be amended to ensure that the rights to minimum benefits must vest or accrue from the date of the commencement of the Amendment Act, as opposed to the conclusion of any delayed phasing-in by funds.

      The Bill further allows the employer to evade their minimum benefit obligations in the following two ways:

      • The employer can terminate the fund before the commencement of the Amendment Act; and

      • The employer may effect substantive changes in the fund that affect transfers, conversions and retrenchments in the period proceeding the date from which they will need to comply with the minimum benefit provisions. The effect of this will be that, for a period of between 1 and 4 years, members may not receive their minimum benefits and the employer may continue to manufacture extraordinary surplus.

      COSATU is concerned that these window periods will result in prejudice to members and we would like to see greater protection for members in this regard. In addition to the amendment as discussed above to ensure that rights vest as from the commencement of the Act, the above provisions which potentially facilitate the evasion of employers' minimum benefit obligations should be deleted.

      Required amendments:

      Add: definition of "accrued liability" [item 2]

      definition of "investment reserve factor" [item 15]

      Amend: definition of "minimum contribution accumulation" [item 18]

      (read with clause 14A(1)(f) [item 37])

      definition of "minimum individual reserve" [item 19]

      definition of "surplus apportionment date" [item 29]

      clause 14A (1)(a) [item 32]

      clause 14A(2)(b) [item 38]

      clause 30(3) [item 61]

      Delete: clauses 14A(1)(b)-(d) [items 33-35]

      clause 14A(3) [item 39]

      This principle is also related to the following amendments:

      Amend: clause 15C [item 52]

      Delete: definition of "contribution holiday" [item 5]

      definition of "employer surplus account" [item 11]

      definition of "member surplus account" [item 17]

      definition of "repatriate" [item 24]

      clauses 15A(2) – (4) [items 42-44]

      clauses 15D – J [items 53-58]

    4. Any ordinary surplus remaining after satisfying the entitlements of pensioners and early leavers should be apportioned to pensioners and early leavers in equal shares

      5. The apportionment of any ordinary surplus that remains after paying members and pensioners what they are entitled to should be tightly regulated.

      Any ordinary surplus remaining in the fund after both members and pensioners are paid their entitlements, should be distributed to members and pensioners in proportion to their actuarial liabilities. This share of the ordinary surplus is included in COSATU's share of fund approach referred to above.

      The Bill currently deals with ordinary surplus in three clauses, namely clause 15B (which deals with apportionment of existing extraordinary and ordinary surplus), 15C (the apportionment of future ordinary surplus) and 15F (existing extraordinary and ordinary surplus that were allocated to employers).

      Clause 15B provides that ordinary surplus must be distributed "equitably" between the various classes of stakeholders. The definition of "stakeholder" includes the employer. Clause 15F equally allows for ordinary and extraordinary surpluses that have already been allocated to the employers to remain under the employer's control.

      These provisions are fundamentally flawed. The trustees do not have and should not have fiduciary duties to all "stakeholders" – fiduciary duties can only be owed to the fund and its members.

      Clause 15C(1) determines that ordinary surplus arising in the future must be dealt with in terms of the rules of the fund. It does not prescribe who is entitled to this surplus. In the absence of rules regulating apportionment of "surplus", clause 15C(2) contains the obligation that the trustees can decide who should benefit from this surplus taking into account the interest of "stakeholders". This is again, fundamentally flawed and contradicts the existing provision of the Pension Funds Act regarding the proper exercise of trustees' fiduciary duties.

      The Bill should be amended to provide that, notwithstanding anything in the rules, ordinary surplus must be included within the scope of the minimum benefit to which each member is entitled. The effect of this would be that, in the ordinary course of events, there will be no surplus available and no employer or member reserve accounts which can be utilised. Clauses 15D-I would then become redundant and should be deleted.

      COSATU is willing to concede one exception to this rule in light of the hardships suffered by members due to massive job losses and in the context of the extremely high unemployment rates in South Africa. COSATU would be willing to agree to allow for the allocation of a certain share of the actuarial surplus to employers to avoid imminent job losses, only under the following limited circumstances:

      • Only the share of surplus that would normally accrue to members while still in employment may be considered for allocation.

      • The rights and reasonable benefits expectations of former members and pensioners may not be affected by the allocation.

      • The allocation may only be considered after full compliance with the proposed clause 15B and after former members have been paid their full minimum benefits.

      • An independent auditor appointed by the fund and remunerated by the employer must certify the extent of the operational requirement.

      • Members must be provided with all the necessary information, including regarding the effect that the allocation will have on their rights and reasonable benefits expectations, and the decision to approve the scheme must be a fully informed one.

      • At least 75% of the in-service members must approve the scheme in writing.

      Required amendments:

      Amend: clauses 15C(1) and (2) [item 52]

      Clause 15J [item 59]

      Delete: definition of "contribution holiday" [item 5]

      definition of "employer surplus account" [item 11]

      definition of "member surplus account" [item 17]

      definition of "repatriate" [item 24]

      clauses 15A(2) – (4) [items 42-44]

      clauses 15D – J [items 53-59]

    5. The same principles that will apply to future benefits should apply to the past and should benefit all former members and pensioners since 1980

      6. The Bill should not only establish principles regarding what minimum entitlements are for members and pensioners, and how ordinary surpluses should be distributed in future. Crucially, it should also ensure that these principles are applied to former members in order to ensure redress of past inequitable practices. One of COSATU's major concerns is that the Bill does not adequately give effect to the right of members and former members to redress.

      Although the principles that should be applied in compensating former members who left their investment reserves and actuarial surplus in the funds are explained in the memorandum, the Bill does not adequately give effect to those principles.

      The Bill appears to limit the redress of past inequitable practices to the amount of extraordinary and ordinary surplus that is available in reserve accounts in funds at the moment. We will refer to this as "distributable surplus".

      The Bill provides for a priority allocation of this distributable surplus to the funding of contingency reserve accounts. These funds are, by definition, only of benefit to current and former members. Thereafter the Bill proposes that the trustees can share this distributable surplus between the stakeholders, who are defined as including employers. It does not provide for any formula as to how this distribution must happen, save to say that it must be "equitable". The Bill does not even attempt to give former members what they were entitled to.

      COSATU proposes that the Bill should provide restitution to all former members of their minimum benefits as from an agreed cut-off date. These minimum benefits must be calculated as discussed earlier in this submission.

      COSATU is of the view that the cut-off date should be 1980 for all former members who left the funds on grounds related to transfers, conversions, dismissals (including retrenchments) and resignations. COSATU believes that 1980 is the most applicable cut-off date, since this was the date that the apartheid regime attempted to impose the compulsory preservation of pension fund benefits. This sparked the subsequent massive restructuring of the pension funds industry and the deprivation of members' reasonable benefit expectations. For the same reason, all pensions already being paid out should be increased in accordance with the minimum pension increase provisions, from 1980 or the date of retirement, whichever is the latest.

      The following amendments are crucial to ensure that the same principles that will apply in future are consistently applied to former members and that former members are granted restitution of their assets:

      • All former members should receive the difference between their proportional share of the fund that they should have received on exit and the benefits that they in fact received at the time of leaving the fund.

      • The Bill should prescribe procedures and principles in terms of which redress to former members and pensioners must take place. These principles and procedures cannot be contained in regulations (as is currently proposed in the legislation) but must be contained in the body of the legislation itself. It should be unequivocal in its entrenchment of the obligation on funds to pay members and pensioners their claim to a fair share of the fund.

      • The same principles should apply to ordinary surpluses that arose in the past and to ordinary surplus that will arise in the future. Therefore, if in the course of the restitution exercise any surplus remains after satisfying the entitlements of former members and pensioners since 1980, this surplus must be distributed in proportional shares to former members and pensioners.

      Required amendments:

      Add: definition of "former members" [item 13]

      Rename: clause 15B [item 45]

      Amend: clause 15B(1) [item 46]

      Delete: clause 15B(2) - (4) [items 47-49]

    6. Any deficit must be made good by the employer over time

      7. The Bill only provides for former members to be compensated for their loss of benefits if there are still sufficient funds remaining in the fund to do so. The memorandum suggests that only where distributable surpluses exist will funds be required to pay former members the benefits they should have received at the time of leaving the fund. This will result in a situation in which an employer who has already utilised the assets that were left behind by members and former members will not be required to pay former members their benefits. This also creates a perverse incentive for employers to attempt to deplete the funds in the interim.

      This approach is not only unsound and inconsistent, but also unfairly prejudices those former members and members of funds in which employers have ensured that the "surpluses" created by transfers, conversions and retrenchments have already been utilised. This could create an absurd situation where only those former members lucky enough to have been members of funds where employers have not depleted the funds will be paid their benefits.

      Section 18 of the Pension Funds Act, which deals with funds that are not in a sound financial condition, applies to all deficits, regardless of the source of the deficit. COSATU therefore believes that deficits arising out of paying former members what they were entitled to at the time that they left funds should be dealt with in terms of section 18. The Bill should therefore specify that:

      • these deficits will be dealt with in terms of section 18; and

      • employers will have to make good the deficit over time.

      Such as approach would prevent possible negative destabilising effects on funds or employers by allowing for a gradual approach where specific circumstances warrant it.

      Where disputes arise within funds regarding the contents of the funding scheme, and before the Registrar exercises his/her discretion in terms of section 28 or 29 of the Act, the dispute resolution procedure as discussed below should be followed.

      Required amendments:

      Add: clause 15B(2) [item 47]

    7. Dispute resolution regarding future minimum benefits and restitution of minimum benefits to past members should be dealt with on the basis of the same principles

      8. The proposed dispute resolution procedure for disputes relating to "surplus" apportionment exacerbates the current problems with the resolution of retirement fund disputes. Although COSATU notes the intended advantages of the proposed ad hoc specialist tribunal, we remain concerned about duplication in function and the dangers of forum shopping.

      Therefore, COSATU believes that, in the interest of affordable, effective and accessible dispute resolution, all dispute resolution functions relating to payment of past and future benefits should remain within the office of the Pension Funds Adjudicator. COSATU recognises the current challenges facing the Adjudicator, in particular the backlog of cases that has been caused by lack of resources. However, we believe that the proposed costs of setting up an ad hoc tribunal should rather be channelled to ensure that the office of the Adjudicator is sufficiently resourced to carry the additional burden of disputes in terms of this Bill. This would result in a more consistent and coherent jurisprudence.

      Required amendments:

      Amend: clause 15B(5) - (7) [item 51]

      Delete: clause 15K [item 60]

      clause 30H(4) [item 62]

      (Also possibly amend certain sections of Chapter VA of the Pension Funds Act)


  4. Conclusion

    5. This submission has outlined the origins of the "surplus" and its rightful ownership. Unscrupulous and greedy employers, in an Apartheid environment, have however wherever possible misappropriated these resources for themselves. Even where funds have not yet been fully looted, members and former members have been denied what belongs to them. We have outlined the seven core principles which we believe should inform the resolution of the "surplus" issue, namely:

    1. A pension fund belongs to its members and no third party should have a legal or equitable stake in the fund.

    2. Every pensioner is entitled to inflation related benefits.

    3. Every member is entitled to a proportional share of what he or she would have been entitled to as a pensioner in the fund.

    4. Any ordinary surplus remaining after satisfying the entitlements of pensioners and early leavers should be apportioned to pensioners and early leavers in equal shares.

    5. The same principles that will apply to future benefits should apply to the past and should benefit all former members and pensioners since 1980.

    6. Any deficit must be made good by the employer over time.

    7. Dispute resolution regarding future minimum benefits and restitution of minimum benefits to past members should be dealt with on the basis of the same principles.

    The Bill as it stands does not fully give effect to these basic principles, and would fail to ensure that people are able to access their hard-earned pensions. COSATU has drafted detailed amendments to the Bill which would make it compliant with these principles and give adequate protection to past, current and future employees.

    We hope that the Portfolio Committee will accept these principles and effect the amendments to the Bill that flow from them. This would address the inequitable situation which currently exists, restore to members and former members what rightfully belongs to them, and ensure that the same situation does not arise in future.


  5. Annexure A: Legal and actuarial background to COSATU's submission

    6. The purpose of this annexure is to provide the legal and actuarial basis for COSATU's conceptual approach and proposals. Set out below is an explanation of the nature of retirement funds, who is entitled to benefit from the assets of retirement funds and how "surpluses" have been generated through the depletion of members' assets.

    1. The nature of retirement funds

      2. Registered retirement funds are juristic persons. A retirement fund is an association of persons established with the object of providing annuities or lump sum payments to members or former members of such association upon their reaching retirement dates or to the dependants of such members or former members upon the death of such members or former members. The object of a retirement fund is therefore to provide retirement benefits to its members and death benefits to its members' dependants.

      Retirement funds own their assets in the fullest sense of the word "own". Being a corporate person, a retirement fund's assets are its exclusive property. The assets do not belong to the members, the creditors or the employer. Similarly, the liabilities of a retirement fund are its own liabilities. Statute has intervened to give members some protection against the consequences of a fund's insolvency, but members and pensioners of an insolvent retirement fund otherwise have no claim against a contributing employer or other third parties.

      Employers set up and contribute to retirement funds as a form of delayed remuneration (or deferred wages) to employees. If, with the benefit of hindsight, it becomes apparent that the employer contributed at a rate higher than was actually necessary to fund the benefits of the retirement fund, this does not change the fact that the contributions became part of the assets of the fund. There is no basis in law to argue that an employer is entitled, for reasons of equity or otherwise, to claim back assets which were properly paid in the contemplation of a pattern of investment, withdrawals or whatever, that subsequently proves to be unduly conservative or pessimistic. If a "surplus" arises, it is not distinct from the fund, it remains part of the fund's assets.

      Like other corporate entities, retirement funds have commitments to others. These commitments include liabilities for administration and insurance costs, but primarily comprise the claims of pensioners and prospective pensioners against the fund. In a defined benefit fund, pensioners are entitled to claim the amount for which the rules provide because, on joining the fund, they consent to submit to the rules. It can, if one likes, be put on the basis that they contract with the fund on the basis set out in the rules. The binding force of the rules is universally acknowledged.

      The rules of a retirement fund also create a juristic bond between the contributing employer and the fund. The employer, for so long as it continues to contribute, must observe the rules of the fund and, more specifically, must make the contributions for which the rules provide. Its relationship with the fund is as one of debtor to creditor, and because it is in this position, it is given powers designed to protect its interests. The powers have to be exercised in good faith.

      Under the rules, the amount that an employer must contribute is decided by the actuary (who is appointed by the board of trustees). In order to determine this amount, the actuary must consider the extent to which the current assets of the fund will adequately cover the claims by existing pensioners and by members upon retirement. This calculation, which is sophisticated, is compared with the actual and projected value of the assets of the fund and a conclusion is then drawn on the extent to which the fund is 'over-funded' or 'under-funded'. It is on the basis of this conclusion that the employer's contribution is fixed.

      Calculations performed by the actuary depend on a number of assumptions, including the future performance of the investment market. In making these assumptions, actuaries tend to be cautious, and as a result one can, particularly in investment market booms, achieve a significant level of 'over-funding'.

      The "surplus", it should be clear, is an actuarial conception. The underlying asset it represents remains the property of the fund, and the fund only.

      Under the Income Tax Act the tax benefits of being a retirement fund are forfeited if anyone other than the members is entitled to the proceeds of the fund. Since these tax benefits are important, fund rules invariably provide either expressly or by implication that no portion of the fund may be paid to the employer. Employers are therefore prohibited from obtaining a financial benefit from retirement funds.

    2. How "surpluses" are generated

      3. "Surpluses" (and in some cases shortfalls) arise over many years for many reasons. In some instances, "surpluses" are due to changing financial and economic relationships, for example remuneration changes, investment returns, increasing longevity, increasing job mobility, state of health or AIDS.

      "Surpluses" and shortfalls also arise for "once-off" reasons, such as benefit changes, change in actuarial basis, large-scale events such as transfers, conversions, outsourcing and retrenchments.

      Actuaries can also change the actuarial expectation, and hence the actuarial condition of the fund, at the stroke of a pen. This is referred to as "change in actuarial basis". The lowering of the actuarial valuation of assets is also generating what are now referred to as "surpluses".

      Significant changes have taken place in actuarial methodology over the years. Previously, more conservative methods were used which, against a background of economic expansion, job mobility, new methods of financing death and disability benefits, and so on, have resulted in an erosion of the security of members' benefits and inadequate benefit payments.

      The most significant is the change in the way assets are valued for actuarial purposes (for comparison with actuarial liabilities), such as occurs when a transfer, conversion or outsourcing takes place. In most cases, the members' share of a fund for these purposes is calculated on a different actuarial basis to that used in calculating the actuarial liability of the fund (even if referred to as "actuarial reserve").

      The ratio between market value of assets and actuarial value of assets is referred to as the "investment reserve factor" ("IRF"). So, actuarial value, multiplied by IRF equals the market value of the assets.

      A large source of investment "surplus" arises when benefits are paid or transferred, such as the outsourcing of pensions, mass retrenchments and transfers take place, or other similar events, when the actuarial liability is paid or transferred without the market value factor.

      MVF fluctuates with market fluctuations in order to provide stability to the actuarial value. Typically, an MVF will be in the order of 1,33 – i.e. market value is about 33% higher than the actuarial value, for good reason.

      Therefore, whenever computing actuarial interest, liability or reserve this refers to the fact that the supporting assets are reflected at their actuarial value, as opposed to their market value.

      Without any basis in law or equity, the industry has driven the practice of treating actuarial values as market values, even though the former is about a third less than the latter. Members have therefore left their investment reserves in their previous funds and the profit generated by retaining the reserves is then referred to in the industry as "surplus". These profits or "surpluses" have been considerable and have severely disadvantaged many former members of retirement funds, who as a result will have inadequate private provision for retirement.

      When employees transfer from a defined benefit fund to a defined contribution fund, employer and employee contributions usually remain unchanged from the levels of contribution in the defined benefit fund. The two funds, pension and provident, therefore run in tandem with the same contribution rates. The same investment process and the same accumulation of assets process take place. However, in the defined contribution fund the members receive full benefit from the investment process. In the defined benefit fund they do not, because of the need to stabilise asset values and meet guarantees.

      However, once the guarantee is released, as happens at retrenchment, retirement, transfer, outsourcing of pensioners, there is suddenly and somewhat mysteriously to most observers, a "surplus" or profit in the defined benefit fund. In such instances, the risk has been transferred, but one of the most important means to manage that risk has been left behind, namely, the "investment reserve".

      The practice in South Africa is therefore, that while the parallel pension and provident arrangements in almost all companies have the same contribution rates, employers and company shareholders in retirement funds ultimately enjoy the windfall benefit from the release of investment reserves. This windfall is used to either enhance profits through contribution holidays or "repatriation", or to benefit future members or different classes of employees. There are countless examples of these.

      A particularly disturbing and highly irregular practice that has developed in the South African retirement fund industry is that, when profits or "surpluses" are generated in defined benefit funds, these are frequently transferred to employer reserve accounts in the defined contribution funds. The employer contributions are then paid from the employer reserve accounts. Employers are therefore obtaining a direct financial advantage from the members' investment reserves.

      It would in fact be more appropriate to refer to these amounts as "profits". Assets are no longer "surplus" if the corresponding liability has been disposed of, or is no longer required, or is used for purposes for which it was not originally intended.

    3. Employers do not have a right to benefit from the "surplus" assets of a fund

      4. In South Africa, there is no common law principle or statutory provision that allows a "surplus" in a retirement fund to be distributed to the employer.

      Any benefit that the employer derives from the "surplus" of a retirement fund can at best be incidental to the interests of the members and beneficiaries of the fund. This appears from the Tek decision, in which Marais JA states:

      "[21] …Insofar as it was contended in the pre-litigation correspondence that any surplus 'lies within the control of the employer company' in the sense that the employer has uninhibited access to it, I consider this contention to be wrong.

      [22] That does not mean that the employer can derive no benefit whatsoever from the existence of a surplus. A recommendation by trustees that a surplus be retained to counter a perceived risk of future adverse volatility in the investment environment, if accepted by the employer, will benefit the employer in as much as it will not be liable to make contributions to the fund for so long as the surplus exists. But that would be a fortuitous and incidental advantage flowing from a recommendation made by the trustees in the interests of the fund and its members. In so recommending the trustees would not be acting in breach of their fiduciary duties nor would they be acting ultra vires. Nor would the employer be acting in bad faith towards its employees in accepting the recommendation."

      (Underlining added)

      The Tek judgement clearly states that, in exercising their powers, trustees are subject to constraints at common law, under the Pension Funds Act and the Financial Institutions Act. In essence, this requires that the trustees only amend the rules of a fund for the benefit of the fund and its members and not for the benefit of the employers.

    4. Rights and duties of the trustees

      5. Retirement funds, the powers and duties of their trustees and the rights and obligations of its members and the employer "are governed by the rules of the fund, relevant legislation and the common law."

      1. The Pension Funds Act and common law

        2. The provisions of section 7C and section 14 of the Act require the trustees of a retirement fund to protect the interests of the members of the fund. If the fund is the subject of a transfer, the trustees must do this by safeguarding the rights and reasonable benefit expectations of the members of the fund concerned.

        That the trustees have, at common law, a duty of the utmost good faith towards the fund is trite. The Act also imposes a duty on the trustees to 'take all reasonable steps to ensure that the interests of members in terms of the rules of the fund and the provisions of this Act are protected at all times.' It is arguable that the common law imposes fiduciary duties towards members as well as the fund. The judgment in Tek suggests as much and this conclusion needs to be borne out by the relationship that exists between the trustees and the members. Unlike shareholders, members are beneficiaries as well as stakeholders in the corporate entity. They are, moreover, bound to become members of the fund and to submit to its rules by virtue of their employment contracts. And, finally, they have no power to create their own protections by rule amendment or by recalling and dismissing the trustees. In effect, the members are in a relationship of dependency on the trustees such as entitles them to expect an exercise of power to their benefit by trustees.

        At common law, trustees are obliged to act in the best interests of the fund. This precludes them from exercising their discretion in order to promote their own interests or the interests of third parties (such as the contributing employer). COSATU submits that this duty precludes the trustees from making distributions to the contributing employer out of considerations of liberality. Such distributions would in effect constitute a donation and, within the context of company law, such donations are plainly impermissible.

        It by no means follows from this that the trustees are precluded from making decisions that may incidentally benefit the employer. Employers under retirement funds have powers designed to ensure that their position as debtor is protected. Those powers must be exercised in good faith, that is, in order to promote the objects for which the powers are conferred, but otherwise can be exploited by the employer in order to promote its interests. The test, in essence, is whether the trustees genuinely and principally sought to promote the interests of the fund.

        Trustees cannot, however, deliberately take the interests of the contributing employer into account in making decisions about the "surplus".

        South African law acknowledges that the members and beneficiaries of a fund may have reasonable benefit expectations in retirement funds that exceed their specific benefit entitlements under the rules. In Tek Marais JA stated the following with regard to the concept of 'reasonable benefit expectations':

        "What is comprehended by the expression 'reasonable benefit expectations' is not easy to say. Plainly it must mean something over and above the defined benefits to which the persons mentioned are entitled.

        In many funds the rules provide that if there is a substantial "surplus" in the fund benefits may be improved and/or pensions increased. In these funds the members and beneficiaries have a reasonable expectation that, if there is a substantial "surplus" in the fund and there are more than sufficient assets to allow benefit improvements and pension increases, the trustees will amend the rules to effect an improvement in benefits and will grant reasonable pension increases.

        Therefore, legislative amendments which make provision for "surplus" assets to be used for the employers' benefit (other than by way of a reduction by the actuary of the contribution rate required by the employer) would have the effect of diminishing the members' reasonable benefit expectations and would obviously not be in the best interests of the funds and their members.

      2. The Financial Institutions Act

        3. Section 2 of the Financial Institutions (Investment of Funds) Act ("the Financial Institutions Act") provides that the duties of persons dealing with trust property and trust funds under the control of financial institutions are as follows:

        "A director, official, employee or agent of a financial institution or of a nominee company controlled by a financial institution who invests, keeps in safe custody or otherwise controls or administers any funds of the institution or any trust property held by or on behalf of the institution for any beneficiary or principal-

          1. shall, in the making of an investment or in the safe custody, control or administration of those funds, observe the utmost good faith and exercise proper care and diligence;

          2. shall, in the making of an investment or in the safe custody, control, administration or alienation of the trust property, observe the utmost good faith and, subject to the terms of the instrument or agreement by which the trust or agency concerned has been created, exercise the usual care and diligence required of a trustee in the performance or discharge of his powers and duties; and

          3. shall not alienate, invest, pledge, hypothecate or otherwise encumber or make use of the funds or trust property… in a manner calculated to gain directly or indirectly any improper advantage for himself or any other person at the expense of the institution, trust, beneficiary or principal concerned."

        (Underlining added)

        In the Tek case, the Supreme Court of Appeal stated that the Financial Institutions Act imposes fiduciary duties on the trustees towards the fund, its members and beneficiaries.

        The trustees' fiduciary duties under the Financial Institutions Act are reinforced by section 7D(f) of the Pension Funds Act, which obliges trustees to ensure that the rules and the operation and administration of the fund comply with the Financial Institutions Act (amongst other statutes).

        If the assets of retirement funds had not been used for the benefit of employers, including by way of transfers the contribution holidays to defined contribution funds, the trustees of the fund would have had to exercise their discretion regarding how the assets could be applied for the benefit of the fund and its members. The members therefore had a reasonable expectation that their benefits would be improved by application of "surplus" assets in the fund. COSATU submits that the transfer or use of assets for the employer's benefit is at the expense of the rights and reasonable benefit expectations of the members and beneficiaries of the retirement funds.

        With regard to contribution holidays, Tek draws a distinction between defined contribution schemes "in which the employer's contribution is fixed and must be paid irrespective of the state of the fund" and defined benefit schemes "in which it [the employer's contribution] is not and liability to contribute arises only when it is necessary in the estimation of the fund's actuary to ensure the financial soundness of the fund".

        The court reasoned an employer cannot take a contribution holiday in the case of defined contribution funds, where "there is an existing and continuing liability to contribute and using the existence of a "surplus" to avoid the making of contributions could not be justified". Notwithstanding the fact that the law currently prevents an employer from using the assets of a defined contribution fund to fund a contribution holiday, the Bill proposes that employers be allowed to do so.

        The statements made by Marais JA in Tek clearly indicate that the Supreme Court of Appeal is of the view that the transfer of contribution holidays is unlawful. The Tek judgment states:

        "[35] What the amendment did was to make it possible for the trustees, in consultation with the actuary, to transfer to the provident fund in the case of each active member who elected to join it 'such additional amount (if any) as the trustees, in consultation with the actuary, shall determine; to be applied under the provident fund in terms of the rules of that fund'.

        [36] …Any such 'additional amount' which might be transferred to the provident fund had 'to be applied under the provident fund in terms of the rules of that fund'. A corresponding and contemporaneous amendment of rule 4.2 of the provident fund required such amount to be credited to Reserve Account No 2 and for there to be deducted from that account 'such amounts . . . as are required to meet the employer's contribution in terms of rule 4.1 until such time as the amount standing to the credit of Reserve Account No 2 is exhausted'. The trustees were also authorised to use part of the amount standing to the credit of that account to meet 'the expenses of the fund'. In short, the dominant purpose of the amendments was to enable the employer to do what it now concedes it was unlawful to do, namely to use the surplus in the pension fund to finance the contributions which it was obliged to make to the provident fund."

        (Underlining added)

        In summary, the use of retirement assets for the benefit of the employer constitutes an unlawful alienation of trust money that improperly advantages the employer at the expense of the members and beneficiaries of the retirement fund.

        Consequently, where an employer has utilised the assets of a retirement fund in this manner it is not unfair or unlawful to require that an employer pay to the fund such assets as are necessary to reimburse former members of the funds at whose expense these assets were retained.

        The Bill also proposes that the "transfer of contribution holidays" now be made lawful. The introduction of this provision will have the effect of reducing members' reasonable benefit expectations.


  6. Annexure B: Glossary of terms

    7. Actuarial liabilities

    The value that the fund's actuary places on the benefit that a member will receive on retirement (as well as other benefits that a member may be entitled to). In determining this value, the actuary takes into account the possible salary increases that the member may receive in future, future pension increases that the fund may afford and the future rates at which members will retire, die, resign etc.

    At any given moment, this concept best represents what a fund will have to pay out to a member on retirement or exit. The fund must set aside sufficient assets for every member in order to meet the actuarial liability in the event that the member leaves or retires.

    The fund must therefore ensure that its total assets, also calculated at actuarial value, are equal to the total actuarial liabilities. If the actuarial assets are greater than the actuarial liabilities, an actuarial surplus arises.

    Actuarial surplus

    The difference between the actuarial value of the assets and the actuarial liabilities.

    Actuarial value of the assets

    The value that the actuary places on the assets of a fund for purposes of comparing the assets with the actuarial liabilities. The actuary must calculate this value in the same way that the actuarial liabilities were calculated.

    Actuarial value of assets normally falls somewhere between book value and market value. Actuaries value assets in this way to "smooth" the difference between the value of assets at which they were bought by the fund (which is no longer a realistic value of the assets) and the market value of assets (which is subject to the vagaries of the open market).

    Book value of the assets

    The value of the assets at which they were purchased by the fund.

    Contribution holiday

    A contribution holiday is a period during which the employer either pays no contribution at all, or pays at a rate less than that specified in the Rules of a fund or recommended by the actuary.

    This is affordable for a fund only where there is sufficient ordinary surplus or extraordinary surplus to make good the employer's contribution. If a fund is in deficit, or has only a small surplus, then a contribution holiday will not be affordable.

    Conversions

    The "once-off" or "extraordinary" event whereby a fund's benefit structure is changed from a defined benefit to defined contribution basis. Members are not moved between funds, but remain members of the same fund after conversion. However, the way in which members' benefits are determined, change. On conversion, a conversion value is allocated to each member. This represents the way the conversion has affected the value of the member's benefit.

    Deficiency

    What arises when the liabilities of the fund are more than its assets.

    It is calculated as the difference between the actuarial liabilities and the actuarial value of the assets.

    Defined Benefit Funds

    Funds in which the benefits to members are promised in terms of specific formulae that usually relate to period of service and to pensionable salary. The contributions paid by members and employers are determined by these formulae, as well as by the actuary's projections of the future salary increases, pension increases, investment conditions, staff turnover. The actuary's projections are aimed at protecting members from the risks in the investment market and other risks. The employer effectively guarantees this protection.

    Defined Contribution Funds

    In these funds, the benefits to members are NOT promised. The benefits that members receive when they leave funds are the outcome of the contributions made by members and by employers during the course of their membership. The benefits that members get will be directly related to investment returns, and only indirectly related to salary and service. There is no guarantee that the final benefit will be adequate in relation to final salary and service as is the case for defined benefit.

    The employer provides no guarantees and gives no protection against the vagaries of the investment markets and other risks.

    Extraordinary surplus

    The difference between what a member's benefit if worth at market value and what the member received as a benefit on transfer, conversion or retrenchment. It therefore represents the surplus that arises if members are not given their actuarial liability at market value on exit.

    Investment reserve

    The difference between the market value of the assets and the actuarial value of the assets. It represents how much more (or less) the assets of the fund are worth in the market than what the actuary projected and relates to how well the fund's investments did in the market.

    Investment reserve factor

    The proportion that the market value of the assets bears to the actuarial value of the assets, i.e. market value = actuarial value x investment reserve factor.

    Market value of the assets

    The value of the assets at market value or fair value, i.e. the amount for which the assets could be traded in an open market on an arm's length basis.

    Market value of liability

    It represents what a fund's liabilities are worth in the open market. It is calculated by multiplying the actuarial liability by the investment reserve factor.

    Market value of surplus

    The value of a fund's surplus in the open market. In cases where the fund's assets exceed its liabilities (where both values are calculated as actuarial values), an actuarial surplus arises. The basis of valuing this surplus can also be changed so that it is rather expressed at market value. To convert the value to represent market value, the fund's actuarial surplus (or deficiency) must be multiplied by the investment reserve factor.

    Ordinary surplus

    The actuarial surplus arising from ORDINARY events in the course of running a pension fund. These ordinary events (like fluctuations in investment returns, deaths, retirements, resignations, salary increases, pension increases etc.) are taken into account by actuaries in calculating the actuarial liability. However, the actuary's expectations do not always coincide with reality. The ordinary surplus therefore represents the amount with which the fund's assets exceed its liabilities because of the difference between what actuaries expected would happen in future and what transpires in reality.

    Reasonable benefit expectation

    The members' own expectation of the benefit that they will receive on retirement or exit from the fund.

    The reasonable benefit expectation is informed by the benefits defined in the Rules of the fund, the past practices and policies of the fund, the monies set aside to meet the benefits (these monies are sacrosanct according to TEK Judgement), sharing in surplus and the worth of the employer's guarantees in a defined benefit fund.

    Restructuring events

    The "once-off" or "extraordinary" events of conversions, transfers, or retrenchments.

    Surplus

    The difference between actuarial value of assets and actuarial liabilities, i.e. when the assets are more than the liabilities.

    Transfer

    The "once-off' or "extraordinary" event of the transfer of members, usually from a defined benefit to a defined contribution fund. Often, this takes place where the employer establishes a new fund, which often uses a new way of calculating benefits. Members are then transferred to the new fund, without leaving their employment.

    However, sometimes the transfer arises because of a transfer of employment through a sale or purchase of a company or division. The member therefore joins the fund of the new employer.

    Trustees

    People appointed and/or elected to manage the affairs of a fund. They are trustees in the widest sense of the word and its meaning is well-established in English law, from which pension funds in South Africa developed.

    Trustees must act ONLY in the BEST interests of ALL members – those who stay, those who transfer, those who convert etc. They must act impartially, and with utmost good faith. Their role is similar to that of the head of a family or of a tribal chief responsible in a very wide sense for the well-being of the family or tribal unit.

    They DO NOT owe such duties or obligations to any other party, including employers.

    Footnotes:

    1. A detailed legal and actuarial review is set out in the annexure to this submission.

    2. These are discussed in detail in section 3 of this submission.

    3. The origin of “surpluses” is discussed in greater detail in annexure “A” of this submission.

    4. The origin of “surpluses” is discussed in greater detail in annexure “A” of this submission.

    5. See clause 15B(3)(c); 15C(2), read with the definition of "stakeholder" in clause 1.

    6. See clause 15E(1)(a), to the extent that it allows for the utilisation of extraordinary surplus, and 15E(1)(b)-(g) with regard to the utilisation of both extraordinary and ordinary surpluses. The whole of clause 15E in principle is objectionable on this ground.

    7. After discussing each of the seven core principles and how the Bill departs from them, we list the sections of the Bill which would need to be amended or deleted in order to make it fully compliant with the principle.

    8. These proposed amendments are set out fully in the table in Part 2 of our submission. The “items” referred to below cross-reference to the table for ease of reference. Note that the table of proposed amendments also includes more general amendments not listed under specific principles.

    9. See clause 14A(1)(e), read with the definition of "minimum pension increase" in clause 1.

    10. See clause 14A (1 read with the definition of minimum individual reserve)

    11. One of the reasons for this was that the funds changed the ordinary bases for calculating the values of members' assets and liabilities in respect of those persons transferring, converting or exiting. These changes usually devalued those provisions protecting members against the economic variables.

    12. See clause 14A(1)(f) read with the definition of "minimum individual reserve"

    13. See clause 14A(2)

    14. Clause 14A(3)

    15. Section 7C(2)

    16. See clause 15B

    17. These benefits must be calculated on the basis of the last statutory valuation prior to the first restructuring event (e.g. the first transfer, retrenchment, dismissal, etc. which gave rise to the “surplus”.)

    18. See clause 15B

    19. Sections 4A and 5(a) of the Pension Funds Act 24 of 1956; Tek Corporation Provident Fund & Others v Lorentz [2000] 3 BPLR 227 (SCA); 1999 (4) SA 884 (SCA) at para [15] (“Tek”)

    20. Section 1 of the Act, definition of 'pension fund organisation'

    21. Tek (above) at para [15]

    22. Section 5(b) of the Act; Tek at para 15; cf Dadoo Ltd & others v Krugersdorp Municipal Council 1920 AD 530 at 550-1

    23. Section 30 (1) (a) of the Act

    24. Tek (above) at para [17]

    25. Imperial Group Pension Fund Ltd & others v Imperial Tobacco Ltd & others [1991] 2 All ER 597 (Ch) at 606 a - c

    26. Tek (above) at para [17]

    27. Tek (above) at para [18]

    28. Tek at para [46]

    29. Tek (above) at para [15]

    30. Section 7C of the Act

    31. cf CIR v Pick 'n Pay Wholesalers 1987 (3) SA 453 (A) at 469 - 470

    32. Tek (above) at para [47] 39 of 1984

    33. 'Financial institution' is defined in section 1(1)(a) of the Financial Institutions Act to include “any institution referred to in paragraph (a) or (b) of the definition of 'financial institution' in section 1 of the Financial Services Board Act, 1990 (Act 97 of 1990)”. 'Financial institution' is defined in section 1(1)(a)(i) of the Financial Services Board to include “any pension fund organisation registered in terms of the Pension Funds Act, 1956 (Act 24 of 1956) …”.

    34. Tek (above) at para [15]

    35. Tek (above) at para [23]

    36. Tek (above) at para [23]


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