By: Brett Ladouce
THE law of unintended consequences is observed where the actions taken by a person, institution or government lead to results, mostly negative, that were not expected or intended.
By this time, all retirement fund members should be aware of the two goals of the Two Pot System that will be introduced on September 1, 2024, namely, to limit access to the larger part of retirement savings before the date of retirement to ensure better retirement outcomes and, secondly, to grant partial access to a portion of retirement savings to assist members who are facing financial challenges.
Fund members will in future not have direct or indirect access to their Retirement Pots before the date of retirement. There is one exception to this rule, namely where members get divorced from their spouses.
Currently, a member of a retirement fund can have full access to all his or her retirement savings when their contract of employment is terminated. Members who are facing financial difficulties often, without the benefit of sound financial advice, terminate their contracts of employment to gain access to their retirement savings to resolve financial difficulties.
For new members joining retirement funds as from September 1, 2024, resignation will no longer be an attractive option as they will only be able to access their Savings Pots, and thus only a third of the accumulated retirement savings, at resignation. In desperate situations, people will do almost anything to find a quick solution to their financial problems. Post September 1, 2024, many of them might be drawn to a creature that I like to call a ‘faux divorce’.
In my book Pensions for Palookas, I discuss the dangers of a practice (“fake divorces”) that I have observed over the past few years.
Fund members gain indirect access to their retirement savings by “conspiring” with their spouses to get a divorce for the sole purpose of gaining access to the retirement savings to pay off debt and not because their marriage has irrevocably broken down.
In this arrangement, each spouse will receive a substantial portion, if not all, of the retirement savings (pension interest at divorce) of the other party in their respective retirement funds. This is normally done in a clandestine manner where only the two spouses are aware of the divorce as it is their intention to get married again as soon as possible after the retirement funds make payment to them.
If the plan works, debt will be paid (after the SA Revenue Service (Sars) receives a substantial portion of the amount that is taxed as a lump sum withdrawal benefit in the hands of the non-member spouse), the parties will remarry and live happily ever after. This, however, is not always the case.
In terms of the Two Pot System, the non-member spouse will still be able to access all two or three pots at divorce. Where the court that grants the divorce order issues an order in terms of section 7(8) of the Divorce Act against the fund to pay 50% of the pension interest (withdrawal benefit as at the date of divorce) of the member in the fund to the non-member spouse, the fund will pay 50% of the money in the Savings Pot, 50% of the money in the Retirement Pot and 50% of the money in the Vested Pot to the non-member spouse.
The fund must therefore reduce the money in the pots proportionally and cannot, for example, pay the full amount from the Vested Pot because the largest amount is in that pot and there is enough money in that pot to pay the whole amount that is due to the non-member spouse.
The law of unintended consequences will rear its ugly head, however, despite the best, ill-informed intentions of the spouses. The payment of up to 36% of the amount that the non-member spouse receives from the fund to Sars as tax is, in most cases, the first unintended consequence of the “fake divorce”.
The second unintended consequence is the fact that your spouse is no longer your spouse for purposes of future fund or other employment-related benefits. The ex-spouse, in this case, will no longer fall within the definition of a “dependent” in terms of the Pension Funds Act.
If the member dies and does not nominate the ex-spouse to receive a portion of the death benefit, that ex-spouse will have no entitlement to a portion of the death benefit and the trustees of the fund can rightfully exclude him or her from consideration for a death benefit payment.
The rules of some retirement funds also make provision for the payment of a spouses’ pension to the spouse of the member after his or her death. Where the marriage has been terminated due to a “fake divorce”, there is no spouse and thus no spouse’s pension payable in terms of the rules of the fund.
Where the employer provides life cover on the life of the spouse of the employee, eligibility for that life cover will stop on the date of divorce and the fund member will have to take out an individual life insurance policy on the life of the ex-spouse, often at a substantially higher premium than the one payable in terms of the group life policy effected by the employer.
To put the dangers of “fake divorces” into perspective, let us picture a future scenario where the Mr and Mrs X get divorced on September 1, 2035 with total retirement savings (pension interest) on the date of divorce of R1 million each (R333 333 in the Savings Pot and R666 667 in the Retirement Pot). In terms of their settlement agreement, they agree that the other party will receive the full R1m. Each of them, as non-member spouse, will be liable for the payment of the lump sum withdrawal benefit tax of R199 710 and thus only receive an after-tax payment of R800 290 from the respective funds.
This means that on September 2, 2035 they will start the retirement savings journey for the next 20 years to their normal retirement with R0 in the Savings Pot and R0 in the Retirement Pot. The spouses will each suffer a loss of R6 400 000 which is the investment growth they would have earned on the R1m over the next 20 years at an annual investment growth rate of 10% if the money were not paid out to the non-member spouse at divorce.
What might sound like a clever idea for you to get out of your short-term cash-flow problem might have unintended, negative consequences in the long term that you and your spouse might not have considered or been aware of.
Retirement fund members can avoid the perils of the law of unintended consequences by carefully considering their decisions and all the foreseeable consequences of their actions. Sound advice should be obtained from a financial adviser, tax adviser and possibly a debt counsellor before you take any action that can reduce your chances of reaching your best possible retirement outcomes.
It is your responsibility to make the best, informed decision in a particular situation based on as much information and advice as possible to balance your short-term needs and your long-term financial health.
* Ladouce is a pension funds lawyer and the author of the book ‘Pensions for Palookas’.
PERSONAL FINANCE