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PENSION REFORM
What is a Pension?
What is a Pension System?

SAVINGS AND INVESTMENT FOR RETIREMENT
What is savings and investment for retirement?
Why Should One Save and Invest For Retirement?
When Should One Begin to Save and Invest For Retirement?

What is a Pension?
Derived from a Latin root, pensio-onis meaning payment the Concise Oxford Dictionary defines “pension” as periodic payments made especially by government, company or employer in consideration of past service or on retirement.

Wikepedia, the Free Encyclopaedia, describes a pension as a steady income given to a person (usually after retirement). Pensions are typically payments made in the form of a guaranteed annuity to a retired or disabled employee. Some retirement plan (or superannuation) designs accumulate a cash balance through a variety of mechanisms) that a retiree can draw upon at retirement, rather than promoting annuity payments. These are often also called pensions. In either case, a pension, created by an employer for the benefit of an employee is commonly referred to as an occupational or employee pension. Labour unions, the government or other organizations may also fund pensions. The most common use of the term pension is to describe the payments a person receives upon retirement usually under pre-determined legal and/or contractual terms by an employer and/or employee.

Most broadly defined and simply put a pension is a stream of regular income provided to an individual during retirement, and usually for life, and generated from periodic contributions by an employer and/or employee during the individual’s working life for the employer. Any individual, particularly a self-employed, can also contribute to generating his own pension. A pension must have all of the following features:

•  a regular income stream paid at retirement and usually for life;
•  granted after retirement or for permanent physical and mental
incapacitation;
•  contributed to from past contributions from employer and/or employee;
•  is for past service rendered during working years.    top ^

What is a Pension System?
Pensions that have similar characteristics and contractual arrangements in material aspects and issued by the same employer and/or fund provider or manager are considered to be part of a pension or superannuation plan. Thus an employer or provider can have different plans for his employees or subscribers; and similarly an employee or individual can participate in different plans.

Pension plans are provided by employers and/or pension fund providers and managers and enjoyed by employees and individuals. The general laws including property, trust and labour laws; the legal framework for pension arrangements; the institutional network and arrangements involving fund providers/managers and others; and, importantly the regulatory framework within the jurisdiction of the country or state constitute the pension system. A pension system includes all the institutions. laws, regulations and arrangements that manage, direct, guide and regulate the pension arrangements in a country.

A pension system can involve more than one country to involve more than one country or group of countries. Where two or more countries decide to harmonize, integrate, cooperate with their national pension systems to make the provision of pensions harmonious, seamless and non-discriminatory in the broadened jurisdiction then the multi-country or regional arrangement can be deemed to be a pension system. Thus whilst a pension system is normally associated with a national jurisdiction there is nothing to prevent groups of countries from coming together to form a harmonious pension system. This is currently being attempted by the EU which is the most economically integrated group of sovereign countries in the world.   top ^

What is Savings and Investment for Retirement?
Nature, philosophy, religion, conventional wisdom is replete with examples of putting aside during periods of plenty for the days of scarcity. The squirrel stores his nuts during the autumn for the winter, similarly the farmer with his hay and firewood while the Eskimo stores his surplus meat for use in the winter when they would not available. And hence comes the famous expression saving (setting aside) for the rainy day. We can draw the parallel between the human biblical life cycle of seventy years and the natural seasons of spring, summer, autumn and winter and divide the life cycle by four giving each seventeen and half years and recognizing that the longest rainy day for those of us who are lucky will be our retirement years. In the spring of our lives our parents and society nurture and invest in our growth and development. In the summer we begin to work and earn, continue with our education, start, nurture and educate our families and build a home and nest for them. During the autumn we wean our children, and build our own foundation for our future by setting aside for it. In the winter or sunset years we enjoy our retirement with the savings that we have set aside for that purpose.

Our modern society is so structured that not only do we save but we can also supplement our savings significantly by investing. In personal financial management the theory of the “life cycle model of economic behaviour” which suggests that people should try to optimize consumption over their lifetimes. According to Ambachtsheer on page 70 in his “Pension Revolution” this means, for most: going into debt to acquire an education, shelter and consumer durables in early adulthood; paying down that debt and building up financial assets in midlife; and turning those financial assets into a stable steam of consumption expenditures during the retirement years.

Saving and investment for retirement is to regularly save and systematically invest part of ones income during ones working life for the express purpose of making and income stream available for the years when one is either unable to work because of incapacity or unwilling to work because of voluntary or compulsory retirement. The income to maintain retirement comes from past work effort that have been saved and invested during the working life to generate returns and amortization of financial and physical assets that have been set aside for that purpose. It is income from past investments rather than from current work efforts.  top ^

Why Should One Save and Invest for Retirement?
After the working life of an individual has commenced there are about four instances and situations where he or she may not earn employment income from gainful employment. These are:
•   'permanent’ physical or mental disability;
•   voluntary early retirement to spend more time to engage in ones devices;
•   compulsory or ‘normal’ retirement; and
•   difficulty in getting gainful full or part-time employment during the individual’s official retirement years.

Individuals need to save during their working lives to take care of these potential situations particularly as:
•   life expectancy is increasing at a faster rate than the extension of official retirement age thus extending the period and hence the consequent cost of retirement;
•  one can expect reduced support from extended members of families as these individuals and households have their own responsibilities;
•  the increasing urbanization causing social isolation and indifference in our societies is leading to reduced community help and support for the elderly;
•  the government, given other pressing social and economic priorities and existing high levels of taxation and debt, would not have the resources to adequately assist many retirees;
•  unemployment is on the increase and employment preference would be given to the unemployed young over the elderly for social and economic reasons and despite the fact that the elderly may be more skilled and experienced with better and more disciplined work habits.

It is generally felt that the average real income required to meet expenses at retirement is about 70% of pre-retirement income if the retiree owns his home and all debts and all mortgage obligations have been cleared. However, this could be more depending on the health of the individual and also on how the individual wants to spend the retirement years. If the retiree is prone to sickness the medical bills can be expected to be higher than normal in a situation where medical insurance coverage is very restricted and premiums are very expensive. Similarly, if one is healthy, has the free time, and wants to travel extensively to see the world, comfortably, then the income required at retirement would be much higher than normal.

The objective and rationale for saving and investing for retirement is to have a portfolio or stock of easily realizable assets and/or income stream that can allow the individual retiree to enjoy and sustain for the remainder of the retiree’s life a standard of living that is comparable to that enjoyed during the latter part of the working life; bearing in mind that with increasing age and available free time medical and travel expenses may be higher than during the latter part of the individuals working life. Moreover, benefits and perquisites that are normally available during employment and that contribute to creature comforts may not be available during retirement.  top ^

When Should One Begin to Save and Invest For Retirement?
It all depends on a number of such factors as: life expectancy, expected an/or mandatory age of retirement, expected inheritances, possibility of post-retirement employment or other income sources, and the level of the retirees risk tolerance for investment and hence the expected returns from investments. The longer one expects to be a retiree because of either high life expectancy and/or early age for retirement the more the level of retirement savings that would be required. Similarly, if a retiree during his working and retirement lives has a low appetite for investment risk i.e. prefers conservative and safe but low yielding investments then the larger the level of savings that would be required to provide the equivalent and necessary income stream during retirement.

The adoption of the natural life cycle rule of thumb seems to give the indicator of 35 as the age when one should commence formal and dedicated savings and investing for retirement. However, it should be borne in mind that in nature collecting and storing in nature is a natural and related continuation of cultivating and investing and these begin from spring/summer. Thus 35+ is much too late to commence savings and investing for retirement except if the individual has been saving and investing in other long term productive investments such as: education, housing, real estate, business enterprise etc.

Given that the individual’s life expectancy and future life situations are as unknown as are the realized returns on investments the safest option is to begin saving and investing systematically for retirement from the first paycheck. This is one of the reasons why employers allow, encourage and tailor their superannuation plans to allow participation from the age of 18. It should also be noted that the later the individual starts contributing to generating an adequate retirement income the higher the proportion of his income that has to be set aside for that purpose. For retirement at age 60 and with an expected annual growth of salary and return on investment of 7% each the amount of monthly income that needs to be saved to provide a pension of two-thirds of final salary for different commencement ages of contribution are as follows:

Age at commencement of contributions % of monthly salary required
18  
28  
38  
48  
58 (not allowed)  

Beginning contributions to retirement savings and investment from the first paycheck gives the individual:
•  the benefit of the discipline of early saving and investing
•  reduces the proportion of income that has to be allocated to that purpose; and
•  allows the individuals past savings to work and generate significant returns for the account.
  top ^


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