Q: "We have decided to introduce a superannuation plan. What should we do next?"
There is no single answer to this question. To introduce a superannuation plan, an employer must decide on a benefit design (i.e. contribution levels, the benefits payable etc.) and then select a vehicle.
Over the years, the employers that have implemented superannuation successfully have:
- kept the plans simple - that makes them easily understood. They can be readily communiated by non superannuation experts.
- targeted the "average" employee needs but include flexibility. That lets all employees achieve their individual goals.
- met a business need to attract, retain or exit employees in an orderly way.
- kept management and administration costs to a minimum. This way, most of the employer's contribution provides benefits to the employee and not fees to the advisers, administrators and fund managers.
- maintained a high level of quality communication and education. That reinforces the value of the plan and ensure that employees understand it and their options.
With the above principles in mind, we show in the box below a suggested benefit design, as a basis for discussion.
Suggested benefit design:
- Member: 5% of Pay.
- Employer: 5% of Pay including ESCT1 (3.35% net at 33% ESCT).
- Retirement: From age 55, the full account balances.
- Resignation: The member account plus, after 1 year's service, 25% of the employer account for each complete year's service. The full employer account is paid after 4 years. This is known as the "vesting" period.
Death/disablement: Insurance tops up the account balances to one times annual pay. This is set each 1 April, with the premiums paid by the employer.
A "balanced" portfolio of 40% in cash/bonds and 60% in shares/property.
The administration costs are deducted from the member's employer account.
Contributions: Members can make additional regular voluntary contributions and lump sum deposits.
Insurance: Members can buy extra insurance for themselves and also for their spouse/partner - each bought at group prices. Voluntary insurance would also include income protection and/or medical cover.
Investments: Members can decide their own investment strategy and not have the automatic "balanced" option.
Benefits: Benefits can be lump sums or taken as income or a combination, at the member's option.
Continuation: Members can continue their superannuation and insurance after they leave service.
In terms of the suggested benefit design, we note:
When it comes to retirement savings, the money in (i.e. contributions), influences the money out (i.e. benefits). Collectively, the suggested contributions should ensure that an adequate benefit can emerge. We therefore think that employees should be encouraged to contribute more than a minimal amount.
In setting the contribution at 5%, some employees will say they can't afford the 5%. While one option is to allow flexibility (e.g. a minimum of 3%) and subsidise it $1 per $1 to a maximum of 5%, this introduces a complexity. Communicating variable contribution rates involves greater explanation and runs the risk of conusing employees. Also, at less than 5%, the benefits will probably be inadequate. A contribution of 3% is unlikely to generate sufficient retirement savings.
If 5% creates a barrier, it may be better to manage the employees' perception of affordability, by:
- introducing the plan at the time of a pay increase (or over two pay increases), and/or
- providing budgetary advice.
Budgetary advice could also be part of the ongoing communiation process.
If lower contributions are allowed, it might be a good idea to get the employee to commit, in advance, to incrase the rate towards 5%, next time they get a pay increase e.g. by saving half of their future increase.
The 5% employer contribution may also be too big a step for the employer to take at once. In such circumstances, it could instead be implemented in stages e.g. over 2 years.
The suggested subsidy of 5% includes withholding tax (known as ESCT). The 5% employer contribution is therefore not a net 5% in the employee's hands. If the Company wanted to incur the additional cost, the subsidy could be raised to 7.5% so that the net rate for most employees is then 5%.
There is no magical vesting scale. There is a range of scales that can be used and are used by different employerrs, including immediate vesting. The purpose of the vesting scale is to align the employer's contributions with its business needs.
We suggest five years as it is sufficiently short to be relevant and valued to the employee. It also encourages retention to get the initial 2 year mark, and then targets the 5 year mark, and then to stay long-term. After 5 years, all new employer contributions are also fully vested, making the employer contribution a valuable addition to the employee's remuneration package.
Good communication and education will help reinforce the message that employer contribution is valuable. The employee may not see the money but needs to know it's there.
To some extent, the chosen level of insurance is a cost/benefit issue.
The market average death benefit is currently nearer three times pay than one times. One times pay was suggested as, at this level, the costs are more affordable. Also, it probably reflects the level of the moral obligation that the employer considers it has if an employee died or became disabled. It is more likely to be consistent with the business needs of the employer and the benefit it gains in terms of goodwill.
The level suggested also took into account the fact that those employees who need extra cover can take it out, as required, on a voluntary basis.
The next step
If you want to consider implementing a superannuation plan along the above lines, or with an alternative benefit design, contact us. We think that you should keep things simple, affordable and have a high level of communication. Adding uncomplicated flexibiliy is a bonus.
The seven steps to launching a successful superannuation plan
- Decide on the cost/budget constraints.
- Determine the business goals.
- Indentify the employees' needs.
- Agree on the benefit design that meets the business goals and the employees' needs within the Company's cost constraints.
- Choose a vehicle to deliver the benefits.
- Organise the launch and the communication material.
- Implement a future review process.
1 ESCWT- Employer Superannuation Contribution Withdrawal Tax.