1. BLACK LAWYERS ASSOCIATION AND PENSION LAWYERS ASSOCIATION 7 OCTOBER 2005 INCORPORATION AND REGISTRATION OF FUNDS DIFFERENT TYPES OF FUNDS David Geral, Director, Bowman Gilfillan Employee Benefits Group

2. A PENSION FUND CAN EXIST IN COMMON LAW The definition of a “pension fund organization” in the Pension Funds Act (“PFA”) is factual: “(a)Any association of persons established with the object of providing annuities or lump sum payments for members or former members of such association upon their reaching retirement dates, or for the dependants of such members or former members upon the death of such members or former members; or (b)any business carried on under a scheme or arrangement established with the object of providing annuities or lump sum payments for persons who belong or belonged to the class of persons for whose benefit that scheme or arrangement has been established, when they reach their retirement dates or for dependants of such persons upon the death of those persons,…”

3. A COMMON LAW PENSION FUND  The Supreme Court of Appeal said in Mostert NO v Old Mutual Life Assurance Company (South Africa) Ltd [2001] 8 BPLR 2307 (SCA) at 2318C-E, regarding the legal nature of a (registered) pension fund:  “The Fund is clearly an entity separate from its members. It can hold its assets and acquire rights and incur obligations apart from them and has perpetual succession. It has the essential attributes of a universitas at common law with concomitant legal personality (Webb & Co. Ltd v Northern Rifles 1908 TS 462 at 464-5; Morrison v Standard Building Society 1932 AD 229 at 238).”

4. REGISTRATION OF PENSION FUNDS  Obligation to register in terms of section 4 of the PFA.  Entitlement to register in terms of the Income Tax Act: “approved funds”

5. REGISTRATION  WITH REGISTRAR (FSB)  In order to conduct business  In order to acquire (confirm?) legal personality  In order to comply with Act  WITH SARS  In order to qualify for stipulated tax treatment: fund’s income exempt  Payment of benefits partly / entirely tax free (average, not marginal rate)  Employer contributions deductible (pension, provident, RA)  Employee contribution to pension fund (not provident fund) deductible to R1,750 / 7.5%

6. REGISTRATION UNDER THE PENSION FUNDS ACT  All retirement funds must be registered with the Registrar of Pension Funds (“the Registrar”) in terms of section 4 of the PFA. Only registered retirement funds may conduct the business of providing pensions and related benefits, and receiving contributions for that purpose.  Section 5 of the PFA deals with the effect of registration of a pension fund organisation. In terms of subsection (1)(b) all of the -  “assets, rights, liabilities and obligations pertaining to the business of the fund shall … be deemed to be assets, rights, liabilities and obligations of the fund to the exclusion of any other person and no person shall have any claim on the assets or rights or be responsible for any liabilities or obligations of the fund, except in so far as the claim has arisen or the responsibility has been incurred in connection with transactions relating to the business of the fund”

7. PENSION FUND INDEPENDENT OF EMPLOYER  In Welch v Golden Pension Fund [2002] 1 BPLR 3007 (PFA) it was confirmed that, “A pension fund organization is a separate legal persona and in terms of Section 5 of the Act, it is “a body corporate capable of suing and being sued in its corporate name”. The Fund is not an agent or subdivision of the participating employer or the administrator or any other functionary within the fund.”

8. PENSION FUND NOT A TRUST According to Advocate Alistair Franklin, SC  It is clear from the PFA that pension funds have a status which encompasses elements of both the law of trusts and contract: trustees manage and administer the business of the Fund for the purpose of securing for members the benefits to which they are entitled in terms of the rules, whilst the rules of a fund, subject to the PFA, define the powers, rights and obligations of the trustees, the fund and its members. The trustees stand in a relationship of trust towards the members, whilst the relationship between the Fund, the trustees and the members appears to have strong contractual elements.  Although members of the board of a pension fund could be regarded as “trustees” properly so called, and a fund may be equated to a trust, it is clear however that a trust properly so called differs from a pension fund. A trust does not possess juristic personality and is not a separate legal persona, the assets and liabilities in a trust vest in the trustee, and a trustee has no power to amend the trust instrument.

9. CATEGORISATIONS  Defined Contribution (DC) v Defined Benefit (DB)  DC & DB v Hybrid Funds / Mixed Funds  Pension Funds v Provident Funds  RA Funds  Private Funds v Open / Public / Umbrella Funds  Underwritten Funds

10. DEFINED CONTRIBUTION v DEFINED BENEFIT: TRADITIONAL  Defined Contribution Arrangement (“fixed contribution fund”; “money purchase fund”)  The contributions of the employer and the employee are defined in the rules of the retirement fund, usually being determined as fixed percentages of an employee’s pensionable salary.  It is common for those fixed percentages to differ.  The benefits that will become payable to members upon the happening of different insured events will be determined primarily by the market performance of the fund.

11. DEFINED CONTRIBUTION v DEFINED BENEFIT: TRADITIONAL (cont.)  DEFINED BENEFITS ARRANGEMENT  Only the employee’s contributions are defined as a percentage of pensionable salary.  The employer’s contributions will fluctuate depending on actuarial assessments of the level of funding required from time to time in order for the fund to meet its projected defined liabilities.  The Pension Funds Act requires that retirement funds undergo an actuarial valuation every three years.

12. DEFINED CONTRIBUTION v DEFINED BENEFIT: STATUTORY  A “defined benefit category of a fund” is defined in Section 1 of the Pension Funds Act, 1956 (“the Act”) as meaning “a category of a fund other than a defined contribution category of a fund”. A “defined contribution category of a fund” is in turn defined to mean:  “A category of members in respect of whom the benefit on retirement has a value equal to the value of –  The fixed-rate contributions paid by the member and by the employer on behalf of the member, where such fixed rates are defined in the rules,  Less such expenses as the board determines should be deducted from the contributions paid,  Augmented by such investment returns and any share of actuarial surplus or transfer from a contingency reserve account as the board determines;”

13. CONCERN WITH STATUTORY INTERVENTION According to Advocate Chris Loxton, SC  The effect of the definition of “defined benefit category of a fund” when read with the definition of “defined contribution category of a fund” is that where members are entitled to benefits on retirement which do not fall within the latter definition, the fund will (provided that such members do not fall into a separate defined contribution category) fall into the defined benefit category even where such fund differs materially from what would generally be regarded as the typical defined benefit fund. All funds which do not qualify as defined contribution funds are, by default, deemed to be defined benefit funds. Whilst that approach leads to certainty, it also gives rise to glaring anomalies. Thus a fund which is fundamentally a defined contribution type fund will, if the value of the benefit on retirement is not calculated or derived in precisely the manner set out in the definition, by default be a defined benefit fund.  The legislature has chosen to distinguish between a defined benefit category of a fund and a defined contribution category of a fund. The introduction into each definition of the underlined word suggests that the legislature contemplated that (as is frequently the case) a single fund might have a defined benefit section and a defined contribution section.

14. HYBRID FUNDS  Funds that provide both defined contribution and defined benefits are not new in South Africa. In the Mouton Report Into Retirement Provision in South Africa funds which provide both defined contribution benefits and defined benefits were called “mixed funds”. In Tudor v Samilas Pension Fund and Another [2003] 5 BPLR 4715 at 4716C, the Pension Funds Adjudicator referred to a mixed fund as a hybrid scheme.  The definitions of defined benefit and defined contribution funds were only introduced in 2001 by the Pension Funds Second Amendment Act. Prior to that there were many funds that operated as hybrid funds, and many continue to do so.  There question is where the definitions introduced by the Amendment Act permit this: they do not expressly exclude the possibility of hybrid funds.  It seems that the PFA contemplates a hybrid fund where there is a clear distinction between two categories of members in a fund, one category receiving defined benefits and another category receiving defined contribution benefits.

15. HYBRID FUNDS: INTERPRETATION CONCERNS  Not clear that the PFA contemplates a hybrid fund in which the same category of members gets both defined benefits and defined contribution benefits. The difficulty is that such an interpretation stretches the language of the relevant statutory provisions. If one looks at the definition of defined benefit fund and reads it with the definition of a defined contribution fund it would read “a category of a fund other than” (a category of members who receive a defined contribution benefit on retirement). This would suggest that in a fund there may be one category of members who receive a defined contribution, and another separate group who receive a defined benefit. This would suggest that it could not be the same members who receive both.  There must be an argument that a person could fall simultaneously into two classes of person. In respect of one class the member receives a defined contribution benefit. In respect of the other class he or she receives the defined benefit. The position is by no means clear but it is the interpretation that makes the most sense.

16. “PENSION FUNDS” v “PROVIDENT FUNDS”  The distinction does not exist as a matter of pension law. It is made purely for tax purposes.  In terms of the Income Tax Act, 58 of 1962, there are two types of retirement funds, namely provident funds and pension funds.  Provident funds may pay out 100% of a person’s retirement benefit to that person in cash upon that person’s retirement, and the person may utilise that benefit in his or her absolute discretion.  A pension fund may only pay out to a retiring person one-third of that person’s total retirement benefit in cash. The balance (two-thirds) must be applied towards purchasing a retirement annuity, that is, a policy in terms of which the retired person will be paid a monthly sum for the rest of his or her life by a long- term assurer.

17. RETIREMENT ANNUITY FUNDS  A retirement annuity fund is generally not established for a group/class of persons, e.g. employees of a particular company or group of companies, and so membership is generally voluntary.  Member is a direct policy holder (policies not in fund’s name)  Usually operates in a similar fashion to a defined contribution pension fund.

18. “PRIVATE” v “OPEN”, “PUBLIC”, “UMBRELLA” FUND: PRIVATE  Many South African employers still subscribe to private retirement funds, whose membership is restricted to employees of a particular company or group of companies.  Governed by a board which must by law be comprised of at least the same number of employee-elected members as there are employer-appointed members.  Management of private retirement funds raises a number of significant governance issues, particularly in relation to potential conflicts between the fiduciary duties of directors and senior executives to the company and the fiduciary duty owed by them to the fund itself in their capacity as members of the board of the fund. Similar concerns arise in respect of employee-elected members of the board of the fund.

19. “PRIVATE” v “OPEN”, “PUBLIC”, “UMBRELLA” FUND: OPEN  In recent times more employers have migrated to multi-employer “umbrella” retirement funds, which are funds established and administered by a professional board appointed by a professional retirement fund administration company.  However, even subscription to an umbrella fund poses certain difficulties, particularly since the Pension Funds Act does not yet contemplate or cater for the separation of the pooled assets of a retirement fund and the allocation of assets to a particular class of members, namely the employees of a particular employer.

20. “UNDERWRITTEN” FUNDS  Registrar defines an underwritten fund as one in which the only asset is a policy issued by an insurance company. In other words, all contributions are paid over by the fund to an insurance company which then invests the money in one of its guaranteed or managed funds.  Difficulty: pension increases usually linked to policy performance, not inflation-index as law now requires.