South Africa's retirement savings crisis has reached a critical point, with more and more workers unable to preserve their retirement funds, according to the latest 2023 Old Mutual Savings and Investment Monitor Survey. In response to this growing retirement crisis, the South African government has proposed a retirement reform aptly named Two-Pot.
The new system promises to provide a sustainable and practical means for South Africans to balance managing immediate financial needs and long-term retirement planning. However, its ultimate success will depend on individual discipline and comprehensive financial education.
Set for implementation on 1 March 2024, this system, at its core, requires that every pension fund member saves two-thirds of their future contributions in a “retirement pot” specifically for income at retirement. The balance of the contributions will be allocated to a “savings pot”, which is specifically for lump sum at retirement. However, a member may access before retirement, subject to some limitations a convenience that comes with risks.
This means that for every R100 a member contributes, R66.67 will be added to a “retirement pot”, which cannot be accessed until retirement and the remaining R33.33 into a “savings pot” that can be withdrawn once a year. Any savings pot balance not accessed prior to retirement can be taken as a lump sum at retirement.
The rationale is simple. When most South Africans leave a job due to retrenchment, termination, or resignation, they typically withdraw their retirement savings instead of transferring them to a new employer or putting them in a preservation fund. The 2023 Old Mutual Savings and Investment Monitor confirmed this disconcerting trend of early withdrawals.
With a sample size of just over 1500 participants, the survey showed that less than a third (29%) had saved all their retirement money when they left their employer. Approximately 1 in 3 people decided to cash out all their retirement savings. This trend is worrying as it could mean these individuals may not have enough money for a comfortable retirement.
The survey also revealed that 62% of those with retirement funds would likely use some of their retirement money before they retire if the rules allowed it. These findings highlight the importance of the Two-Pot reform, a change designed to help people plan their retirement savings more responsibly.
Under the Two-Pot system, retirement fund members facing financial need can withdraw some of their accessible cash pot before retirement without quitting or resigning from their job. A maximum of 10%, capped at R25,000, of the member’s existing savings will be used to seed the savings pot on day one from existing retirement savings. The minimum withdrawal amount from the savings pot is R2,000, with no maximum amount specified.
For example - let's say you have a total of R100,000 in your retirement fund. With the Two-Pot system, 10% or R10,000 will be transferred into an accessible “savings pot” when the system starts. You can withdraw a minimum of R2000 or the entire amount within the savings pot.
Economic factors such as inflation, interest rates, and overall market performance could influence the growth and value of retirement savings in both pots. Beyond this, unfavourable economic conditions, such as recessions or job losses, drive more people to access their savings prematurely, affecting long-term retirement security.
The Covid-19 pandemic was the ‘perfect storm’ to highlight South Africa’s savings crisis. During the pandemic, many individuals had no emergency funds for necessities, medical or funeral expenses to bury loved ones. This savings crisis has had a far-reaching impact on long-term financial health and retirement planning, and despite the global economic recovery, under-saving for retirement remains an issue.
Even before the pandemic, less than 6% of employees could afford to retire comfortably at age 65, according to estimates from National Treasury. The odds are that many retirees will outlive their retirement savings due to reduced protection and longer life expectancy and will have to accept a standard of living far below what they envisioned.
The benefits of early access
As we’ve seen in the statistics above, when members don’t have money to take care of an unexpected event or are pressured to pay off debt, they resign to access their pension savings, often depleting it. Therefore, the Two-Pot accessible pot option provides a buffer against the depletion of retirement savings, making it easier for members to preserve their long-term retirement savings.
One of the pillars of sound personal financial management is having an emergency savings fund, a designated amount to cover unforeseen expenses. It acts as a financial safety net, providing a readily available reserve of cash that can be accessed easily when unexpected events occur, such as medical emergencies, car repairs, job loss, or any other unforeseen financial challenges.
The purpose of an emergency fund is to discourage over-reliance on high-interest debt, such as credit cards or loans, during times of crisis. Instead, it allows individuals to handle unexpected expenses without derailing their budget or long-term financial goals. Unfortunately, many South African households do not have emergency savings and rely on credit or, in desperation, cash in their pension savings when the opportunity arises.
Therefore, the anticipated benefits of this new pension system with built-in access are manifold. This system is projected to encourage a culture of savings. By providing a safety net, the accessible savings pot reduces the perceived risk of locking away retirement funds. Consequently, this could stimulate a higher participation rate in pension schemes and, thus, contribute to mitigating the retirement savings crisis.
Early access to one-third of their retirement savings can prevent pension fund members from falling into a debt trap due to unforeseen emergencies or financial shocks. Members can use their savings to weather financial hardships instead of resorting to high-interest loans or detrimental debt cycles.
Maintaining a substantial portion of retirement savings, two-thirds, until retirement provides a disciplined structure to ensure retirees have sufficient funds to maintain a standard of living beyond their working years. This portion will continue to grow over time, compounded by the returns from the pension fund’s investments.
However, this reform is not a magic wand to be wielded indiscriminately in the short term but rather a long-term mechanism to ensure a better standard of living at retirement. Individual discipline in preserving even accessible retirement funds remains critical. Additionally, widespread financial education is essential for the system’s success.
By empowering individuals to make informed decisions about their savings, we can look forward to a solution for the current crisis and a significant shift towards a culture of sustainable retirement planning.
* Acton is a Retirement Reform Executive at Old Mutual