Retirement Benefits Schemes

Kenya, like many nations seeking to develop expediently, is pursuing economic development along the lines envisaged by industrialised countries through a capitalist economic system. This has over the years led to significant changes to social and economic lifestyles arising from the transition we have had to make from a once traditional system of living to a modem capitalistic lifestyle. One area of life that has undergone a radical change is that of social security, particularly the guarantee of security from poverty in old age. In the traditional African society, social security systems were assured. These took the form of practices and social norms that ensured that disadvantaged members of the society such as the elderly were taken care of by other members of the society. The socio-economic changes brought about by the pursuit of a Western style of development are increasingly leading to a breakdown in traditional systems of old age security. Fortunately, the capitalist economic system has brought with it other ways of ensuring old age security, the principal one being membership of a retirement benefit scheme which provides payments to retirees in the form of pension or lump sum payments. A retirement benefit scheme can therefore be looked at as a form of insurance for which you pay premiums while you are working against the predictable risk of a period without earnings later in life. The scheme guards against the risk of poverty in old age through ensuring that retired members of a scheme are able to provide for themselves in retirement. The first known arrangement that bore a close resemblance to a pension scheme had its origins in America in the 1900s in the form of a securities exchange company which offered to double money put into it in 90 days. This arrangement, however, proved to be a scam in which many people lost their money. It saw the creation of a fund into which persons who accepted the offer contributed. In the initial stages of the offer as more

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Social aspects of retirement benefits schemes

and more people signed up the promised return on investment was easily paid. However, as the numbers of people signing up decreased payments to the latter entrants proved impossible due to diminished funding. Once the fraud was discovered in 1920, Charles Ponzi, the founder of the scheme was promptly sent to jail. Fifteen years later the American president of the day, Franklin Roosevelt, signed the law establishing the social security, America's public pension system. Economists refer to this system of pension as the pay-as- you-go (PAYG) system since it involves the payment of pension benefits to yesterday's workers out of the contributions made by

today's workers- Ironically the system operates on a principle similar to that of the Ponzi scam since the first few generations of pensioners received much more in benefit that they had made in contributions. The first pensioner to benefit from the new pension scheme was a spinster named Ida May Fuller who had paid into the scheme contributions of US$ 24.75 and lived to be 100 receiving benefits totalling US$ 22,889 by the time of her death. To this day, the pay-as-yougo system of pensions remains the main form of pension provision in the industrialised world. Under the scheme, many times a worker's benefits exceed his contributions into it meaning that such schemes have continued to be sustained mainly due to the robust health of the economies of industrialised countries as will be seen later. Workers in many of the industrialised countries are therefore adequately catered for in their old age by this over generous pension system. In many low-income developing countries where the economy cannot sustain a pay-as-you-go pension system the state has nevertheless had to come up with some other .scheme to guarantee old age security.

In Kenya, the government has come up with a state administered provident fund referred to as the National Social Security Fund (NSSF). The NSSF was established in 1965 by the NSSF Act Cap 258 of the laws of Kenya as a national scheme to ensure that every worker is provided with minimum social security protection. The Act requires all employers to register with the fund and remit statutory contributions on a monthly basis. Contributions into this fund are invested so that what the worker eventually gets as his benefit is the sum of the member's total contributions together with a return from investment of the contribution throughout the period of membership. NSSF being a provident scheme pays out its benefits in the form of a single lump sum. Although this scheme has served to ensure some degree of old age security to workers in Kenya, its effectiveness in this regard has been hampered by a number of problems that face the scheme. Firstly, the fact that NSSF is a provident scheme that pays out its benefits in the form of a single lump sum detracts from the scheme's aim of ensuring old age security since the risk of facing an impoverished old age remains rife should a

retiree mismanage the single lump sum payment. Security against poverty in old age would be better guaranteed through a pension system by which a person draws out a monthly sum as benefits until death. Another problem with NSSF arises from the low value of the benefits received from this scheme, which bear no relation to economic realities. This is mainly due to insignificant size of contributions paid into the scheme. Currently there is a debate on whether Kenya's state run retirement benefits provider, the NSSF should be converted from a provident fund into a pension scheme that will afford its members greater old age security. Such a change would be of great importance in boosting old age security in Kenya given the wide reach of the NSSF. In light of the foregoing, it is to a large extent dependant on an individual to ensure that a mechanism is in place for his secure old age. The best way in which this can be done is through membership of a private retirement benefits scheme governed by the Retirement Benefits Act.. Kenya currently has around 1200 such schemes. Saving through them can be achieved through contributions made to the retirement benefit scheme. contributions into the scheme. This mode of

saving has an advantage in that the contributed amount is normally invested, in accordance with guidance given by professionals called fund managers who are consulted by the scheme. This means that the sum a member eventually receives as benefits is composed of accumulated contributions made into the scheme together with investment earnings on the accumulated contributions. Schemes must have Scheme Deeds and Rules. which are legal documents that set them up and provide regulations for their day to day running. The regulations in these documents are required to conform to the provisions of the Retirement Benefits Act. Private sector retirement benefits schemes are of two types namely occupational retirement benefits schemes and Individual retirement benefits schemes. An occupational retirement benefits scheme is an arrangement that an employer establishes to provide retirement benefits for its employees. Such an employer is referred to as a sponsor or founder. and will normally assist its employees in making contributions into the scheme. In this regard, an employer may contribute an amount, equivalent to 10 per cent of the employees salary while the employee

contributes a 5 per cent equivalent. The other category of privately established retirement benefit schemes is the individual retirement benefits schemes. These are normally established and run by insurance companies and are available to any member of the public who may be self- employed or persons who although employed do not belong to an employer sponsored retirement benefit scheme. Private retirement benefits schemes may further be classified into pension schemes or provident schemes. In both these schemes members make contributions into a fund during the period they are in employment. However, the difference between the two is in the manner in which benefits are eventually paid out. In a pension scheme benefits are paid out in the form of periodic payments (usually monthly) to a member upon retirement. This sum is referred lo as the pension. In the case of a provident fund a member's benefit is paid in the form of a single lump-sum amount. In pension schemes it is not unusual to find hybrid arrangements whereby a portion of benefits is paid as a lump sum upon retirement after which the remainder of the benefits are paid in the form of pensions.

Generally, it is considered safer for purposes of old age security for one to receive a pension after retirement as opposed to receiving a oneoff payment in the form of a lump sum. This is because the latter be poorly invested by a retiree and hence lost. Members of a retirement benefit scheme who are retiring and are paid a lump sum may therefore consider purchasing an annuity, which will entitle them to pensions. An annuity is an arrangement provided by institutions such as insurance firms by which upon the payment of a specified sum to the firm providing the annuity the person making the payment is entitled to receive periodic payments until the occurrence of a specified event like the person's death. Pension schemes can again be further classified into Defined Benefits Schemes and Defined Contribution Schemes. In a Defined Benefit Scheme the benefits to be provided to a retiring member of a scheme will be based on specified criteria, which take into account a retiring members final salary and his pensionable years of service. The monthly pension to be paid to the retired member is therefore computed as a proportion of a member's final salary, which proportion depends on the number of years worked with the employer. Hence, the longer a person has

worked the greater the benefits he will receive.. The defined benefit pension scheme is also well suited for individuals whose income from employment rise continually and reach a peak by the time of retirement. In Defined Benefits Schemes members' contributions will normally be constant although the employer's contribution will vary depending on advice that the scheme receives from an actuary regarding the ability of the scheme fund to meet its liability given its assets. This means that the employer underwrites the benefits and may therefore be required to increase contributions to

meet liabilities as set out by the actuary. The Kenyan law requires actuarial review of Defined Benefits Schemes at least once in every three years. In a Defined Contribution scheme a member is personally responsible for the eventual pension benefit that he receives since the benefits received depend on the contributions that a member has made into the pension fund during his working life together with earnings thereon. Normally the contributions to be made into the scheme, whether by employers or employees, are fixed and specified with no need for regular variation of the employers contribution as the employer is not under

an obligation to undertake that the defined benefit payable exists as is the case in the defined benefit scheme. In a Defined contribution scheme the value of the eventual benefit received from it depends on the accumulated contributions and earnings thereon by the time the member is eligible to receive the benefit. This dependence on benefits received under a Defined Contribution scheme on investment earnings rather than a defined amount has resulted in Defined Benefits schemes being generally thought of to offer superior benefits to employees with much less risk.