There has been a major shift in the retirement fund industry from private standalone funds to multi-employer commercial umbrella funds. This is definitely not news to anyone even remotely involved with the industry, but is it the right decision to follow the herd?
The Financial Sector Conduct Authority (FSCA) is actively driving the reduction of the number of active funds to about 200, with the two main reason being consolidation and costs. The idea is to have a few large umbrella funds, large union-driven funds and some large standalone funds. This means that the members of approximately 90% of standalone funds is expected to find a new retirement fund home in a commercial umbrella fund. The last few years saw a big increase in the number of commercial umbrella funds which defeats the FSCA’s plan of a “few large umbrella funds”, but there is no doubt that the number of standalone funds will continue to decrease, especially in the aftermath of the Covid-19 pandemic.
This raises the following questions:
Reasons for the move to umbrella funds
The main reason for the move to umbrella funds is costs. The general perception is that umbrella funds offer economies of scale and can offer administration, consulting and investment services at a much lower cost than standalone funds. This is especially true for standalone funds with a small number of members.
There is also an ever-increasing onus placed on trustees in respect of fiduciary duties and governance responsibilities. Umbrella funds offer professional and independent trustees, in addition to trustees employed by the sponsor, which eliminate the time and governance responsibilities for some of the employer’s top employees who would have been trustees for a standalone fund. Participating employers could have a management committee which facilitates the relationship between the umbrella fund and the employer and monitor actions, but without the personal risks faced by trustees.
Other reasons for the move to umbrella funds could include access to a broader range of investments and investment managers as well as lifestaging and in-fund annuity options which might not be feasible for small standalone funds. There is also an expectation that umbrella funds will offer better member communication since they have the resources, experience and required expertise to address members’ needs.
Factors to consider when choosing an umbrella fund
It is important to note that all umbrella funds are not equal and even different options offered by a specific fund can vary widely. Some umbrella funds or options offer a straight-forward vanilla fund at a low cost, while other funds or options offer greater flexibility, i.e. any and all the bells and whistles required to customise the benefit structure, at a more expensive cost.
Since all umbrella funds are not equal and considering the fact that there are good and bad umbrella funds for a specific scenario, we need to answer the following question:
The answer to this question is not all about costs. If costs are considered as the only factor to choose an umbrella fund the wrong fund will likely be chosen. The full features and value-add of an umbrella fund should be considered, covering at least the following:
1. Governance
The governance factors to consider include the following:
number of trustees, especially the number of independent trustees;
level of fidelity cover in place;
are there independent oversight over the administrator and auditors, for example through actuarial valuations performed by independent actuaries; and
are management committees allowed and how active are these committees?
A management committee gives an employer some input and oversight, without the full governance responsibilities of a board of trustees.
Although the above points will probably not be a dealbreaker when choosing an umbrella fund, it can be the deciding factor between two funds which are equal when looking at costs.
2. Demographics
Fund demographics can be considered, amongst others, in terms of the number of members, number of participating employers, total assets and gross monthly contributions receivable. Some umbrella funds may only allow membership from specific unions, bargaining councils or employees from a specific industry, e.g. private security services or textile industry.
The general expectation is that larger funds offer better economies of scale and will therefore have lower costs. This is however not always the case and employers should consider size and demographics as one of the decision-making factors.
3. Administration & customer service
All umbrella funds might not be able to easily match unusual benefits or benefit structures, while most umbrella funds have a minimum number of members per participating employer. The availability of options like different contribution categories, whether in-fund annuities are offered or the accessibility of regularly updated individual member information on a mobile or web platforms could be some of the deciding factors in choosing an umbrella fund that fits the employer’s needs.
4. Investments & risk benefits
Most umbrella funds, especially the largest funds, are sponsored by subsidiaries of insurance companies or other financial institutions. These funds usually use the administration services, investment products and risk products of the sponsor (or a sister/parent company) at reduced fees compared to external providers. It should however be considered if products of external providers are accessible and if not, how the trustees ensure that products and rates offered are competitive in the market. The level of control available over members’ investment strategies and the available options offered by different umbrella funds should be balanced with the additional cost to be able to exercise such options.
5. Costs
Last, and the most important for most employers and members, is the consideration of costs (including administration and consulting fees). Fees have a direct impact on how much of a member’s retirement contributions remain to be invested and therefore the expected retirement benefit. It is not unusual to read statements like “over time, paying 2% more in fees can mean 40% less for you when you retire”. The comparison of fees used to be a very contentious issue and it was difficult, if not impossible, to make a fair and accurate comparison of fund costs. The Association for Savings and Investment South Africa (ASISA) Retirement Savings Cost (RSC) disclosure standard sets out minimum disclosure requirements and will ensure that commercially sponsored umbrella funds of ASISA members present costs in a standardised and comparative way.
In summary, the RSC standard divides costs into four categories: investment management, advice, administration and other. Costs are projected over 1-, 3-, 5- and 10-year periods on a standard set of assumptions and expressed as a percentage of projected assets.
The RSC disclosure is only done on a fund or participating employer level. Although this total cost comparison will be directly comparable between umbrella funds the actual implementation and costs deducted from individual members could be very different if costs are deducted as a percentage of salary or a fixed rand amount per member per month. RSC is definitely a useful tool and a move in the right direction, but the impact on individual members should still be considered.
From 1 October 2020, ASISA members should disclose costs at member level for commercial umbrella funds in terms of the new ASISA Retirement Fund Standard: Effective Annual Cost (EAC). This will allow individual umbrella fund members to review and compare costs on their umbrella fund with other investment products. Members will receive communication at least once a year reminding them that they can request an EAC calculation.
Not all sponsors of umbrella funds are ASISA members and therefore not all umbrella funds need to comply with the RSC and EAC standards. We expect, however, that the market will push even the non-ASISA member funds to disclose costs according to these standards to make them directly comparable to other umbrella funds.
It should also be considered if any broker or other support fees are payable directly by the employer which are not included in the fund costs.
What is the right decision?
In conclusion, there is no right or wrong answer as to which umbrella fund is superior compared to its peers. The above points will, however, allow stakeholders to consider the umbrella fund that is best suited for their specific needs.