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Photo Credits: World Bank Photo Library and Shutterstock.com TABLE OF CONTENTS FOREWORD iii ACKNOWLEDGEMENTS v ACCRONYMS vii CHAPTER 1: PENSIONS IN EAST AFRICA: THE JOURNEY THUS FAR 1 CHAPTER 2: REGULATION AND SUPERVISION OF RETIREMENT BENEFIT SCHEMES IN EAST AFRICA: INTEGRATION OPPORTUNITIES 11 CHAPTER 3: TAX TREATMENT OF RETIREMENT BENEFITS IN EAST AFRICA: A CROSS-COUNTRY COMPARISON OF POLICIES 21 CHAPTER 4: PENSION FUND GOVERNANCE 31 CHAPTER 5: INVESTING PENSION FUND ASSETS IN EAST AFRICA 45 CHAPTER 6: EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR 57 CHAPTER 7: PENSION SYSTEM ADEQUACY: AN EMPIRICAL ASSESSMENT OF PENSION PAYMENTS IN MAINLAND TANZANIA 71 ANNEX A: CURRENT PENSION SYSTEMS IN BURUNDI, KENYA, RWANDA, TANZANIA AND UGANDA 89 ANNEX B: PENSION REGULATORY FRAMEWORKS IN EAC COUNTRIES 105 ANNEX C: PENSION SCHEMES IN TANZANIA 111 BIBLIOGRAPHY 113 ENDNOTES 121 LIST OF BOXES Box 1: NSSF Governance 37 LIST OF FIGURES Figure 1: Pension System Pillars 1 Figure 2: National Pension Scheme Expenditures (as a percentage of gross domestic product [GDP]) 4 Figure 3: Civil Service Scheme Expenditures (as a percentage of GDP) 4 Figure 4: National Pension System Contribution Rates 5 Figure 5: Civil Service Pension Scheme Contribution Rates 5 Figure 6: Civil Service Pension Scheme Accrual Rates 6 Figure 7: National Pension Coverage of the Population Aged 60 7 Figure 8: Civil Service Scheme Coverage of Population Over the Age of 60 7 PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE |I Figure 9: Enforcement Pyramid 16 Figure 10: Stylized Mapping of Pension Supervision Approaches 16 Figure 11: Use of Supervisory Tool in Selected IOPS Member Countries 17 Figure 12: Share of Informal Employment, including agriculture, 2016 (%) 58 Figure 13: Share of Informal Employment, excluding agriculture, 2016 (%) 59 Figure 14: The Labour Force Pyramid 59 Figure 15: Life Expectancy at Birth (years) 60 Figure 16: Fertility Rates (live births per woman) 60 Figure 17: Proportion of Population (aged 15+) with a Financial Institution Account, 2017 64 Figure 18: Proportion of Population (aged 15+) with a Mobile Money Wallet, 2017 64 Figure 19: Initial Negative Savings Ratio and Inadequate Retirement Pensions 73 Figure 20: Initial Negative Savings Ratio and Adequate Retirement Pension 74 Figure 21: Conceptual Framework on Pension Adequacy 76 Figure 22: Ratio of Pensioners to Members (Demographic Ratio) 81 Figure 23: Rate of Pensioners to Members 82 Figure 24: Level of Members to Workforce (system coverage levels) 83 Figure 25: Ratio of Members to Workforce (system coverage rates) 83 Figure 26: System Replacement Ratio (ratio of pensions to salaries) 84 Figure 27: Total Benefits (in TZS) 84 Figure 28: Pension Fund Accrual Rates 85 Figure 29: Prevailing Replacement Rates 85 Figure 30: Replacement Rates without Commutation 86 Figure 31: Pensions Indexation 87 LIST OF TABLES Table 1: Main Pension Schemes by Country 3 Table 2: Licensed Entities by Country 13 Table 3: Structure of IOPS Members 18 Table 4: Employer Contribution by Country 24 Table 5: Employee Contribution by Country 26 Table 6: Prescribed Investment Limits for EAC Pension Funds (percentage) 50 Table 7: Types of Pension Schemes across Selected East African Countries 61 Table 8: Coverage Ratios of Pension Schemes across Selected East African Countries 61 Table 9: Status of the National Identification Systems in the EAC 62 Table 10: Proportion of Adult-Population with a National ID 62 Table 11: Proportion of Adult Population (aged 16+) who Own a Mobile Phone 64 Table 12: Purpose of Savings, Tanzania 65 Table 13: Purpose of Savings, Uganda 65 Table 14: Government Incentive Structure for the Long-Term Savings Scheme, Rwanda 67 Table 15: Descriptive Statistics 79 II | TABLE OF CONTENTS FOREWORD Although the populations of the countries in East In this book, the authors take the readers through Africa are still young, there is a growing awareness the historical and political events stemming from among policy makers that they too will face the colonial days, as well as the effects of these interlocking challenges of demographics and events on the development of pensions across the urbanization. The lesson learned from other regions Community. It includes an analysis of the diverse is that policies need to be put in place now to ensure pension systems, including the characteristics, that pension systems are robust and affordable. challenges and opportunities yet to be dealt with in So too, pension savings should be used to fund delivering sustainable pensions to East Africans. economic growth and development. Otherwise, we risk the fate of becoming old before we Throughout the EAC, regulatory authorities have become rich. been established to manage the pensions sector. In a concise and easy to understand manner, this This book was initiated by the pension regulators, book seeks to outline and differentiate between the specialists, consultants and practitioners within various regulatory and supervisory approaches, the the East African Community (EAC) partner states. investment management practices, the governance Many of us have partnered with the World Bank frameworks and the tax policies that have been on pension reforms in our countries. Together, we adopted across the Community. It delves into drew on global policy lessons and experience, and the real challenges of optimizing returns on are glad to do so again for this publication. investments, increasing coverage and harmonizing taxation policies across the diverse partner states. In this book, the authors share the East African story of pensions with the world. We have tried to give We hope this publication will provide a useful readers a perspective on the state of pensions within guide not only to the history, but to the future of the EAC and contribute toward the development of our pension systems. With well-thought through the sector. We have also sought to provide practical policies and robust implementation, we believe that advice to the business community that has embraced East Africa can put in place pension systems fit for the opportunity to invest in pensions businesses the 21st century and beyond. In so doing, the region across the region. can provide leadership and lessons for the rest of the world. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | III IV | CHAPTER 6:. EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR ACKNOWLEDGEMENTS The editors of this publication are Miriam Musaali international team, for managing $20bn globally. and Fiona Stewart (biographies follow). They She holds degrees from Oxford and Johns Hopkins would like to thank the chapter authors for their Universities and a Chartered Financial Analyst hard work and enthusiasm in helping up to pull qualification. She also served on the advisory board the publication together: David Nyakundi Bonyi, of one of the OECD’s own pension funds. Winifred Tarinyeba Kiryabwire, Japheth Katto, Patricia Kiwanuka, Joseph Sanjula Lutwama and Irene Isaka (whose biographies also follow). Miriam Ekirapa Musaali Miriam Ekirapa Musaali is the Chief Operating The editors would also like to thank Mark Davis, Officer of Zamara Actuaries, Administrators and Melis Guven, Anita Schwarz and other regional Consultants Uganda Limited (formerly Alexander World Bank colleagues for their comments on Forbes Financial Services Uganda Limited). She is the publication. We are also grateful to Anne an accomplished Legal Consultant and Advocate of Mpendo and Grace Nyarango from the East Africa the High Court of Uganda with local and regional Community (EAC) Secretariat for their input. experience in consulting, regulation and training Thanks also goes to Aichin Jones and Amy Quach within the financial services sector. for design and layout support. Prior to joining Zamara Miriam was the Director Market Supervision at the Capital Markets Authority Fiona Stewart where she gained over 10 years’ experience in legal, Fiona Stewart, Lead Financial Sector Specialist, is regulatory and compliance matters. part of the Long-term Finance Team in the World Bank’s Finance, Competitiveness & Innovation As a Graduate Fellow of the Macro Economic Global Practice. Fiona provides policy advice on and Financial Management Institute of Eastern & pension and insurance market reform to governments Southern Africa (MEFMI) she has specialized in around the world, and is currently working on supervision of non-bank financial Institutions with projects in East and Southern Africa, Indonesia and particular emphasis on pensions. Georgia. Previously, she worked for the OECD’s Financial Affairs Division for eight years and led Miriam completed her Master of Laws (LLM) the Secretariat of the International Organisation of Degree at the University of Cambridge in 2006 with Pension Supervisors (IOPS). Prior to working at the First Class Honors. She was awarded the David OECD, Fiona worked in the pension fund industry. Pearl Prize by Fitz William College Cambridge As head of American Express Asset Management and elected Senior Scholar of Fitz William College in Japan she was responsible for investing Cambridge (2005/2006). $2bn in Asian equity markets, and, as part of an PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE |V Mr. David Nyakundi Bonyi Mr. Japheth Katto Mr. David Nyakundi. Bonyi practices and consults Mr. Japheth Katto, is a corporate governance and on pension law matters in Kenya and the region. financial services regulation consultant. He is the He holds a Master of Laws Degree from the Chairman of the Boards of Stanbic Bank Uganda University of Nairobi. He has wide experience in and Uganda Breweries Ltd. He is also on the board pension law, regulation and supervision. He was of East African Breweries Limited (a subsidiary of involved in the establishment of the Retirement Diageo plc), where he chairs the board corporate Benefits Authority and drafting subsidiary governance committee and is a member of the audit legislation for the pension sector in Kenya. He and risk committee. has provided consultancy services in pension reform and regulation consultancy services the He is an adjunct faculty of the Kenya based governments of Uganda, Rwanda, Tanzania and Strathmore University Business School. Japheth the Government of the Gambia. He was also the was the CEO of Uganda’s Capital Markets head of pension supervision in Kenya and the Authority for 16 years until end of 2013. Prior to Chief Executive Officer of the Uganda Retirement this, he held several senior positions in accounting, Benefits Regulatory Authority. auditing and financial services regulation, globally and in the East African region - including the Investment Management Regulatory Organization Dr. Winifred Tarinyeba Kiryabwire and the Financial Services Authority, UK. Dr. Winifred is an Associate Professor in the Commercial Law Department at the School of Law, Mr. Katto has held key public appointments in Makerere University, where she teaches Company Uganda, including commissioner on the Judicial Law, Corporate Governance and Corporate Finance Commission of Enquiry into the Closure of Law. She was part of a team that published the Banks, Council Member of African Peer Review pioneer book on Corporate Governance in Uganda. Mechanism (Uganda) and Chairman of the Ministry She has also published a book on Company Law of Finance’s Pension Liberalization and Regulation and co-authored chapters for a book on legal ethics. Sub-Committee. He has also served on the Board of the Duke of Edinburgh International Award She has wide experience in corporate law and Uganda. securities regulation and has been a visiting professor at Strathmore Law School, visiting fellow He was a Board member of the New York based, at Harris Manchester College, Oxford University International Federation of Accountants (IFAC) and Research Fellow at Cambridge University. for 6 years until November 2013, a member of the IFAC Nominating Committee for four years She holds a Doctor of Science of Law degree (JSD) until November 2014 and a member of the Global and Master of Science of Law degree (JSM) from Council of the UK based Association of Chartered Stanford University, USA as well as a Master of Certified Accountants (ACCA) for six years until Laws degree (LL.M) from Cambridge University, November 2018. UK; a Postgraduate diploma in Legal Practice (PGDLP) from the Law Development Centre; and Japheth holds a Bachelor of Commerce Degree Bachelor of Laws degree (LL.B) from Makerere from Makerere University he is a Fellow of ACCA University. and a member of the Institute of Certified Public Accountants of Uganda. Mr. Katto is one of the editors of “Corporate Governance in Uganda, an introduction to concepts and Principles’’. VI | ACKNOWLEDGEMENTS Ms. Patricia Kiwanuka Mr. Joseph Sanjula Lutwama Patricia is the Managing Director and Founder of Mr. Joseph Sanjula Lutwama is the Head of Revenu Stream Limited. The firm is built on the Business Environment and the Ag. Director expertise and experience gained as a Chartered Programs at Financial Sector Deepening Uganda Financial Analyst (CFA), holding over 20 years Joseph was also the Director Research and Market of experience in fund management, stock broking, Development at the Capital Markets Authority property, insurance and pensions. Uganda. He has an MA in Economic Policy and Planning from Makerere University, Kampala Patricia worked as the Group Managing Director, Uganda. He has over 15 years of experience in Asset Management and Property for UAP Old research, strategy development, policy, legal Mutual Group, with operations across the East and regulatory analysis.  His major areas of Africa region. While with the Group, she also specialization are financial inclusion, financial held the post of Corporate Director, Old Mutual markets and business development within Uganda Life Assurance and sat on a number of boards as a and the broader East African region. director across the UAP Old Mutual Group. Prior to this, Patricia worked with PineBridge Investments East Africa Limited (formerly AIG Investments) Dr. Irene Isaka as Head of Africa Business Development and Vice Dr. Irene Isaka is a Lecturer under the Department President, Alexander Forbes Financial Services of Social Protection and Actuarial Studies at (EA) Limited as an Actuarial Consultant and as the Institute of Finance Management (IFM). the Benefits Administration Manager for the Local Isaka also worked as Director General of Social Authorities Provident Fund. Security Regulatory Authority (SSRA) following the appointment by the President of the United Patricia has board experience and currently sits as a Republic of Tanzania in 2010. Under this capacity, Council Member of the United States International Isaka was able to set up systems and processes for University – Africa, Executive Committee Member the newly established Authority; harmonization of Priory of St. John Ambulance and is Chairperson of Legal and Regulatory Framework of social of the Nairobi Stock Exchange Derivatives security sector in 2012; parametric reforms in 2014 Committee. Prior to this, she was a Director of and merging of Pension Funds in 2018. She also K-Rep Bank (now Sidian Bank) and Chairperson served as the chairperson of East African Pension of Association of Retirement Benefits Schemes Regulators. Irene holds a Doctor of Philosophy (ARBS). Degree in Economics. From the University of Dar-Es-Salaam, Tanzania, a Master of Arts Degree Patricia is a CFA(R) Charter holder, Member of in Economics and a Bachelor of Arts in Economics CFA Institute, USA and has undertaken courses (Hons), (1995) also from the University of with Insead Business School. She holds a Masters Dar-Es-Salaam, Tanzania. of Business Administration Degree (Finance) and a Bachelors of Science Degree (Mathematics/ Statistics) and is pursuing a 2nd Masters in Arts (Counselling Psychology). PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | VII VIII | CHAPTER 6:. EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR ACRONYMS AND ABBREVIATIONS ACCA Association of Chartered Certified Accountants AFPS Armed Forces Pensions Act (Uganda) BIF Burundian francs BNR National Bank of Rwanda CalPERS California Public Employees Retirement System CatR Catchment Rate CEO Chief Executive Officer CFA Chartered Financial Analyst CIS Collective Investment Scheme CORE Comprehensive Replacement CPG Commuted Pension Gratuity (Uganda) CR Coverage Ratio CRISA Code for Responsible Investing in South Africa CSR Caisse Sociale du Rwanda (Social Security of Rwanda) DB Defined Benefit DC Defined Contribution DR Demographic Ratio EAC East African Community EAPSA East African Pension Supervisory Association EEE Contributions, investments and pay-outs exempt from tax EET Contributions and investments exempt, with pay-outs taxed E-KYC Electronic Know-Your-Customer ESG Environmental, Social and Governance ETT Contributions exempt, with investment and pay-outs taxed EU European Union FSB Financial Services Board of South Africa GDP Gross Domestic Product GEPF Government Employees Pension Fund (Tanzania) GIPS Global Investment Performance Standards GRR Gross Replacement Rate IFRS International Financial Reporting Standards ILO International Labour Organization PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | IX INSS National Institute of Social Security (Burundi) IOPS International Organization of Pension Supervisors IPP Individual Pension Plan ISSA International Social Security Association KACITA Kampala City Traders Association KCB Kenya Commercial Bank KSh Kenyan shilling LAD Longitudinal Administrative Database LAPF Local Authorities Pension Fund (Tanzania) LCH Life-cycle Hypothesis LTSS Long-Term Savings Scheme (Rwanda) MURBS Makerere University Retirement Benefits Scheme MVIRBS Mazima Voluntary Individual Retirement Benefits Scheme NBS National Bureau of Statistics NSE Nairobi Securities Exchange NSSF National Social Security Fund OECD Organisation for Economic Co-operation and Development ONPR National Office of Pensions and Occupational Risks (Burundi) PAYG Pay-As-You-Go PESTEL Political, Economic, Social, Technological, Environmental and Legal PPF Pension Protection Fund (Tanzania) PSPF Public Service Pension Fund (Tanzania) PSPS Public Service Pension Scheme (Uganda) PSSF Public Service Superannuation Fund (Kenya) PSSSF Public Service Sector Security Fund (Tanzania) RAMA National Medical Insurance (Rwanda) RBA Retirement Benefits Authority (Kenya) REIT Real Estate Investment Trust RSSB Rwanda Social Security Board RwF Rwandan Franc SRR System Replacement Rate SSRA Social Security Regulatory Authority (Tanzania) TEE Contributions taxed, income exempt, with pay-outs taxed TTE Contributions and investments taxed, with pay-outs exempt TTT Contributions, investments and pay-outs taxed TZS Tanzanian Shilling UK United Kingdom URBRA Uganda Retirement Benefits Regulatory Authority US United States VAT Value-added tax X | ACRONYMS AND ABBREVIATIONS CHAPTER 1 PENSIONS IN EAST AFRICA: THE JOURNEY THUS FAR ‑ David Nyakundi Bonyi ‑ Introduction and History of Pension p. 25) state that “the primary objective of pensions Systems in the East African is economic security in old age, achieved through consumption smoothing, insurance, poverty relief Community (EAC) and redistribution. The primary objective of a Pension systems have two main functions, namely, pension design is to optimize old age security, to alleviate poverty and smooth consumption over including the cost of providing it”. an individual’s lifecycle. Whereas cash transfers are state programs intended to alleviate extreme Pension systems can be designed in a variety of poverty among the elderly, other retirement saving ways and built from different ‘pillars’ in World plans are generally designed to provide income Bank parlance, to achieve these goals (Figure 1). replacement in old age. Barr and Diamond (2008, Figure 1: Pension System Pillars Pillar 0 / Pillar 1 Pillar 2 Pillar 3 Pillar 4 Pillar 5 • Mandatory – • Mandatory • Voluntary pillar • Financial Assets • Labor income + poverty private pillar (DB or DC) (housing/ own consumption alleviation (DB or DC) physical assets/ pillar public family transfers) pillar • Mandatory public consumption smoothing pillar Source: World Bank PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE |1 Diverse retirement benefits systems exist within In 1999, Tanzania enacted the Public Service the member states of the East African Community Retirement Benefits Act No. 2 to provide for the (EAC). These include a mixture of cash transfer establishment of the contributory Public Service programs, national mandatory schemes, work- Pension Fund. The Act repealed the Pension based retirement schemes and individual retirement Ordinance of 1954, which was non-contributory. In savings plans. The differences in these plans can be 2012, Kenya’s efforts to reform the civil service non- explained by the political and social history of EAC contributory pension scheme (which commenced member countries. in early 2000) culminated with The Public Service Superannuation Scheme Act, which is intended to The regulatory framework for retirement benefits make the scheme contributory. Unfortunately, the in EAC member states mirrors the policies adopted Act has not yet been implemented by the Minister by each state, as well as the historical influence of Finance. The pension scheme for civil servants of their colonial past. With the introduction of the in Kenya has remained the same scheme, that is, modern state, traditional social support systems it continues to utilize the system established by were gradually dismantled, and market-based its colonial powers in 1946. In Uganda, the non- social protection policies were introduced with the contributory public pension scheme began in gradual collapse of traditional social protection 1946 with the enactment of the Pensions Act. To practices, new policies were established, which date, efforts to reform the system to a contributory rewarded civil servants who remained loyal to the scheme have been slow and tedious. colonial government. The bulk of the employees who benefited from the policies of their colonial Aside from these traditional civil service schemes, powers were themselves white employees. Their policies and regulatory frameworks extending benefits were guaranteed by statute even after coverage to the formal private sector workers independence1. were nearly absent during colonial days. After independence, mandatory contributory retirement The effect of providing coverage to loyal civil benefit schemes were established. These required servants was that the rest of the citizenry remained private sector formal workers and employers to uncovered, including the casual and agricultural contribute to national mandatory social security workers employed in white-owned plantations. In schemes. In some countries, these mandatory the Francophone countries of Rwanda and Burundi, schemes were defined contribution provident funds, the colonial powers established contributory whereas in other countries, they were defined defined benefits schemes for civil servants. benefit pension schemes. Soon after independence, these were converted to contributory defined benefit social insurance The various policy approaches were informed schemes for all formal workers. The situation was by colonial legacies or national development different in Kenya, Tanzania and Uganda, where policies adopted after independence. In the case the British left a legacy of non-contributory defined of Tanzania, in keeping with its affinity for eastern benefit pension schemes for civil servants working socialism, institutions were nationalized, and social in the colonial government. These were originally security choice demanded solidarity rather than the designed to cover European employees. The scheme individualistic approach of the west. This explains was gradually extended to Africans working for the existence of mandatory defined benefit schemes colonial governments, but it excluded women which currently operate in Tanzania. Under the who were employed on short-term government defined benefit schemes, intergenerational transfers contracts. exist along with redistribution among the current members. 2 | CHAPTER 1: PENSIONS IN EAST AFRICA: THE JOURNEY THUS FAR The Francophone countries, Burundi and Rwanda, over national solidarity. Other than in Kenya, reformed the contributory public schemes where a universal, cash transfer scheme is being established during colonial days to include private rolled out on a national basis, the official design sector workers. Kenya and Uganda adopted the does not incorporate participation by workers in neoliberal economic principles of the west, which the informal sector. The obvious implication is to a large extent prioritize individual responsibility one of massive exclusion. Unemployed people over collectivism or solidarity vis-a-vis and the informal sector need to be covered in the retirement savings. These national socioeconomic retirement benefits sector. This can only happen development choices led to the development of if fundamental reforms of the retirement benefits defined contribution provident funds in Kenya and sector are comprehensively carried out to extend Uganda, where there is no intergenerational transfer coverage to both the formal and informal sectors. or redistribution within the scheme. Kenya, which is more capitalist than other countries, established Over and above the design of the pension system the national social security scheme in 1965. It had overall, the parametric design of the individual a very low contribution rate to cover the low-paid schemes varies by country (Table 1). This has fiscal workers as opposed to the senior officers who and other policy implications for these countries. had started developing the private work-based For example, spending in Tanzania on the national retirement benefit schemes. scheme is high, not just by EAC standards, but also by regional African standards (Figure 2). Kenya currently has the largest number of private occupational and individual retirement benefit By contrast, spending on civil service pensions schemes among the EAC countries. The legal is relatively low in EAC countries as compared framework for retirement benefits in the EAC is with its regional peers — although it is expected Eurocentric, that is, it favors the formal sector rather to grow significantly (due to the demographics of than the informal sector. However, the informal these schemes vis-à-vis their national populations) sector has grown tremendously in recent years. The (Figure 3). framework also favors individual responsibility Table 1: Main Pension Schemes by Country Country National Pension Scheme Civil Service Scheme Burundi Institut National de la Securite (National Institute Office Nationale des Pensions et Risques of Social Security) – INSS Professionals (National Office of Pensions and Pay-As-You-Go (PAYG) Defined Benefit (DB) Occupational Risks) – ONPR PAYG DB Kenya National Social Security Fund – NSSF Public Service Superannuation Fund - PSSF DC Provident Fund DB – Transitioning to DC Rwanda Rwanda Social Security Board – RSSB PAYG DB Tanzania National Social Security Fund – NSSF (main) Public Service Sector Security Fund – PSSSF PAYG DB PAYG DB Uganda National Social Security Fund – NSSF Public Service Pension Scheme – PSPS DC Provident Fund Non-Contributory DB Source: Authors PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE |3 Figure 2: National Pension Scheme Expenditures (As a Percentage of Gross Domestic Product [GDP]) National Pension Scheme Expenditures, % GDP (Latest Year Available) 1.0 0.9 0.9 0.9 0.8 0.8 Expenditure, % GDP 0.7 0.6 0.6 0.60 0.6 0.6 0.5 0.5 0.4 0.5 0.4 0.3 0.3 0.3 0.2 0.2 0.2 0.2 0.2 0.1 0.0 0.0 5 an 14 an 12 nd 4 Si Ben 15 Le 011 ur 014 bw 3 To 15 D’ Biss 014 CN 014 an 4 Ca ania 3 Ve 013 he 013 Av 4 e Lib 4/1 az 201 ba 201 Gh 201 01 01 ag Rw a 20 Ug 20 20 0 ra in 2 Ma e 2 e2 2 ire au 2 Ta a 2 2 e2 s2 er 1 20 da Sw da Zim tius go PS lle i on d er ila r pia i nz yc hio bo a Se Co ine er Et lvo Gu te Source: World Bank (2016). Figure 3: Civil Service Scheme Expenditures (As a Percentage of GDP) Civil Service Pension Scheme Expenditure, % GDP in Select Sub-Saharan Africa Economies 2.5 2.1 Expenditure, % GDP 2.0 1.7 1.8 1.6 1.5 1.3 1.3 1.4 1.2 1.2 1.2 0.9 1.0 1.0 0.8 0.84 0.5 0.3 0.4 0.4 0.0 mb 15 an 06 Ke 2013 ne 13 mb 011 iss 12 15 an 13 ur 013 To 12 Ma eni 9 5 ila 14 Ca ana 4 Ve 012 Af 013 5 0 ga 201 tsw 01 01 Ga 14/ Ug 20 Se 20 a B ia 20 Na u 20 0 0 20 0 l2 Ta ia 2 2 s2 2 Bo d 2 2 uth e 2 a2 20 ia da a a go n Sw car ga itiu ny a i n rd ric b mi pia s nz B az a Ma hio Z bo da ine Et So Gu Source: World Bank (2016). 4 | CHAPTER 1: PENSIONS IN EAST AFRICA: THE JOURNEY THUS FAR This is driven by the fact that although contribution (DB), civil service schemes, which are chronically rates paid to the schemes are relatively high, the underfunded. As such, they require parametric benefit levels are also generous (Figures 4, 5 and 6). adjustments, as well as extra contributions from the This is particularly the case for the defined benefit government budget to cover benefits. Figure 4: National Pension System Contribution Rates National Pension System Contribution Rates 25 20 20 18 18 16 17 14 15 15 15 15 12 12 % Rate 9 10 10 10 10 10 6 6 7 5 4 0 Pr a mb da Ma we bo s Rw s da Zim eria Za e ia Sw nin nd Ug e ra he e a Et o pia e Ta ria Av ia nd ny lle Ca uritiu rd ip on an g ag mb an Ga an an ila Si ia, T To ge b Be inc hio Ve he e a Ke Lib Le Gh er ba nz az Ni yc Se er om oT Sa Source: World Bank (2016). Figure 5: Civil Service Pension Scheme Contribution Rates Civil Service Contribution Rates 40 35 30 25 % Rate 20 15 10 5 0 Le rde Er an ire Se go e ntr Rw lles Af da So Za tho Su ia ur ia Gh nia nz a Bu a Bi ica Ke so Co am ya Et a ts a Ma B nia ga in te ibia na u Ma r S azi r Ca Ch ... Sw Nig i Av gal bo ad Gu outh land a e l ag Ta wan itre Bo an rki ssa uth mb Ma hiop da en an sc Fa N n vo d To al an r ita a s Ve he ine Af ne er d’l ric yc Se Ce Employer Employee Source: World Bank (2016). PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE |5 Figure 6: Civil Service Pension Scheme Accrual Rates Accrual Rates in SSA Civil Service Pension Schemes vs. OECD 3.5 3.0 2.5 % Rates 2.0 1.5 1.0 0.5 0.0 sto . p Po rea Ke da mb ds Ug ibia ak Ja nia p n ite na c d S da Ko es Sl den rm ia Be any um Ice ly Au key Ne Sp ria Lu ther ain Ma ame bia Sw gasc n Na ania a Co C mb o o, o V ue m. de rg Tu nd No land Sw ay az ar nz d Re Un Ca ubli Re pa da roo ny za Tog Ita Ge en Ta ilan ou xe lan an tat st ng ab iq De er rw la C Zam lgi m r e ov E Mo ov Sl SSA – Civil Service Pension Schemes OECD – National Pension Systems Source: World Bank (2016).2 Despite these relatively high costs, the coverage of In order to realize regional integration of the sector the national schemes is relatively low as compared as envisaged in the EAC Common Market Protocol, to other African peers, largely due to labor market the Monetary Union Protocol and the EAC Treaty, dynamics. policies need to be developed to address the differences obstructing regionalization of the sector. By comparison, civil service pensions in the region Under the auspices of the EAC Secretariat, partner cover a significant percentage of the population at states need to develop a regional pension policy to age 60 and above (Figures 7 and 8), particularly in guide the sector harmonization process. Critical Kenya, although their costs are higher relative to areas that need to be addressed include: portability; the population covered. tax harmonization; coverage; annuitization; the supervisory framework; cross-border investment; and regional provision of services. Opportunities for Integration As discussed, retirement benefit systems in East Portability Africa are diverse, as are their regulatory frameworks and system designs. As discussed elsewhere in this Whereas Rwanda, Tanzania and Uganda have book, EAC partner states have adopted different provisions in their respective laws to restrictively taxation regimes for the retirement benefits sector. permit portability of benefits across borders, other These differences range from regulatory regimes, member countries do not have such provisions. funding, systems design, coverage, and investment As a matter of a regional policy, all EAC member regimes. As such, a lack of cross-border portability, states should review their laws to enable portability insufficient annuitization policies, and other aspects of benefits within the region. have hindered integration of the retirement benefits sector in the region. 6 | CHAPTER 1: PENSIONS IN EAST AFRICA: THE JOURNEY THUS FAR Figure 7: National Pension Coverage of the Population Aged 60 National Pension System 70 60 50 40 % Rates 30 20 10 0 da ia a B ia Ug ia au Lib a ia R nin ra da e a Sw go bo nd Zim rde Se bwe om M lles Pr s ipe nd ritiu ny on an mb ine er an er an iss Si wan To Ca zila Be Ve he inc Ke Gu Nig Le Gh ba nz e a au Za a yc Ta er oT Sa Source: World Bank (2016). Figure 8: Civil Service Scheme Coverage of Population Over the Age of 60 Civil Service Pension System 16 14 Beneficiaries, % Population 60+ 14 13 12 10 10 10 10 10 9 9 9 8 6 6 5 4 3 2 2 2 0 0 ine tho au ia da Bo o Zim na Ma bwe ar uth n Ga frica Sw e nd ia Ca nya e g ni Th rd an mb sc iss an To a ila Be Gu Les Ve Ke tsw ba A ga nz ia, az Za Ug aB bo Ta da mb So Source: World Bank (2016). PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE |7 Tax Harmonization member state in the EAC, the annuity market will need to be developed. A policy review to enforce EAC partner states have different taxation regimes the purchase of annuities will also need to be for the retirement benefits sector, impacting the way adopted. This will contribute to the regionalization in which contributions, investments and benefits of the sector, not only at accumulation phase, but are treated. These differences hinder the portability also at the payment phase. of benefits and cross-border investments in assets of retirement benefits schemes. Differences in tax regimes are viewed as the greatest obstacle to Supervisory Framework integration of the sector. A policy to harmonize Apart from Burundi and South Sudan, all other the tax applicable to retirement benefits sector is members of the EAC have established authorities currently being developed at the EAC level. This to supervise the retirement benefits sector. The represents a great opportunity to integrate the sector existence of independent supervisory authorities in the region.3 is critical toward the harmonization of regional policies, and legal and regulatory frameworks of Coverage the retirement benefits sector. In order to implement regional policies for a harmonized sector, a policy The population covered by the retirement benefits statement requiring all partner states to establish sector in the EAC region is low, and the sector independent supervisory authorities for the reforms will not benefit many people unless there retirement sector is required. are legal and institutional reforms to enhance the scope of coverage. The current system covers the formal sector, whereas ever-growing informal sector Cross-border Investment and remains largely uncovered. In this context, some Regional Provision of Services EAC partner states are establishing mechanisms to increase pension coverage to the informal sector. Investment guidelines for the retirement benefits sector in the region are being harmonized. For A policy to mandate the participation of all formal example, the EAC has developed investment sector workers could help enhance coverage. principles which are to be implemented by all However, such a policy needs to also enable informal partner states. These principles will allow for sector workers to participate in the retirement investment in each other’s economies. As such, the benefits sector. Enhanced coverage for both formal EAC region will be deemed a domestic market for and informal sector workers will also promote the the purpose of investment in all retirement benefit regional movement of retirement benefit assets in schemes. Currently, in practice, cross-border search of appropriate investment opportunities. At investment is limited. the same time, it would spur activity at the payment phase through the development of annuity markets By contrast, licensed players in the sector are not in the region. recognized in other partner states. In order to create a common market for retirement benefit schemes, there is a need to mutually recognize licensed Annuitization service providers across borders. This could be achieved by simply sharing information between The level of annuity market development in the EAC the supervisory authorities of the licensed players. is varied, but generally low. Most scheme members of defined contribution schemes have tended to Political goodwill from all member states will be favor lump sum access at the payment phase as required for these opportunities to integrate the opposed to purchasing annuities. In order to enable sector within the region to be realized. scheme members to purchase annuities from any 8 | CHAPTER 1: PENSIONS IN EAST AFRICA: THE JOURNEY THUS FAR Conclusion a uniform strategy to guide the harmonization of the sector in the region is required to support the The need for an effective, sustainable retirement intended EAC integration. benefits sector that allows for wider coverage cannot be overemphasized. Indeed, a well-functioning The supervisory processes of the retirement benefits retirement benefits sector is a prerequisite for sector in the region are globally influenced and sustainable socioeconomic development in any seem to be gradually harmonizing. However, in country. order for the citizens of the EAC to enjoy portability both at the accumulation and payment phases of Partner states in the EAC have shown interest retirement benefits, the work to harmonize the in reforming their retirement benefits sectors to regulatory framework and taxation policies needs respond to current socioeconomic dynamics, such to be continued. Initiatives underway include as labor mobility, the breakdown of traditional the establishment of the East African Pension social security systems, fiscal pressures, and the Supervisory Association (EAPSA), which is increasing informality of the labor markets. With driving the move to have all partner state regulatory the convergence of the EAC as a common market, bodies adopt risk-based supervision as well as a it is prudent that partner states undertake their communications strategy for the sector. reforms with this reality in mind. Political will and PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE |9 CHAPTER 2 REGULATION AND SUPERVISION OF RETIREMENT BENEFIT SCHEMES IN EAST AFRICA: INTEGRATION OPPORTUNITIES ‑ David Nyakundi Bonyi and Fiona Stewart ‑ Introduction There is a distinction between regulating and supervising the retirement benefits sector. This chapter will make a differentiation between Regulation involves prescribing laws, rules, regulation and supervision of the retirement benefits standards, guidelines and practices, with which all sector. The regulatory framework and supervisory entities participating in the sector must comply. approach taken by the regulatory authorities within the member states of the East African Community Following the setting of a national policy relating will also be described, highlighting similarities and to the retirement benefit scheme, legislation should differences. prescribe the nature of the retirement benefits sector, the design of schemes and the types of schemes. The supporting regulatory framework for the sector Regulation versus Supervision should follow this policy and legislative structure. Oversight of the financial sector is needed to protect individuals and to ensure overall stability. The fundamental purpose of regulation is to ensure Regulatory frameworks and supervisory oversight that order, stability, and predictability exist in the ensure compliance while addressing the following retirement benefits sector, without which ‘would- challenges: market imperfections and failures; be’ consumers of the services would shy away asymmetric information; moral hazard; consumer because of a lack of confidence. Regulation should myopia; and competition and efficiency. always guarantee the protection of rights of all parties in the sector. Within the financial system, the oversight of pensions is particularly important as individuals Under regulation, a number of features pertaining are vulnerable to poverty in old age. This means to the sector will be prescribed. Some of the that risk tolerance when it comes to pension savings features, which will be covered by regulation, is generally low. This is especially the case when include: licensing procedures and requirements; dealing with mandatory savings of lower income a legal framework for the retirement benefit workers with less financial knowledge, as well scheme; governance of schemes and service as the fact that pensions can constitute a high providers; administrative procedures; funding; proportion of people’s net worth. accountability and financial management; vesting; investment guidelines for scheme assets; costs Pensions are also particularly complex products, and fees; management of payment of benefits; involving long-time horizons, with low liquidity, coverage; rights of members; and covenants of the multiple layers of intermediaries (from employers governing body and founders of these schemes. In to trustees to service providers), difficult investment a nutshell, regulation will prescribe the structure decisions and non-transparent incentives and of the retirement benefits sector, as well as the guarantees. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 11 management of the accumulation and payment supervisory agency. Rigid regulation, which phases of a retirement benefit scheme. denies the supervisory agency sufficient discretion to respond to emerging sector risks, is unsuitable The framers of regulation primarily include the for effective supervision of the retirement benefits legislature, the ministers responsible for the sector sector. Practically, a distinction between regulation and, in some cases, the supervisory agencies and supervision is rapidly becoming blurred as acting on delegated legislative powers. Regulation supervisory agencies assume greater roles in contributes greatly to the failure or success of creating and enforcing rules at the same time supervision. Consumers of retirement benefit sector (Denters 2009). services and supervisory agencies of the sector should clearly understand the regulations relating to the sector. A continuous review of regulation is Regulatory Approaches always important because the sector is dynamic. As noted, the regulatory framework in any country Indeed, factors such as labor, new risks, the should be suited to the pension policy and system investment environment, fiscal factors and national that it is designed to protect. The broader country demographic features may change over time. context — including the level of financial market development, the legal system, and so on — also Supervision is concerned with overseeing play a role in shaping the appropriate approach to compliance with regulation. Most countries regulating a given pension system. have established supervisory agencies to enforce regulation. A supervisory agency that establishes Hinz and Mataoanu (2005) describe two stylized that a retirement benefit scheme is non-compliant models at opposite ends of the possible regulatory with the legal requirement may invoke permitted framework spectrums. The ‘Latin American’ model sanctions to enforce compliances. Supervisory is driven by a mandatory pension system, with profit- agencies are under an obligation to translate the making commercial entities serving as pension law into operational procedures. These procedures providers. Consequently, prescriptive regulatory should be clear and predictable in order to enhance approach has been adopted, with strict licensing confidence. For effectiveness and continuous (including capital) requirements, quantitative stability, the supervisory agency should have investment regulations and preventative sanctions. sufficient flexibility to enable rapid adaptation to the By contrast, the ‘Anglo Saxon’ approach adopted changing risks in the retirement benefits sector — in countries such as the United States (US) and the risks which the regulator may not have anticipated United Kingdom (UK) is based on a trust-based when framing the regulation.4 pension system. In this system, the pension funds are non-profit entities, and are normally sponsored The distinction between regulation and supervision by employers. The regulatory approach is far more is often less obvious in the retirement benefits open, with minimal entry requirements, ‘prudent sector because supervisory agencies continue to be expert’ investment standards, exception-based empowered under the enabling laws to create and remedial actions/ sanctions, and so on. enforce sector regulation. The need to combine creation and enforcement of regulation is premised Pension regulation in the EAC countries falls on the realization that the role of supervisory agencies between these two extremes. The model of several goes beyond enforcing compliance to managing of the systems (except Burundi and Rwanda) risks in the sector, which continue to evolve. comes from an ‘Anglo-Saxon’ heritage (that is, trustee-based, occupational pensions). However, The adoption and effective execution of risk- the lower levels of financial development, industry based supervision5 requires a considerable amount skill and inadequate expertise have understandably of discretion and competence on the part of the 12 | CHAPTER 2: REGULATION AND SUPERVISION OF RETIREMENT BENEFIT SCHEMES IN EAST AFRICA: INTEGRATION OPPORTUNITIES necessitated a more prescriptive approach, although necessarily the same, and not all entities are licensed not to the extent seen in Latin American countries. by all supervisory authorities. Table 2 details the licensed entities in EAC countries. Supervisory Tools Under their respective legislation and regulations, The supervisory process of pension schemes in each partner state has detailed the licensing most EAC member states includes; (i) registration requirements that each licensed entity must and licensing, (ii) monitoring, (iii) analysis, and (iv) satisfy before a license can be issued. Licensing intervention and enforcement. In this regard, they requirements include a variety of factors, such as have tended to follow the International Organization capitalization; competence; fitness and propriety of Pension Supervisors (IOPS) Guidelines on of trustees and senior management of service pension supervision.6 providers; suitability of technical and operational systems; office accessibility and visibility; acceptable business plans; and other requirements as Licensing and Registration the supervisory authority may prescribe in writing. Licensing entails a process of controlling entry of In Uganda, the URBRA Act does not prescribe any schemes and service providers into the retirement capital requirements for service providers. In other benefits market. It is intended to eliminate the risk of countries where capital requirements have been incompetent or unqualified entrants into the system. prescribed, the amounts are not necessarily the same. Licensing enhances the confidence of consumers Rwanda sets the highest academic competence of retirement benefit sector players, especially requirements for trustees before they can qualify for members and beneficiaries of such schemes. a license. Section 53 of the Law Governing Pensions requires that a Board of Trustees comprise persons Although all EAC member states with supervisory with skills in “pensions or social security, finance, authorities license players in the sector, the process insurance, accounting, actuarial science and human differs by country. As such, requirements are not resource management”. Also, trustees in Uganda Table 2: Licensed Entities by Country Entity Kenya Tanzania Uganda Rwanda Mandatory public pension schemes 3 3 3 7 Voluntary occupational pension Schemes 3 3 3 3 Fund managers 3 3 3 3 Administratorsa 3 3 3 3 Custodians 3 3 3 3 Trustees 3 3 3 3 Individual retirement benefit schemes 3 7b 3 7c Source: Authors Note: a Kenya and Uganda do not license in-house administrators. b Members who wish to contribute supplementary savings in Tanzania will do so under the licensed mandatory schemes in which they participate. c In Rwanda, the regulator is mandated to authorize a licensed financial institution that intends to provide personal pension plans. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 13 are licensed. Although the law does not prescribe Generally, supervisory authorities will collect academic qualifications for trustees, applicants for information relating to: the basic scheme a trustee license must undergo a fit and proper test (membership, contributions, benefits, vesting, before they can be properly licensed. and so on); financial information (assets and liabilities including funding status); governance In Kenya, trustees are not licensed. However, the structure (trusteeship and mandate); investment law7 prescribes the suitability criteria for any person information (investment policy statements, proposed to serve as a trustee of a pension scheme. reports) and disclosure policies (communications Under Section 22A of the Retirement Benefits and information sharing). Some of the documents Act, the regulatory authority is required to ensure that supervisory authorities may collect from that a trustee of any other service provider is not schemes and service providers include: trust deed financially insolvent. The proposed trustee should and scheme rules, audited financial statements, also have the requisite education or qualifications returns of records of contributions, investment relevant to the functions and have the ability to carry reports, custody reports, actuarial valuation reports, out the regulated activity competently, honestly and compliance reports and any other information the fairly. In addition, such a person must have a good supervisor may require to assess potential risks to reputation, character, and financial integrity. which the scheme may be exposed. The regulatory authority is also mandated to consider whether the person is fit and proper for the purposes. Analysis Under Section 26 of the same Act, no person shall The collected information is analyzed to determine of being a trustee of a pension scheme if he/she has compliance and the extent of risk exposure before been convicted and imprisoned of a criminal offense appropriate action is applied. The process involves for a term exceeding six months, is bankrupt, was both offsite analysis and onsite inspections. Upon previously involved in the mismanagement of a analysis, supervisory authorities will produce a pension scheme or is disqualified under any other report highlighting the identified risks and possible written law. The regulatory authority has the power risk mitigation recommendations, which a scheme to disapprove of any such person from acting as a will be required to implement to lower the risk. trustee. The report shall be provided to the scheme or service provider, as the case may be. The process of analyzing scheme compliance and risk is Monitoring complicated, and it requires skilled personnel to All supervisory authorities have been mandated effectively execute the function. An analysis may to supervise and regulate the sector. Effective be carried out to cover the following potential risks: supervision requires a process of monitoring • Compliance checks (specifically, compliance entailing: (i) information gathering; (ii) enforcing with the law, funding regulations, investment reporting requirements; and (iii) exercising the guidelines, service providers, administration power to ask for more information as need be. costs, statutory returns, and so on); Information gathering as a process of supervision varies from country to country. In Tanzania, the • Financial checks (financial management, supervision of pension scheme financial matters solvency requirements, and so on); is vested in the Bank of Tanzania. Thus, there is • Governance checks (suitability of the board, a joint supervisory activity in Tanzania relating to disclosures to members, meetings, appointment pension fund investments, as well as other matters of service providers, and so on); pertaining to the finances of the scheme. 14 | CHAPTER 2: REGULATION AND SUPERVISION OF RETIREMENT BENEFIT SCHEMES IN EAST AFRICA: INTEGRATION OPPORTUNITIES • Operational checks (contribution receipts, benefit administrator to take over responsibilities of payments made on time, and dispute resolution any retirement benefit scheme in the following effectiveness); instances: (i) in case the scheme or service provider fails to comply with the law; (ii) if the governance • Disclosure checks (disclosure of information, and operations structure may jeopardize the pension for example, trustee allowances, information scheme and its members; (iii) if the pension scheme accessibility, member handbooks, and benefits or service provider is engaged in risky or unlawful statements); and practices, such as money laundering or terrorist • Performance checks (investment performance, financing; (iv) in case the scheme or service provider compliance with investment policy, investment hinders the supervisory activity; (v) in order to returns, custody returns, and so on). restore confidence in the sector and the financial system as whole; and (vi) if trustees fail to submit audited financial statements to the supervisor, or Intervention and Enforcement submit false or misleading financial statements.11 Supervisory agencies have powers under their The special administrator shall investigate and take respective laws to take remedial measures against control of the pension scheme or service provider a retirement benefit scheme or service provider and assume the functions of the scheme or service for any failure to comply with the law, regulation provider. The special administrator shall assume or issued guideline. There is commonality of the role of a statutory manager and interim trustees intervention and enforcement powers given to these for the purposes limited to the appointing order. agencies. The power to issue directives to regulated entities to mitigate risk after an analysis or issue Interventions of supervisory agencies are intended supervisory guidelines applies to all supervisory to protect the interests of members and beneficiaries bodies in the region8. In extreme cases, these by enforcing compliance and mitigating any risks agencies may prosecute any person who engages in to which the scheme or service providers may unlicensed activities, or who misleads or deceives be exposed. It is good practice for supervisory the public with regard to the services purportedly agencies to communicate clearly with the entities offered — or by refusing entry of any external they oversee, appropriately using and applying auditor to carry out audit services.9 their enforcement tools (for example, through the publication of an Enforcement Pyramid; see In cases where a retirement benefit scheme or Figure 9). Indeed, using their powers proportionally service provider misleads the regulator with false is one of the IOPS Principles. It is also an important documents pertaining to their application for element in building the confidence and trust of registration, or where the scheme is terminated or supervisory entities, helping them to operate dissolved, or in case the scheme fails to comply effectively. with the law, supervisory agencies are possessed of statutory powers to cancel the registration certificate or license. As a result, the operations of Supervisory Approaches the regulated entity will cease.10 The law of natural As with the regulatory framework, Hinz and justice requires that before a license is revoked, an Mataoanu (2005) describe how supervisors adopt affected entity will be given sufficient notice to make different approaches and use their supervisory representations against the intended revocation. tools to varying extents and degrees of intensity (see Figure 10). These again are driven by the nature Another intervention supervisory agency may opt of the pension system and the country in which for the appointment of a special administrator. the supervisor is operating. For example, ‘Anglo- Supervisory agencies may appoint a special Saxon’ countries with a high level of economic PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 15 Figure 9: Enforcement Pyramid PUNITIVE z Impose fine SANCTIONS zRevoke license z Replace directors Court action z z Freeze assets z Replace external service providers PROTECTION z Issue directions to management ENFORCEMENT z Acceptance of court enforceable actions z Formal written warning z Informal verbal warning z Conduct on-site investigations PROTECTION z Hold informal meetings with relevant parties INTERVENTION z Request information from relevant parties Source: IOPS Toolkit. Figure 10: Stylized Mapping of Pension Supervision Approaches Restrictive Open Pro-Active Reactive Comprehensive Exception Based Directive Negotiated Corrective Deterrent Source: Hinz and Mataoanu (2005). 16 | CHAPTER 2: REGULATION AND SUPERVISION OF RETIREMENT BENEFIT SCHEMES IN EAST AFRICA: INTEGRATION OPPORTUNITIES development, deep financial markets and a strong unique pension systems in the respective EAC rule of law could apply a far lighter supervisory member states. For example, the supervisors in touch than was traditionally the case in Latin Kenya and Uganda have many schemes to oversee. American countries, where such conditions did This leads to more analysis and monitoring and not apply. fewer on-site inspections than would be the case in countries with a lower number of funds. However, The study describes the extent to which the enforcement needs to be relatively strong due different supervisory tools are subsequently used. to their nascent level of economic development For example, the Australian supervisor (operating and the lesser degree of protection expected from in a classic ‘Anglo-Saxon’ environment) relies financial market competition. heavily on analysis, with little intervention and correction. By contract, the Chilean supervisor As noted, supervision involves the implementation (in an archetypal Latin American context) of regulations. With the exception of Burundi utilizes intervention techniques far more heavily and South Sudan, all other EAC member states (Figure 11). are members of the International Organization of Pension Supervisors (IOPS12). Members of IOPS The supervisory approach of the EAC supervisors have tended to adopt agreed principles for pension differs by country and is, again, somewhere supervision. As such, the supervisory approach between these extremes. The supervisory process standards in the retirement benefits sector are adopted by Kenya, Rwanda, Tanzania and Uganda gradually converging. The approach emphasizes risk is similar, as reflected in their respective enabling management more strongly than mere compliance legislation. Despite these similarities, there are with statutory provisions. With the ongoing EAC differences in supervisory processes reflecting the regionalization efforts in the financial sector, Figure 11: Use of Supervisory Tool in Selected IOPS Member Countries 5 4 3 2 1 0 Australia USA Ireland Hungary Mexico Chile Argentina Hong Kong Licensing Monitoring Analysis Intervention Correction Communication Source: Hinz and Mataoanu (2005). PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 17 Table 3: Structure of IOPS Members Semi-Integrated Integrated Specialized Pension (Pensions + Insurance (Non-bank Financial Central Bank Ministry Supervisor /or Capital Markets) Institutions) Kenya North Macedonia Botswana Rwanda Jordan Tanzania Morocco Albania Czech Republic Spain Uganda Mozambique Austria Hungary Turkey Brazil Portugal Gurnsey Kazakhstan United States Canada Ukraine Belgium Kosovo Chile Zambia Bulgaria Lesotho Colombia Zimbabwe China Lithuania Costa Rica Egypt Malawi Dominican Republic France Netherlands Ghana Germany Papua New Guinea India Gibraltar Russian Federation Ireland Honduras Serbia Italy Iceland Suriname Nigeria Indonesia Trinidad and Tobago Peru Isle of Man United Kingdom Israel Jamaica Lichtenstein Luxembourg Maldives Malta Mauritius Namibia Poland Source: IOPS. Note: For the full IOPS membership list, see http://www.iopsweb.org/membership/iops-members-observers.htm. Membership is categorized based on this list. It should be noted that this was not checked with the IOPS or the membership. Consequently, some reclassifications may be merited. 18 | CHAPTER 2: REGULATION AND SUPERVISION OF RETIREMENT BENEFIT SCHEMES IN EAST AFRICA: INTEGRATION OPPORTUNITIES it is expected that both regulation and supervision whether the regulator intended under the newly systems will, to a large extent, become harmonized. enacted pension law will continue to be the National Bank of Rwanda. Supervisory Structures13 It is important to note that the laws establishing The structure of the supervision agencies themselves supervisory authorities in the EAC provide specific has also become a topic of global debate. Pension objectives for these authorities. Although similar supervision can either be handled by a stand-alone in certain respects, they are different in others. agency, or it can be combined with the insurance and/ For example, in Kenya, the RBA is mandated or capital markets oversight. Alternatively, pension to:14 regulate and supervise the establishment and supervision can be managed by an integrated management of schemes; protect the interests of financial sector supervisory agency. Central Banks members and sponsors of schemes; promote the sometimes undertake this role, whilst occasionally, development of the retirement benefits sector; it is still housed within a Ministry (Table 3). advise the Minister on the national policy to be followed with regard to schemes and to implement There is often a debate around which structure is all government policies relating thereto; and ‘optimal’. Again, the answer is partly driven by the perform such other functions as are conferred on it nature of the pension system. In Kenya and Uganda, by the Act. there are a large number of occupational, trust-based schemes. As such, it can be argued that a separate In Uganda, the URBRA’s is mandate to: supervise regulator is justified as these are quite different and regulate the establishment, management and structures than other types of financial products. operations of retirement benefit schemes; protect However, the IOPS concludes that communications the interests of scheme members and beneficiaries; and cooperation within and between regulators is provide various functions to the sector including, more important than the agency structure. licensing, approving the scheme auditor and actuary; carrying out awareness campaigns; promoting With the exception of Burundi and new entrant, the development of the sector and financial sector South Sudan, all other EAC partner states have security; and ensuring that the sector is sustainable. established institutions mandated to supervise the The URBRA is also mandated to advise the minister retirement benefits sector. Kenya, Tanzania and on the national policy relating to the sector, as well as Uganda all have separate pension (social security) implementation of the government’s sector policy. supervisory agencies. In 1997, Kenya established the Retirement Benefits Authority (RBA). Tanzania In Tanzania, the SSRA Act provides the supervisory established the Social Security Regulatory Authority authority with powers to: register, regulate and (SSRA) under the provisions of the Social Security supervise, including monitoring the performance Regulatory Act of 2008. The Uganda Retirement of managers, custodians, administrators and Benefits Regulatory Authority (URBRA) was schemes; issuing guidelines under the Act for the established in 2011 under the URBRA Act. efficient and effective supervision of the sector; protecting the interests of members of schemes; The Law Governing Pensions in Rwanda initiating studies, recommending, coordinating and establishes a pension regulator, although under implementing sector reforms; carrying out sector the law governing the National Bank of Rwanda, awareness campaigns and sensitization; facilitating the bank is mandated to supervise social security extension of coverage; where necessary, appointing institutions and pensions. It remains to be seen interim administrators for schemes; and advising PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 19 the minister on policy and operational matters Conclusion relating to the sector. The regulation and supervision of the pension sector In Rwanda, the Law Governing Pensions provides is an important task in any country. However, the a regulatory framework for pension schemes, but oversight of the sector is particularly important in not the operations of the Authority. However, the developing economies where pensions represent a Law outlines the functions of the pension regulator, large portion of the savings in the country and impact including: establishing rules under the principle vulnerable individuals. To operate effectively, law; enforcing compliance under the Act; revoking the broad principles of pension regulation and activities inconsistent with the law; and collecting supervision need to be suitably adapted to the information from sector players to enable effective context of the pension system, the financial markets supervision. and other specific country contexts. Thus, the mandates of the respective authorities Devising a robust regulatory framework and building relate to licensing, regulation by issuance of supervisory capacity takes time. The supervisory guidelines, supervision, protection of interests, authorities tasked with these functions in the EAC sector development and provision of advice to the are relatively new, and are still developing the tools government. There are differences though regarding they need, learning how to employ them effectively. licensed entities and protection of interests. The Some, notably the RBA in Kenya, have already mandates of the URBRA, the SSRA and the made great strides. They have adopted and indeed RBA are largely similar, except that in Kenya the are helping to share international good practice. Yet protection of interests in the sector relate to both for all the authorities in the region, continuing on the employer and the employee, whereas in Uganda this journey and learning from each other and from and Tanzania, the URBRA and the SSRA are not international good practice will be vital to building mandated to protect the interests of employers who the robust pension systems which the population establish the retirement benefit schemes. needs. 20 | CHAPTER 2: REGULATION AND SUPERVISION OF RETIREMENT BENEFIT SCHEMES IN EAST AFRICA: INTEGRATION OPPORTUNITIES CHAPTER 3 TAX TREATMENT OF RETIREMENT BENEFITS IN EAST AFRICA: A CROSS- COUNTRY COMPARISON OF POLICIES ‑ Dr. Winifred Tarinyeba Kiryabwire ‑ Introduction part of the employment contract. However, beyond the employment relationship, retirement benefit A variety of factors have influenced tax policy in funds — more commonly referred to as pension the EAC, including social, economic, and political funds — have an economic function. They are considerations. These are reflected in the nature, an important source of long-term capital for structure and impact of the tax system. This investment.17 Traditional sources of finance, such chapter presents an analysis of the tax treatment of as bank finance, are not suitable for long-term retirement benefits in East Africa. It demonstrates investment. In addition, in the major economies that although there are common elements in the of the world, pension funds constitute a significant treatment of contributions toward retirement portion of institutional investors. These investors benefits, there are significant variations in the tax play a key role in the functioning of financial treatment of retirement benefit investments, as well markets, including financial intermediation, as in the payment of retirement benefits. investment analysis and governance.18 This chapter identifies similarities in the treatment of Financial markets in low-income economies such employer and employee contributions to retirement as Uganda are often shallow, dominated by bank benefits, except for Kenya which applies territorial finance, with very limited sources of long-term qualifications to employer contributions that have finance. There are many factors that constrain implications for economic integration. These the development of long-term capital, including differences are a result of retirement benefits in macroeconomic factors, low levels of savings, and Kenya rooted in a constitutional socio-economic the absence of policies to support the eco-system rights construct that is different from other East for long-term savings. This chapter will analyze the African countries where the fiscal regime is aligned tax policies and laws governing retirement benefits with the economic role of pension and retirement in selected East African countries (Kenya, Rwanda, benefits. The differences have implications for Tanzania and Uganda). institutional domestic capital mobilization, cross- border economic activity, and particularly for the free movement of labor, portability of retirement benefits Fiscal Regimes for Retirement and cross-border investments by pension funds. Benefits The term “retirement benefit” is broad and includes The taxation of retirement benefits varies across pension, provident and other arrangements to jurisdictions. Governments make various policy provide post-employment income to people. The considerations in arriving at a fiscal regime for most common form of retirement benefits are retirement benefits. Fiscal regimes for retirement occupational pension schemes that may be either benefits can be categorized variously depending defined contribution15 or defined benefit schemes.16 on the tax treatment of contributions, investment In the labor law context, retirement benefits form income and pay-outs. These can either be taxed PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 21 (T) or exempt from tax (E). Therefore, it may be investment income of pension funds or at pay- a TTE (contributions and investments taxed, with out. If investments perform poorly, the pension pay-outs exempt), ETT (contributions exempt, with fund may earn less revenue or even suffer investment and pay-outs taxed), EET (contributions losses — with less taxable revenue. In addition, and investments exempt, with pay-outs taxed), or since pay-outs are usually made at the time the TEE (contributions taxed, income exempt, with contributor retires, the value of pay-outs may be pay-outs taxed). Alternatively, all 3 categories affected by inflation and other factors. can be either exempt (EEE) or taxed (TTT). This • Concerning the EET system, the employee categorization has wide-ranging implications, and employer contributions toward retirement including impacts on disposable income, the benefits and the income from the pension fund development of long-term contractual savings and investments are both exempt from tax. However, capital and financial market development. the pay-out to the individual is subject to tax. In • TTE is used to describe a system of tax, whereby East Africa, only Kenya has an EET fiscal regime. the first T represents the tax treatment of the The EET is widely used among European Union income of an individual or entity making the (EU) countries and is considered appropriate contribution toward the retirement benefit. It for encouraging savings toward retirement. The refers to a situation where the contribution is not exceptions are Denmark, Italy and Sweden which exempt from income tax. The second T applies have ETT regimes. to taxation of income from retirement benefit • With respect to TEE systems, employer and investments. The E refers to the exemption of employee contributions toward retirement retirement benefit payments from tax, that is, benefits are subject to income tax. However, the pay-out to the individual. Some jurisdictions pension fund investment income and pay-outs such as Uganda treat the employer and employee to contributors/retirees are exempt from tax. contribution differently for tax purposes. As Examples of TEE countries are Rwanda19 and such, for purposes of the income of an employee, Luxembourg. Uganda and Tanzania are TTE countries because an employee’s contribution toward pension/ Each of the four fiscal regimes have advantages and retirement benefits is not an allowable expense, disadvantages, ranging from impact on disposable and the income of the pension funds is not tax- incomes, to building up savings and the cost of exempt. However, the payments from pension doing business. Uganda has a TTE system that has funds to individuals/retirees are tax-exempt. its roots in the country’s Constitution. Retirement • An ETT is a system in which the income tax benefits form part of the socio-economic safeguards paid by an individual is computed on income, for citizens in Uganda. In this respect, Principle XIV excluding contributions made toward retirement of the National Objectives and Directive Principles benefits, that is, contributions are exempt from of State Policy states that: tax. In this case, the income from retirement benefit investments and pay-out to individuals The State shall endeavour to fulfill the fundamental are both subject to tax. An ETT system of rights of all Ugandans to social justice and economic taxation allows employers and employees to treat development and shall, in particular, ensure that— the contribution toward retirement benefits as a deductible expense. This may serve as a carrot • all developmental efforts are directed at ensuring and encourage higher compliance with statutory the maximum social and cultural well-being of obligations in relation to employee retirement the people; and benefits. However, in relation to employee • all Ugandans enjoy rights and opportunities and income, it reduces the tax base and tax revenue access to education, health services, clean and safe that may not be realized at the time of taxing 22 | CHAPTER 3: TAX TREATMENT OF RETIREMENT BENEFITS IN EAST AFRICA: A CROSS-COUNTRY COMPARISON OF POLICIES water, work, decent shelter, adequate clothing, In terms of which type of regime is preferable, the food security and pension and retirement benefits. generally accepted view is as follows: “… on the whole, the most satisfactory principle Article 254 (2) of the Constitution of Uganda to adopt in designing suitable tax regulations provides the constitutional basis for the TTE fiscal is to exempt from taxation the cost of building regime. Specifically, it states that the pension up pensions and similar benefits and to tax payable to any person shall be exempt from tax. This the benefits when they become payable.” explains why the payment of retirement benefits for (Institute and Faculty of Actuaries 1951). both private and public schemes is exempt from tax. The implications of a TTE system are wide- ranging and include the following: Tax Treatment of Contributions • The contribution by the employee is not an toward Retirement Benefits allowable deduction for purposes of computing The example of occupational pension schemes the employee’s chargeable income. This reduces helps to explain the tax treatment of contributions disposable income for employees. toward retirement benefits. Kenya, Rwanda, • A TTE system discourages voluntary pension Tanzania and Uganda have historically had defined arrangements for those not covered under a benefit public service pension schemes for civil mandatory pension system, as well as those who servants, as well as defined contribution schemes may wish to contribute to voluntary arrangements for employees in the private sector and some public over and above the mandatory contributions. sector institutions. • In an environment of less than optimal All four East African countries have laws that compensation arrangements, particularly in govern private sector pension schemes. In Uganda, the public sector and a large part of the private the National Social Security Fund Act, Cap. 222, sector, the taxation of employee contributions is established the National Social Security Fund. a disincentive to savings. Employers of eligible employees are mandated • Taxation of the investment income of the pension to make monthly remittances comprised of both may stifle growth of pension assets, which are a the employer (10 percent) and the employee critical source of long-term institutional finance (5 percent) contributions. In Tanzania, the in an economy. National Social Security Fund Act No. 2 of 1997 established the National Social Security Fund. The • This system is prone to defaults and high rates of Fund is mandated to receive contributions from non-compliance by employers who may under- both the employer (15 percent) and the employee declare the number of employees or fail to remit (5 percent) for all self-employed, private sector contributions. and non-pensionable employees in government • Taxation of investment income of pension funds service and parastatal organisations. In Kenya, increases the operational costs and ultimately the National Social Security Fund Act Cap. 258 decreases the funds available for distribution established the National Social Security Fund. to beneficiaries. In an environment of Employers of eligible employees are required to macroeconomic instability and other economic remit contributions comprised of both employer shocks, the value of the pay-outs to beneficiaries and the employee contributions. In Rwanda, Law is significantly reduced. No. 45 of 2010 established the Rwanda Social • A TTE system may be a disincentive to provision Security Board whose mandate includes managing of retirement benefits, and some analysts have contributions to the Fund. historically been critical of a system that taxes the “build up” of pensions, that is the contributions and investment income. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 23 Employer Contributions toward Section 22 (1) (a) of the Act permits the deduction Retirement Benefits for Employees of expenses and losses incurred during the year of income to the extent to which they were incurred Employer contributions in the traditional public in the production of income included in gross sector are not subject to any tax considerations income. Using Stanbic Bank as an example, the because they are usually non-contributory and are income statement for the year ending December appropriated through the national budget. Public 31, 2017 stated that employee benefit expenses sector employers in the non-traditional public amounted to Uganda shillings 141,491,545,000 — service are required to contribute toward the of which 23,454,963,000 constituted contributions retirement benefits of the employee. However, the to statutory and other defined benefit plans.21 contribution has no tax implications since these agencies are not subject to income tax (except Therefore, although not expressly stated, employer for income earned from investments) in the same contributions toward the retirement benefits of an manner as private sector organizations. The employee are expenses incurred in the production of retirement benefit obligation is met out of budgetary the employer’s income. Prior to 2005, a contribution allocations from the consolidated fund.20 Therefore, or similar payment made to a retirement fund either the analysis will focus on the tax treatment of for the benefit of the person making it or for another employer and employee contributions in the private person was not an allowable deduction for income sector. Table 4 provides a summary of employer tax purposes. This meant that the employer’s contributions in East Africa. contribution was not an allowable deduction. However, following the 2005 Amendment to the The contribution by the employer is a cost for the Income Tax Act, the employer’s contribution is employer. Except for tax exempt organizations, an allowable deduction. This is because only the employers are expected to pay tax on their income. employee’s contribution has been retained in the In Uganda, Section 4(1) of the Income Tax Act, category of deductions that are not permitted for Cap. 340 is the charging provision for income tax. purposes of assessing income tax.22 Sub-section (2) provides that subject to sub-sections (4) and (5), the income tax payable by a taxpayer Other jurisdictions that treat the employer’s for a year of income is calculated by applying the contribution as an allowable deduction include relevant rates of tax as determined under the Act Kenya, Rwanda, South Africa and Tanzania (PWC to the chargeable income of the taxpayer for the 2015). In Kenya, Section 15(2)(0) of the Income year of income. From the resulting amount, any tax Tax Act of 2014 expressly provides for employer credits allowed are subtracted to the taxpayer for contributions as an allowable deduction. In the year of income. Tanzania, the treatment of employer contributions Table 4: Employer Contribution Level by Country Country Employer Contribution (Percentage) Uganda 10 Kenya 5 Tanzania 15 Rwanda 5 Source: Regulatory Authorities 24 | CHAPTER 3: TAX TREATMENT OF RETIREMENT BENEFITS IN EAST AFRICA: A CROSS-COUNTRY COMPARISON OF POLICIES is inferred from Section 11(2) of the Income Tax Section 15(2)(o) of Kenya’s Income Tax Act Act. It provides the general principle for allowable only treats the employer’s contribution as an deductions. Specifically, it states that for purposes allowable deduction where it is paid to a national of calculating a person’s income for a year of provident fund or other retirement benefits scheme income from any business or investment, there established for employees throughout Kenya. shall be deducted all expenditures incurred during Rwanda, Tanzania and Uganda do not have specific the year of income by the person wholly and provisions regarding the tax treatment of the exclusively in the production of income from the employer’s contribution. As stated earlier, this is business or investment. In Rwanda, Article 19 of inferred from the general provisions on allowable the Law establishing taxes on income states that expenses. The provisions do not have domestic business profits are determined as the income or territorial restrictions. Therefore, in Kenya from all business activities reduced by all business contributions to a foreign retirement benefits expenses. In addition, Article 25 which provides scheme — including one in any other East African for deductions from taxable income states that in country — are not an allowable expense. This determining profits, expenses incurred for the direct undermines regional integration and particularly purpose of the business and directly chargeable the freedom of movement of labor. This has been to income are allowed. Therefore, similar to the an issue of concern among some European Union situation in Uganda and Tanzania, the tax treatment member states.25 of the employer’s contribution toward employee retirement benefits is inferred from both Articles 19 and 25. Employee Contributions It is interesting to note that within East Africa, The treatment of employer contributions in Kenya, there is considerable variation regarding the tax Rwanda, Tanzania and Uganda is in line with global treatment of employee contributions. Rwanda, practice. Jurisdictions such as the United Kingdom Tanzania and Uganda do not treat the employee take a similar approach, whereby employer contribution as an allowable expense for purposes contributions are treated as an allowable deduction of calculating employee taxable income. In Kenya, provided it is paid wholly or exclusively for the Section 67 of the National Social Security Fund Act employer’s trade or business.23 No. 45 of 2013 provides that contributions to the pension fund form part of tax-deductible expenses The tax treatment of employer contributions, in the computation of taxes payable by the person particularly for employers in the private sector or the employee under any relevant law applicable whose income is subject to income tax, has several to income tax. The effect of this provision is that, advantages. It eases the cost of doing business for subject to territorial qualifications, it exempts both employers since the contribution is an allowable employer and employee contributions. However, expense. For employers who are not subject to except for thresholds below which an employee is mandatory retirement benefit arrangements, it may permitted to treat the contribution as exempt, the be an incentive to consider retirement benefits for Income Tax Act only provides tax relief in respect their employees. Additionally, it may encourage of the employer’s contribution by virtue of Section employers to contribute towards retirement benefit 15 (2)(0). Section 16(2)(d) expressly states that arrangements — over and above the mandatory the employee contribution is not an allowable arrangements which contribute to domestic savings deduction. Table 5 illustrates the variations in mobilization. Some scholars attribute growth in selected countries within East Africa. pension plans in jurisdictions such as the United States to favorable tax treatment of pensions, among other factors.24 PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 25 Table 5: Employee Contribution by Country Employee Country Comment Contribution The employer contribution is exempt, but the employee contribution is taxable. Section 22 provides for allowable expenses in deriving income. However, sub-section Uganda 5% (2) prohibits certain expenses including: (i) a contribution or similar payment made to a retirement fund by the employee either for the benefit of the employee or any other person; and (ii) the amount of a pension paid to any person. Employer contributions are exempt and employee contributions are generally taxable, ab except for contributions in respect of income which, prior to payment of Kenya 5% bonus and overtime allowances, does not exceed the lowest tax band provided for under Head B of the Third Schedule of the Income Tax Act.c Law No. 16 of 2018 regarding Establishing Taxes on Income provides for exempt employment income, stating that the following are not included in the calculation of taxable employment income: Rwanda 3% 2° Contributions made by the employer for the employee to the public institution in charge of social security; 3° Pension payments from the public institution in charge of social security or from a qualified pension fund. Employee contributions are considered taxable income,d and only contributions Tanzania 5% under the Public Service Retirement Benefits Act are exempt.e Source: Regulatory Authorities Note: a Section 15 of the Income Tax Act of 2014 provides for allowable deductions for purposes of ascertaining income. Sub-section (2)(0) permits the deduction of any sum contributed in the year of income by an employer to a national provident fund or other retirement benefits scheme established for employees throughout Kenya by the provisions of any written law. b Section 16 of the Income Tax Act of 2014 provides for deductions that are not allowed. It specifically states in sub-section (2) that notwithstanding any other provision of this Act, no deduction shall be allowed in respect of – (d) sums contributed to a registered or unregistered pension, savings, or provident scheme or fund, except as provided in section 15(2)(o), or any sum paid to another person as a pension. c Section 16 of the Finance Act No. 38 of 2016. d Section 7(2) of the Income Tax Act, Cap. 332 of 2008 provides that subject to the provisions of subsection (3), (4) and (5), in calculating an individual’s gains or profits from an employment for a year of income, retirement contributions and retirement payments shall be included. e Section 7(3)(h) of the Income Tax Act, Cap. 332 of 2008 excludes retirement contributions and retirement payments exempted under the Public Service Retirement Benefits Act from computation of employment income under section 7. The rationale for exempting employer contributions, • The employer’s contribution is considered a cost, but taxing employee contributions is unclear. whereas the employee’s contribution is income In jurisdictions such as the United Kingdom, and therefore subject to tax. contributions by the employer and the employee • It is easier to tax the employee at the time of are tax-exempt provided they do not exceed the earning the income than at the time of receiving prescribed limits (Maas 2015). The following may the retirement benefit. In particular, it avoids the have informed the distinction in tax policy between adverse effects of taxation on pay-outs to retirees. employer and employee contributions: 26 | CHAPTER 3: TAX TREATMENT OF RETIREMENT BENEFITS IN EAST AFRICA: A CROSS-COUNTRY COMPARISON OF POLICIES • Including the employee’s contribution in the amounted to Uganda Shillings 6.6 trillion in 201627, calculation of an employee’s income increases which was invested in a wide range of investments the chargeable income, thereby increasing tax including equity securities, investment securities, revenue for the government. loans and advances and investments in associates, among others.28 In the financial year ending June 30 • The government can collect taxes on a high base 2016, the NSSF’s major sources of revenue were (high chargeable income) over the working period interest, rental, and dividend income.29 Income tax of the employee as opposed to an uncertain base expenses amounted to Uganda shillings 102,331, (pay-out) at retirement. 080,000 in relation to the withholding tax deducted at source. For the same period, no income tax was The Tax Treatment of Pension Fund charged to the fund because it accumulated trading Investments losses amounting to Uganda shillings 819 billion. “The general principle is that pension funds suffer The Makerere University Retirement Benefits no liability to income tax or corporation tax…” Scheme (MURBS) had an income tax charge (Ellison 2008, p. 156). amounting to Uganda Shillings 2,556,322,000 for the period ending June 30, 2017.30 Discussions regarding the tax treatment of pension fund income tend to focus on the investment In Kenya, the income of a registered pension scheme, income of pension funds, and particularly whether pension fund, provident fund, individual retirement the income is subject to or exempt from income tax. fund and the National Social Security Fund are all However, there are other activities that should be of exempt from income tax.31 In addition, Section 65 concern in relation to pension funds. These include of the National Social Security Fund Act exempts the tax treatment of gains pertaining to the disposal the National Social Security Fund from stamp duty. of pension fund assets, particularly capital gains It is not clear whether following the liberalization tax, as well as taxes such as value-added tax (VAT) of the pension sector in Kenya, the stamp duty and other charges, such as the stamp duty, that may exemption was extended to other pension funds. apply to pension fund transactions. However, Section 117 of the Stamp Duty Act provides for various exemptions from stamp duty The TTE and ETT fiscal regimes tax income earned that include asset classes to which pension funds from pension fund investments. Other regimes, typically invest, such as transactions on the Nairobi including the EET, the TEE and the EEE exempt Securities Exchange. In the United Kingdom, pension fund investments from tax. Both Uganda stamp duty is considered one of the disadvantages and Tanzania tax the income of pension and compared to their European counterparts. This retirement benefit schemes, whereas in Rwanda accounts for the decision to domicile certain types and Kenya, the income of qualified pension funds of funds in Luxembourg or Ireland (Ellison 2008). is exempt from tax. In Tanzania, income from retirement funds is In Uganda, Section 8(4) of the Income Tax Act, Cap. subject to the applicable rules on taxation of 340 states that the chargeable income of a retirement income under the Income Tax Act.32 However, for fund for a year of income is charged to tax at the purposes of ascertaining the income of a retirement rate prescribed in Part III of the Third schedule to fund, the Act makes a distinction between the Act.26 Private sector pension schemes such as the approved and unapproved retirement funds. An mandatory National Social Security Fund (NSSF) approved retirement fund is defined in Section 3 and other private pension funds invest the funds of the Act as a resident retirement fund having a they collect and the income earned is also subject ruling under Section 131 of the Act. Contributions to income tax. For example, the NSSF fund size received by an approved fund are not considered PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 27 income of the fund, and retirement payments made services connected and incidental to pension fund are not deductible expenses or liabilities of the investments, such as investment management and fund.33 Unapproved funds are required to include brokerage services. This has historically been an contributions received in computing income.34 issue in other markets such as the United Kingdom (Ellison 2008; Maas 2015, p. 293). In Uganda, the In Rwanda, Article 46 of the Law No. 16 of 2018 on Value-Added Tax Act does not specifically exempt Direct Taxes on Income exempts qualified pension these services from tax, but it can be inferred from funds and public institutions in charge of social the second schedule of the Act that some services security from income tax. A qualified pension fund fall within the category of exempt services, in is defined under Article 2 as any fund established particular those that are considered financial according to Rwandan laws, operated for the services.35 In Kenya, VAT-exempt services are listed principal purpose of providing pension payments in the third schedule to the VAT Act, and include to residents in the country, that has effective services dealing with bonds, debentures, treasury management in Rwanda at any time during the bills and other securities.36 These constitute some tax period. of the pension fund investments. In Rwanda, the transfer of shares and capital market transactions It is evident from this discussion that in Tanzania for listed securities are exempt from VAT.37 In and Uganda, the investment income of pension Tanzania, the supply of financial services is among funds is subject to income tax, whereas in Kenya and the services exempt from VAT.38 Rwanda, it is exempt. The taxation of investment income of pension funds increases the operational costs, and ultimately decreases the funds available The Tax Treatment of Retirement for distribution to beneficiaries. In an environment Benefits Paid to Contributors of macroeconomic instability and other economic “Tax provision plays a key direct or indirect role in shocks, the value of pay-outs to beneficiaries/ influencing payout options. Cross country evidence retirees is significantly reduced. is varied but suggests that there is often an unequal tax treatment of the various forms of retirement In the United Kingdom, registered pension schemes payout options.” (Antolin, Pugh and Stewart 2008, are exempt from income tax on investment income, p.3). underwriting income and capital gains tax (Ellison 2008; Maas 2015, p. 293). A fiscal regime that In Uganda, retirement benefit payments are exempts pension fund investment income from exempt from tax by virtue of Article 254(2) of the tax allows for tax neutrality between institutional Constitution. In addition, pension and lump sum and retail investments. As such, it is an incentive payments by retirement funds are exempt from for the development of institutional vehicles, tax.39 In this regard Uganda differs from its East such as pension funds, to participate in financial African counterparts. Possible explanations for this markets. Major financial markets are dominated include the following: by institutional rather than retail investors. Controlling for adverse economic effects, fraud and • For both defined benefit and defined contribution mismanagement — which may affect the value of schemes, an individual expects to receive their pension funds — income tax exemption may allow pension after a long period of service. The for increased pay-outs, which may or may not be retirement age in Uganda is 60 years of age. subject to tax. Assuming a continuous period of employment from the time of university graduation at about Another issue in relation to pension fund age 23, this is a period of 37 years. Considering investments is the tax treatment of and, in Uganda’s history of political and economic particular, the application of the value-added tax on turbulence characterized by macroeconomic 28 | CHAPTER 3: TAX TREATMENT OF RETIREMENT BENEFITS IN EAST AFRICA: A CROSS-COUNTRY COMPARISON OF POLICIES instability, it is possible for the value of pension business and investment, less any reduction relating payments to be affected by inflation, with attendant to contributions to an approved retirement fund. poor returns on investment. Therefore, taxation Retirement benefit income is neither expressly of pay-outs would significantly disadvantage included in the chargeable income of an employee retirees and perhaps discourage pension plans. in Section 7(2) nor from the allowable deductions in Section 7(3). It is also not expressly stated • In the absence of meaningful social protection as exempt income or an allowable deduction. schemes for the elderly, taxation of pensions Therefore, it can be inferred that income received is likely to engender poverty as it reduces the from retirement benefits is not subject to tax. In income of retired individuals who may not have addition, for unapproved retirement funds, the Act any other source of income. exempts payments that constitute a gain45 from an • The government has for several years been interest in the fund for resident funds, but not for unable to fully meet its public pension scheme non-resident funds.46 obligations. Thus, taxation of pension payments would be detrimental to the recipients. In Rwanda, pension payments from a public institution in charge of social security or from In Kenya, a pension, charge or annuity and any a qualified pension fund are exempted from withdrawal or payment from a registered pension or income tax.47 provident fund is subject to income tax.40 However, Section 8 imposes thresholds for various retirement benefit payments, the effect of which is that any Conclusion payments below those thresholds are not taxable. This chapter has demonstrated that in the four East Therefore, the following payments are exempt: African countries of Kenya, Rwanda, Tanzania • Annual pension and retirement annuities and Uganda (where the pension systems are received by an individual from a pension fund or more developed), the tax treatment of employer the National Social Security Fund that are below contributions toward the retirement benefits Kenya Shillings 150,000;41 of employees is similar and in line with global practice. In addition, except for minor variations in • A lump sum commuted from a registered pension Kenya, the tax treatment of employee contributions fund that is below Kenya Shillings 360,000;42 is also similar. In this regard, the fiscal regime is • Payments as a result of withdrawal from a neutral and does not create any distortions in the registered pension fund or termination of labor market within the context of the East African employment that are not in excess of Kenya Community. Shillings 36,000 per full year of pensionable service or a total of Kenya Shillings 360,000;43 However, there are considerable variations in the and tax treatment of pension fund investment income and pay-outs. The position in Kenya and Rwanda • Lump sum payments from a registered or in relation to pension fund investment income is deemed provident fund that are not in excess of aligned with the practice of major financial markets Kenya Shillings 240,000, or the first 24,000 per that exempt pension fund investment income year of pensionable service, or all benefits based from tax. on amounts accumulated in a fund as of December 31, 1990.44 The differences in the tax treatment of investment income and pay-outs have implications for cross- In Tanzania, Section 5 of the Income Tax Act border investment of pension funds. These defines total income for a person for a year of differences are likely to force pension funds to income as chargeable income from employment, invest in domestic markets or only those markets PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 29 with favorable tax treatment, or to selectively As the individual countries within East Africa contribute to investments that have favorable tax position themselves to transition to middle-income treatment. Kenya, Rwanda and Uganda permit economies and collectively prepare for economic pension funds to invest in assets within the region integration at the East African and continental as if these were domestic investments, as well as in level, it is important to understand the economic foreign markets within prescribed limits.48 role of retirement benefits and ensure that policies and legal frameworks are aligned and support the Access to foreign markets allows pension funds broader economy. In the context of freedom of to diversify investments, enabling them to explore movement of capital and labor, it is also important opportunities in domestic and foreign markets to ensure that the tax policies of the individual that provide an attractive return on investment. countries do not undermine these principles. In this However, inconsistencies in the treatment of context, they should be supportive of cross-border investment income may force pension funds to retirement benefit arrangements. Developments restrict their investments to domestic markets. This within the European Union may also be instructive.49 has several challenges including limited investment Thus, the East Africa Community is working to opportunities in domestic markets, as well as harmonize the pension tax regimes for the systems an inability to explore the benefits of economic in the region (converging on an EET model). integration such as the free movement of capital. 30 | CHAPTER 3: TAX TREATMENT OF RETIREMENT BENEFITS IN EAST AFRICA: A CROSS-COUNTRY COMPARISON OF POLICIES CHAPTER 4 PENSION FUND GOVERNANCE ‑ Japheth Katto and Miriam Ekirapa Musaali ‑ Introduction that good governance of public pension funds is an issue of public interest because such pension funds Pension fund governance is important for the growth are funded by taxpayers and contingent liability for of pension funds in East Africa. The International payment of pensions lies with the government. Social Security Association (ISSA) Guidelines on Good Governance recognize that good governance The origins of pension funds dates back to the late of pension funds is aimed at delivering what is 19th century. The demand that retirement savings mandated and ensuring that what is delivered is are properly managed stems from the failures responsive to the evolving needs of the individual experienced in the pensions industry dating from and the society. Sluchynsky (2015) rightly argues the Robert Maxwell Scandal of 1991. The scandal that the quality of governance remains an important highlighted the need to separate pension funds from indicator of the financial health of any social sponsors of pension schemes. It resulted in the security program in both the short and long term. enactment of the UK Pensions Act of 1994, which dealt with issues such as the composition of the Board This chapter highlights the importance of pension of Trustees (the inclusion of member-nominated fund governance within both public and private Trustees), the establishment of a compensation pension schemes. The key elements of pension fund, and accountability and disclosure to members. fund governance are explored and proposals for the In this context, it is important to note that East improvement of pension fund governance in East Africa has not been immune from scandals within Africa are recommended. the pension sector either51. Recently, there has been a lot more focus globally on the governance of private schemes. In East Defining Pension Fund Governance Africa there are private schemes as well as public According to the International Organization of pension fund schemes. The distinction between Pension Supervisors, pension fund governance public and private pension schemes lies in the fact refers to the framework by which the governing body that the beneficiaries of the public pension schemes — whether individuals or a body corporate (through have no proprietary rights over pension fund its Board of Directors and senior management) — assets. The legal owner of the fund assets is either makes decisions about a pension fund’s business. the government or the institution that establishes The ISSA defines governance as the way in which the fund. the vested authority uses its powers to achieve the institution’s objectives, including its powers to It is important to note that some of the standards design, implement and innovate the organization’s and principles for governance of private pension policies, rules, systems and processes, including funds can be applied to improve governance engaging and involving its stakeholders. of public pension funds50. Authors Souto and Musalem (2012) citing Impavido (2002) argue PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 31 According to the International Organization of With this kind of phenomenal growth, the proper Pension Supervisors (IOPS 2008), there is a governance of pension funds is essential. difference between corporate governance and pension fund governance. Whereas corporate According to URBRA,53 pension fund assets in governance deals with safeguarding the interests the East African region as at December 2017 were of shareholders, pension fund governance deals in excess of Ugandan Shilling to US$ (UGX) 77 with safeguarding the interests of another group trillion (approximately US$ 21 billion). The growth of stakeholders (plan members and beneficiaries). of pension fund assets over the last decade has The IOPS recommends that additional, different highlighted the need for these assets to be properly requirements be set for pension funds, particularly managed and the scheme to be well governed. with respect to pension fund governance. Njuguna (2011) opines that increases in returns and pension asset values make the members of the A survey of 362 pension plans in Kenya in 2011 scheme more sensitive to governance practices. revealed that pension governance is influenced by pension regulations, leadership and membership Within East Africa, the establishment of regulatory age. (Njuguna 2011). agencies has highlighted the importance of proper regulation and supervision of the pension sector. A The governing body (that is, the persons responsible well-run pension system places a strong emphasis for management of the pension fund) are expected on governance issues. Souto and Musalem (2012) to uphold the highest levels of governance and act (quoting Iglesias and Palacios 2000) argue that in the best interests of the members. Governance there is factual evidence that seems to indicate that practices are aimed at ensuring that managerial the worst returns are produced by publicly-managed controls are exercised by the Trustees. pension funds in countries with poor governance records. Despalains, Remizova and Stewart (2017) In 2010 at the inaugural ceremony of the NSSF argue that improving governance of pensions, board, the Ugandan Minister of Finance underscored particularly for the large public sector social security the need for good governance of pension funds in funds which dominate many emerging markets, is her address to the NSSF Board52 commenting that: key to improving diversification and returns. “The first step in strengthening our pension sector starts with acknowledging that the existing system The establishment of regulatory agencies in has been unsatisfactory and not responsive to the East Africa was preceded by the promulgation needs of a large majority of Ugandan workers. For of social security laws54. This was pioneered by the fund to achieve high levels of performance and Kenya in 1997. The Retirement Benefits Act of efficiency and to lift its image from where it is, Kenya established a governance framework for the good corporate governance and professionalism in regulation and supervision of retirement benefits running the fund are imperative.’’ in Kenya. Tanzania followed suit in 2008 with the enactment of the Social Security Regulatory According to the IOPS, the goal of good governance Authority Act. is to minimize agency problems or conflicts of interest that can arise among those responsible for A social security policy was developed in Rwanda scheme operations and oversight. in 2009. The policy highlighted the need for proper administration of the social security system. The proposals that were put forward were for a proper Drivers of Pension Fund Governance framework for social security in Rwanda. As a According to the OECD (2017), assets in funded result of this policy, the Rwanda Social Security and private pension arrangements exceeded US$ Board (RSSB) was established in 2010 by Law 40 trillion in the OECD area at the end of 2018. N° 45/2010 of 14/12/2010. The mandate of the 32 | CHAPTER 4: PENSION FUND GOVERNANCE RSSB is to administer the social security system in High pension fund performance is another key Rwanda. The National Bank of Rwanda (BNR) is objective. Stewart and Yermo (2008), referencing the supervisor of the pension system. Ambachtsheer and others (2006), show how good governance and performance are linked. The writers The Uganda Retirement Benefits Regulatory base their conclusions on research undertaken Authority Act was put in place in 2011. The regarding pension funds in Australia, Canada, Act established the Uganda Retirement Benefits Europe, New Zealand, and the United States. They Regulatory Authority (URBRA). The URBRA is conclude that the governance gap, as assessed by committed55 to working with the industry to improve pension fund Chief Executive Officers (CEOs) scheme governance, thereby ensuring protection of (or equivalents) themselves, has been worth as member interests and building confidence in the much as 1-2 percent of additional return per year. system. Njuguna (2011) argues that poor pension fund governance results in poor, inefficient and irrational The development of these laws facilitated the decisions that increase the costs of operating movement toward good governance of schemes. pension plans. Pension governance should aid in The laws provide for the establishment of a regulator the efficient transformation of pension fund income for the sector. They also provide for various aspects into retirement benefits and high asset values. of pension fund governance, such as accountability, disclosure, and separation of duties of the custodian, A well-governed scheme will also focus on fund manager and trustee. mitigation of risk, lowering costs and ensuring that the fund performs well. Trustees in a well-governed Njuguna (2011) argues that adherence to pension scheme take the time to choose good service regulations exerts a positive influence on pension providers and comply with regulatory requirements, plan governance. Specific areas that should thereby minimizing the costs of regulation that be legislated include pension design, financial arise from enforcement actions being taken against reporting and service providers. the scheme. As such, there is an optimization of the benefits and risks are effectively mitigated. Ensuring Good Pension Fund Good governance confidence of members and Governance stakeholders in the scheme. Good governance Good governance can help a pension fund to achieve ensures transparency in the way in which the pension its objectives and goals. The first among these fund assets are used. In this context, there is full is the achievement of the purpose for which the disclosure about the costs incurred by the scheme scheme was established. The overriding objective and regular reporting. This gives confidence to the of a scheme is the provision of retirement income members and stakeholders because they know that to members, their dependents or beneficiaries. In nothing is being hidden from them. a well-governed scheme, trustees work toward the achievement of that purpose, and ensure that the A survey taken among 24 IOPS members in objectives set out in the trust deed are met. 2008 revealed that the changing legislative environment has raised the level of competence/ The International Labour Organization (2010) expertise that is required of the governing body. emphasizes that “No system of social protection can As such, it has compelled the governing body to achieve its objectives without good governance.’’ disclose information transparently and clearly to In a well governed scheme, the benefits that are members and beneficiaries, thereby reinforcing promised to the members are delivered. accountability. The survey revealed that the major governance issues were in the areas of competence/ PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 33 expertise, accountability and internal control of the • The requisite skills and competency of the governing body. governing body; and • The means by which the governing body Good pension fund governance can have a positive is accountable to stakeholders (principally, impact on the corporate governance practices of plan members and beneficiaries, as well as a the companies in which it invests. The pension wider stakeholder group including employers, fund conducts its role as an institutional investor supervisory boards, supervisors, regulators and with diligence, and it is an active shareholder in the government). companies in which it invests. Pension funds that are well governed will not shy away from pursuing According to the ISSA, the following are the five companies that they invest in to cover their stock principles of good governance: accountability, losses and protect the investments of the fund. The transparency, predictability, participation and California Public Employees Retirement System dynamism. These elements will be examined in (CalPERS), for example, requires the companies detail with specific reference to the governance they invest in to have proper governance systems practices within the East African region, including and to abide by the CalPERS governance and any applicable legislation. sustainability principles. CalPERS believes that fully accountable governance structures produce the best returns to shareholders over the long term. The Structure of the Governing Indeed, CalPERS has become a respected leader in Body the public and pension benefits industry. In East Africa, the governing body of public pension Pension fund governance determines the regulators’ funds is established by law, whereas private pension supervisory approach. Most pension fund regulators funds are established under trust arrangements or as have adopted a risk-based supervisory approach. a body corporate. In Kenya and Uganda,56 the entire This approach requires that attention be paid to Board of Trustees of the NSSF is appointed by the funds that pose the greatest risk to the pension Minister. In Tanzania, the Chairman is appointed by fund members and beneficiaries. A firm that is the President, and in Rwanda the Board of Directors well governed will most likely not be the focus of of the Rwanda Social Security Board are appointed regulatory compliance visits. This lighter touch by the President.57 The NSSF Board of Uganda is enables the fund to concentrate on other operational comprised of worker and employer representatives, matters. the permanent secretary responsible for social security matters, as well as a representative from the Ministry of Finance, Planning and Economic Key Elements of Pension Fund Development. The effect of these politically Governance motivated appointments is that it may result in direct or indirect political influence over the fund. According to the IOPS, the following are the key elements of pension fund governance: In East Africa, the law governing private funds • The structure of the governing body (including generally requires every scheme to have a the legal basis and segregation of functions); governing body. The Board of Trustees must be vested with the power to manage and administer the • The decision-making processes within the scheme. This is an obligation to ensure adherence governing body (including internal controls, risk to the scheme rules and protect the members/ management, compliance functions and internal beneficiaries. The responsibility to govern the oversight structures); scheme must be consistent with the overriding 34 | CHAPTER 4: PENSION FUND GOVERNANCE objective of the scheme, which is the provision of investments of the Fund. Management has delegated retirement income. authority to make decisions on operational matters, including those relating to the placement of funds in Trustees hold the assets of the scheme on behalf commercial banks, and investments in government of the members. In this context, they serve as securities, fixed deposit receipts and listed equities fiduciaries. The Oxford Law Dictionary defines a within the framework of the approved investment fiduciary as a person such as a trustee who holds policy.58 a position of trust or confidence with respect to someone else, and who is therefore obliged to act Trustees are ultimately responsible for the scheme, solely for that person’s benefit. In Uganda, the even when they delegate certain functions to URBRA Act has extended the fiduciary principle service providers. Trustees retain the responsibility to not only the trustees of the scheme, but also to of monitoring and oversight of service providers. other service providers. These include persons Trustees are also accountable to members/ responsible for the control, administration or beneficiaries and the regulatory authority. In management of a retirement benefits scheme; addition, Trustees may be accountable to scheme the application or interpretation of scheme rules sponsors, who are in effect guarantors of benefits in in the determination of benefits for members or a defined benefit scheme. beneficiaries of a retirement benefits scheme; and the management of assets or investment of funds of The Board of Trustees is led by a chairman who a retirement benefit scheme. is responsible for the conduct of meetings, setting the agenda with the assistance of the secretary, and The fiduciary duties mentioned in the URBRA ensuring that there is open communication between Act include the duty to act with due care, skill, members of the Board. In selecting a chairman of diligence, good faith and prudence, as well as the Board of Trustees, it is important to seek the the duty to act in the best interest of the scheme following skills: good communications, strategic members and beneficiaries. The fiduciary duties leadership and negotiation skills. The chairman also include ensuring that all decisions regarding should have sufficient knowledge of pension the scheme comply with scheme rules under the matters, although he/she may not necessarily be an Act. These fiduciary duties are applicable in other expert in the field. East African Countries as well. The secretary of the scheme should be independent from the Board of Trustees. The secretary supports The Role of the Board of Trustees the chairman, organizes meetings, reviews scheme The Board of Trustees of the pension fund is documents, ensures that board evaluations are responsible for oversight of the fund. The Board carried out and that information is dispersed to is also the ultimate decision maker. As such, it is members in a timely manner. responsible for setting the strategic direction and investment policy for the fund, choosing service In selecting the Board of Trustee members, providers and reviewing fund performance. it is important that there be a balance of both skills and experience on the board. Some of the In Tanzania, the Government Employees Pension relevant experiences and skills include: financial Fund (GEPF) is one of the five mandatory social management, investments, business development, security schemes regulated by the Social Security legal, compliance, audit, leadership and operations Regulatory Authority. The Board of Trustees is management. It is also important that independent responsible for approval of the annual plans and trustees be included on the Board. These independent budget, audited financial statements, and major directors bring objectivity and balance to the board. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 35 At the time of becoming board members, the The decision-making process within the governing trustees should be given an induction, which will body (including internal controls, risk management, help them appreciate and understand their roles, compliance functions and internal oversight duties and obligations. Mentoring relationships structures) should also be considered. The trust between established trustees and newly-appointed deed and scheme rules stipulate how schemes make trustees should also be forged to augment the decisions. In most cases, the Board of Trustees learning process. Continuous training of the acts jointly. The scheme rules may stipulate that Board of Trustees should follow. In Kenya, the the decision-making process is by a majority vote. RBA has taken a risk-based approach to pension This means that the minority should respect the supervision59. In assessing the effectiveness of the decisions taken at a board meeting. However, it Board of Trustees, the RBA considers the following does not negate the rights of individual members to factors: (i) whether there is a written governance state their divergent view and have them recorded document outlining the roles and responsibilities in the board minutes. of the Board of Trustees; (ii) whether the board has undertaken a self-assessment; (iii) whether The trustees are responsible for the establishment all members of the Board have passed the fit and of internal controls that enable them to identify, proper tests; (iv) whether there is a code of conduct evaluate and manage risks relating to the scheme. for board members. Risk management by pension scheme trustees should be conducted on an ongoing basis. The Board committees are useful in enabling the board compliance function carried out by the trustees is of a pension fund to operate smoothly. Small done with reference to the laws, the trust deed and schemes should consider carefully whether there scheme rules. Internal controls should cover the is a need to establish these subcommittees. Some operations of the scheme including for example, of the critical committees include the audit and administration, management, and custody of investment committees. The audit committee is assets. Pension schemes should also retain a code responsible for the review of financial statements, of conduct governing the behavior of the members the internal audit function, the appointment and and the trustees. performance review of the external auditor, and the effectiveness of internal controls. According to the UK pensions regulator,60 the areas that have a significant impact on clients of The Board of Trustees should meet on a regular defined benefit schemes are: (i) existing controls basis. The frequency of meetings should be not operating effectively; (ii) strength of employer determined by the size of the scheme and the nature covenant; (iii) investment strategy; (iv) fraud; (v) of business to be conducted. The Board is also corporate changes and transactions relevant to the responsible for oversight of the scheme. As such, scheme; (vi) legal requirements; (vii) administration; the number of meetings held by the scheme should (viii) operational procedures and technical systems; enable the Board to carry out this role effectively. and (ix) scheme management (including costs) and delegated responsibilities. Trustees should therefore The following agenda items should be included provide adequate oversight in these areas. in Board meetings: (i) declaration of conflicts of interest; (ii) reports from management; (iii) investment performance reports and other reports Requisite Skills and Competence of relating to strategy; (iv) a risk report; (v) a report the Governing Body on outgoing communications to members; (vi) In all East African countries, trustees of private subcommittee reports; (vii) updates on legal or pension funds are subject to minimum suitability other regulatory developments; and (viii) training standards to ensure a high level of integrity, reports. competence, experience and professionalism in 36 | CHAPTER 4: PENSION FUND GOVERNANCE scheme governance. Collectively, trustees should In Uganda, the URBRA Act introduced the fit and have the necessary skills and knowledge to oversee proper test for the Board of Trustees. The test covers scheme operations, including monitoring the issues of criminal or civil convictions, bankruptcy, performance of service providers. Suitability criteria academic qualifications and professional experience. for trustees must be stated in the law. Unfortunately, The main objective of this test is to disqualify people the same standard does not apply to public pension who may not have the requisite integrity and honesty funds. Souto and Musalem (2012) make the point to manage the pension funds, or who do not have the that senior managers and directors in government minimum competence standards for the governing institutions may not be selected according to fit and body. The OECD Guidelines for Pension Fund proper criteria, but rather to political affiliation. Governance (2009) state that the governing body should be subject to minimum suitability standards The IOPS (2008) stipulates the minimum in order to ensure a high level of integrity and qualifications for trustees as required by the various professionalism in the administration of the pension regulations. In Kenya, for example, trustees are fund. In Rwanda, Law N°. 45/2010 of 14/12/2010 required to attend trustee training and pass a clearly states that the members appointed to the qualification exam. In Poland, the law stipulates Rwanda Social Security Board should be appointed that a member of the management board should on the basis of their competence and expertise. possess higher education, and a track record of employment of seven years or more (no less than In Kenya, the composition of the NSSF Board includes two-thirds of the management board members have employer and worker representatives, as well as to satisfy this requirement). Also, no fewer than three persons appointed by the Cabinet Secretary by two management board members, including the virtue of their knowledge and experience in matters President of the management Board, should have relating to administration of scheme funds, actuarial mastery of the Polish language, and no less than science, insurance, accounting and auditing and/or one-third of management board members should law. These competences on the Board of Trustees have a higher education in law or economics or ensure that there are competent persons on the be approved investment advisers. Where it lacks board who can offer meaningful contributions to the sufficient expertise to make fully informed decisions deliberations at hand. and fulfill its responsibilities, the governing body could be required by the regulator to seek expert In his report on institutional investment in the United advice or appoint professionals to carry out certain Kingdom, Paul Myners (2001) recommended functions, which is recommended by the OECD. that there be a legal requirement to require that Box 1: NSSF Governance Andrew Mwenda (2012) evaluates the competence of the NSSF Board of Uganda at the time: ‘’Who are these five eminent men and women whom the democratic process has thrust onto the NSSF board? How competent are they to guide the fund when making long-term investments? The fund has to decide a portfolio mix of whether to invest in stocks (and there are different types), precious metals, fixed deposit accounts in banks and real estate (different types as well). This means that the board has to have members with [a] wide knowledge of investments in different sectors that give good yields over time’’. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 37 only those with the necessary skills, information an important aspect of reforms, especially where and resources should make those decisions. His new mandates extend to low-income or informal proposal was adopted in the 2004 Pensions Act of sector workers. the UK. It is within the mandate of the governing body to Trustees should rely on the support of committees oversee scheme administration. In Rwanda, for and delegate functions to service providers or in- example, the role of the Rwanda Social Security house staff where applicable. External advice Board includes the registration of employers, received must be assessed in terms of quality and employees and beneficiaries, the collection and independence. Efforts should also be made to management of contributions, and the payment of ensure that the external advisors have adequate social security benefits to beneficiaries.61 The ILO qualifications and experiences. (2010) identifies the following factors as evidence of efficient administrative operations: (i) efficient The Board of Trustees should have a performance collection of contributions; (ii) accurate accounting measurement/assessment /evaluation tool. This tool of contributions and benefits which must be should enable the Board of Trustees to assess their promptly paid; (iii) improved cost of administration effectiveness on a regular basis (at least once a year). within the desired level of service; (iv) awareness The evaluation should preferably be handled by an on the part of contributors and beneficiaries about independent facilitator. The Board evaluation also their rights and obligations; and (v) monitoring and assists in assessing the contribution of individual review of administrative performance. trustees to the Board. The Board performance measurement tool is also important in assessing In Uganda, the administration can be conducted on training needs for the Board of Trustees. This paves an in-house basis or outsourced to a licensed person. the way for their education and training. The King In both Kenya and Uganda, the administrator is IV report on Corporate Governance for South defined as a person appointed by the trustees to Africa (2016) outlines the scope of an effective administer a scheme in accordance with the terms board evaluation. Specifically, it should cover the and conditions in the instruments of appointment.62 Board, its structures, its chair and members and the In Tanzania, the Social Security Regulatory Act of principal officer to help ensure continued improved 2008 does not define an administrator, but rather performance and effectiveness. defines an administrative expense. The definition of administrative expense gives insights into the services provided by the administrators63. Transparency and Administration Information provided to members of pension funds In Kenya, Rwanda and Uganda, the law requires should be timely, relevant, accurate and objectively an administrator to be licensed, approved or reliable (ISSA Good Governance Guidelines 2014). registered. For an entity to qualify, the entity must The administration of the pension scheme should be be a corporate body licensed under the Companies governed in a manner that promotes transparency. Act of Kenya,64 whose liability is limited by shares Pension fund administration is therefore critical to (60 percent of paid-up capital should be owned by the overall success of pension funds in East Africa. Kenyans) and whose main objective is to render A pension fund administrator is usually responsible administrative services to schemes. for the day-to-day operations of a pension fund. In Kenya, unlike in Uganda, administrators are The ILO (2001) recommends that schemes be required to have a minimum paid up of share managed in a sound and transparent manner capital. The administrator is mandated to meet the with administrative costs as low as practicable. obligations to members and sponsors specified Sluchynsky (2015) considers administrative costs in the scheme rules. In both jurisdictions, the 38 | CHAPTER 4: PENSION FUND GOVERNANCE administrator is required to have professional The ISSA Guidelines on Good Governance and technical capacity and adequate operational underscore the point that accountability is the systems to perform its functions. ability to hold legally responsible those officials who are in charge of the institution. It requires the In Rwanda, the role of the administrator establishment of norms and standards to evaluate the and investment manager can be carried out achievement of the institution’s mission, as well as a simultaneously for the same scheme if both licenses well-functioning system of redress that protects the are held by the same entity.65 However, in Uganda, interests of stakeholders and deters mismanagement the administrator cannot act as a custodian, trustee and deviations from the institution’s mandate. A or fund manager of the same scheme. The provision recent case in Uganda70 proved to be a landmark applies to both assignees and related parties.66 case in terms of highlighting the need for proper accountability in public pension funds, including In Kenya, there are also specific requirements for the need for public pension funds to be regulated the Board of Directors and top management of a and adhere to the same standards as private pension fund administrator. The academic and pension funds. professional qualifications should be pertaining to administration of schemes, insurance, law, According to the OECD,71 the governing body accounting, actuarial science, economics, banking, should be accountable to the pension plan finance and/or investment of scheme funds. members, beneficiaries and competent authorities. The governing body may also be accountable to the The role of an administrator includes keeping the plan sponsor to the extent commensurate with its records of the scheme; processing receipts and responsibility as benefit provider. To guarantee the invoices; producing quarterly and annual accounts accountability of the governing body, it should be for audit purposes; organizing and arranging legally liable for its actions. meetings; and preparing annual benefit statements and trustee reports. It is important that schemes The Financial Services Board of South Africa (FSB) maintain records of members, contribution addresses the issue of pension fund governance schedules, benefit payments, income, expenditures in its circular (PF 130) on Good Governance and assets. In Kenya, for example, the RBA Act67 of Retirement Funds. Specifically, it makes an requires trustees of every scheme to keep proper important point regarding accountability of the books and records of account regarding income, trustees to the sponsor of the scheme. The FSB expenditures and assets of the scheme fund. Records argues that the sponsor has made a promise to its of the scheme can be inspected by an inspector employees who are members of the fund. As such, appointed by the RBA. Failure to produce records it is important that the trustees be accountable to the is an offense under the RBA Act.68 members, ensuring that promises made are fulfilled. All East African country pension funds are required Accountability of Governing Body to submit audited financial statements to the to Stakeholders regulatory authorities on an annual basis. The NSSF The OECD69 recommends that appropriate controls Act of Uganda, for example, requires that annual and be put into place to ensure that all persons and entities supplementary budgets be submitted to the minister with operational and oversight responsibilities act for approval. The Board is required to keep proper in accordance with the objectives set out in the account books and records. The fund is audited pension entities. This means that they must act in by the Auditor General, or an auditor appointed compliance with all laws, statutes, contracts or trust by him/her. The audited financial statements and instruments, as well as documents associated with annual report are submitted to the minister at the any of these. end of each financial year. The audited financial PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 39 statements of these funds whose membership is laws, those responsible should be held to account. open to the public (such as the NSSF) are to be The Board may be held accountable collectively or published. Closed pension funds are to have a copy individually for breach of scheme rules. In South of their audited accounts available at their office for Africa, the role of the Pensions Adjudicator is to inspection by members. determine breaches and liability of the Board of Trustees when it results in loss to the fund. In East Rwanda’s Law No. 45/2010 of 14/12/2010 Africa, this determination is made by the Courts establishes the Rwanda Social Security Board of Law. (RSSB) and requires the head of the RSSB to submit an annual financial report to the supervising Accountability can also be achieved through authority of the RSSB within three months from the independent voices representing the interests of end of the year. pension plan stakeholders. The use of professional independent parties, such as independent auditors In Kenya, Tanzania and Uganda, audited financial and actuaries, can be helpful in verifying statements of schemes are required to be published72. compliance and ensuring that the scheme can meet Non-submission of audited financial statements is its obligations. an offense that is punishable by law. For example, in Kenya, failure to submit audited financial Trustees are required to appoint a custodian to hold statements constitutes an offense that is punishable the assets of the scheme and to ensure that those by a fine or imprisonment. Further penalties may assets are legally separated from the assets of the be issued if the breach continues. In Tanzania,73 the custodian. This safe-keeping role of the custodian failure to publish audited accounts may lead to the supports accountability within the scheme. disqualification of the Chairman or Chief Executive In Uganda, the custodians are financial institutions. to act in those roles. Accountability can be reinforced by the activism Management of Conflicts of of institutional investors in pension schemes. Interest Paul Myners (2001) in his report on institutional The King IV Report on Corporate Governance investors in the United Kingdom opines, ‘’It is not for South Africa74 encourages the governing body clear the extent to which beneficiaries of a pension to set the tone and provide ethical and effective fund scheme are aware of fund performance, the leadership. The report also recognizes that the objectives set for the fund, or the benchmarks used governing body must collectively set the ethical and are therefore able to ask questions about them. example and tone. In particular, to question the Trustees and their advisers about the decisions they have made.’’ Stewart and Yermo (2008) address pension fund governance with specific reference to private To strengthen accountability, the Board of Trustees pensions.75 They argue that the basic goal of may establish an Audit Committee. The Audit pension fund governance regulation is to minimize Committee enables the Board to effectively the potential agency problems, or conflicts of exercise its functions. It is important for members interest, that can arise between the fund members of the committee to be financially literate. It is also and those responsible for the fund‘s management. critical for this committee to monitor the solvency Such conflicts can adversely affect the security of of the fund, including its ability to meet future pension savings and promises. Trustees should also obligations. manage the conflicts of interest of those involved in the scheme (including scheme members, trustees Accountability implies that where there are and advisers) Pension schemes should also have breaches of the trust deed, the scheme rules, or the policies in place to identify, monitor and manage 40 | CHAPTER 4: PENSION FUND GOVERNANCE conflicts of interest. Accordingly, the policy should expected that pension funds that embrace ESG will stipulate the approach to be taken in the management influence the companies in which they invest to of conflicts of interest. apply sound governance principles and care for the environment in which they operate. Pension schemes should develop a list of potential conflicts of interest for each trustee and should As part of the United Nations-supported Principles maintain a register of each trustee’s interests for Responsible Investment (UNPRI 2016), a (actual) and manage them effectively. Examples global statement on investor obligations and of conflict of interest include a recommendation duties  was made by various stakeholders on of third-party service providers where a trustee June 21, 201676, “Sustainability is an important has a shareholding. In Rwanda, Law No. 45/2010 factor in the long-term success of a business. of 14/12/2010 prohibits the members of the RSSB Therefore, as with any other issue related to the from performing any remunerated activity within prudent management of capital, considering the RSSB. The members of the RSSB are also sustainability is not only important to upholding forbidden from bidding for tenders directly or fiduciary duty, it is obligatory’’. through the companies that they own. Umbrella funds that consolidate a number of smaller schemes The following investor/organizational fiduciary into a larger group are often riddled with conflicts obligations were outlined in the global statement of interest. Such providers are usually profit- (UNPRI 2016): motivated and may not act in the best interests • Act with due care, skill and diligence, in line with of members. professional norms and standards of behavior.  Trustees should understand that they have an • Act in good faith in the interests of their obligation to declare the conflicts and notify the beneficiaries and clients, including avoiding scheme. At every meeting of the Board of Trustees, conflicts of interest, or where such conflicts a declaration on any conflict of interest (if any are unavoidable, to balance and disclose such exists and depending on the matters on the agenda) conflicts.  should be made. • Take account of environmental, social and governance (ESG) issues, in their investment Trends and Recent Developments processes and decision-making, encourage high standards of ESG performance in the companies Pension fund governance has developed beyond or other entities in which they are invested, the need to provide retirement income to embrace and support the stability and resilience of the principles of sustainable investment. Under the financial system. principles of sustainable investment, pension funds are expected to consider environmental, social and In South Africa, the Code for Responsible governance (ESG) issues when making investment Investing in South Africa (CRISA) was established decisions and engaging stakeholders. For instance, to encourage institutional investors to integrate when considering sustainable investment, pension sustainability into their investment decisions, for funds make investment decisions based on assets example, environmental, social and governance that are related to sustainability, such as sustainable concerns. The code is applied on a voluntary basis agriculture, green technology, and clean energy. (apply or explain). Regulation 28 of the South Such an investment would be aimed at solving African Pensions Act requires pension funds to social and environmental problems. As institutional extend appropriate consideration to any factor that investors, pension funds can use their power to may affect the long-term performance of pension influence corporate behavior. In this context, it is fund assets. The objective of the King IV report PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 41 on Corporate Governance is to broaden corporate Committee, risk management actions taken by the governance by making it accessible and suitable for Board, and training undertaken during the year. application by organizations of all sizes, resources and complexity. In order to strengthen pension fund governance, it is imperative that trustees are properly trained. In jurisdictions such as Kenya, the RBA undertakes Recommendations for Improving training of trustees, and there is also a certification Pension Fund Governance in program for trustees. The RBA also undertook a East Africa trustee’s survey in 2007 (RBA 2007) and discovered that the schemes whose trustees were trained had It is critical that public pension funds be held to the higher registration rates. In addition, they were less same standards as private pension funds. Public likely to undergo risk-based inspections, and had pension funds should be overseen by the regulator. fewer complaints filed. Further, they had a higher particularly as they transform into funded schemes. incidence of provision of member statements and Regulatory laws should provide for oversight of holding of annual general meetings. public pension funds by the regulator. There is anecdotal evidence77 that regulatory oversight of The appointment of independent trustees within public funds by an external regulator improves the governance body of public and private pension the governance, management and investment funds is essential. In umbrella funds, the law performance of the scheme. should provide for the appointment for independent trustees, as well as member-appointed trustees. This Tougher sanctions for misuse of pension funds would help to balance the composition of the board would go a long way towards improving pension and mitigate against potential conflicts of interest. fund governance. In the United Kingdom, there are proposals for jail terms of up to seven years for In Kenya, there is a requirement that independent mismanagement of employee pension schemes. The trustees be appointed. However, there is no similar proposals were drafted following concerns over the requirement in other East African countries. As issuance of fines for mismanagement of pensions, a noted, the appointment of independent trustees move that was not considered a deterrent. to the board will improve the effectiveness of the board and mitigate conflicts of interest on the board. In East Africa, only Kenya has put in place specific regulations or guidelines regarding the governance Regarding public pension funds, it is important for of pension funds. Njuguna (2011) argues that the laws to be amended to remove provisions that to improve pension fund governance, practical could facilitate political interference in the fund. pension laws should be crafted to specifically focus In Uganda, for example, the NSSF Act Section 30 on the enhancement of leadership practices. provides that all monies in the fund (including the reserve account) shall be invested as determined by It is recommended that pension funds include a the Board in consultation with the Minister. Such corporate governance statement from the Board provisions should be amended, and the supervisory of Trustees in their annual report. In Tanzania, frameworks for adherence to investments of for example, the GEPF Retirement Benefits Fund scheme funds should be adhered to, as provided includes a corporate governance statement in the for by the regulator. In Kenya, the NSSF Act Cap. Annual Performance Report for the year 2014/2015. 197 stipulates that the requirements in the Act are The statement broadly covers the composition of in addition to the requirements of the Retirement the Board and Committee, the meetings held during Benefits Act Cap. 197. Provisions such as these the year under review, the role of the Board and the reinforce the role of the regulator in providing 42 | CHAPTER 4: PENSION FUND GOVERNANCE oversight of public pension funds, including regulation of service providers to avoid duplication mitigation against political interference. and waste of scarce regulatory resources. The use of nomination committees for the Pension legislation that requires the governing appointment of members of the governing body of body of public pension funds to obtain approvals public pension funds will encourage transparency from the Minister or other governmental entities for and accountability in the selection process. The the exercise of decisions relating to fund matters is principal officer appointed by pension fund trustees outdated and disempowers the Board of Trustees. plays a key role in working with the administrator Such laws should be amended, and the power to ensure that the scheme is well governed. handed over to the governing body to execute their However, the legislation in Kenya, Rwanda, functions in a prudent manner. Tanzania and Uganda does not adequately address the roles of the principal officer. The laws should In view of EAC integration, there is a need to be strengthened to provide for the role of the harmonize the pensions framework within the principal officer. In jurisdictions like South Africa, region. The EAC common market protocol provides the principal officer has been dubbed ‘’ the guardian for the free movement of labor within the EAC, of good governance.’’ Further, the principal officer among other things. Therefore, the portability of is required under the Pension Funds Act to be pensions is highly recommended to ensure that a resident of South Africa and is charged with there is mitigation of asset leakage that results ensuring that the rules of the fund are followed. from changing jobs from one EAC partner State to another. Portability within the region will asssit Recommendations should be adopted in overseeing with protection from old age poverty. A harmonized the administrative expenditures of mandatory social framework for pensions will encourage workers to security programs. These include cutting redundant save for retirement irrespective of where one is staff, employing more advanced technology, resident within the EAC. sharing certain functions with other public entities, and outsourcing select tasks to other agencies Finally, pension regulators in the EAC can borrow (Sluchynsky 2015). best practices from the Capital Markets Authority of Kenya78. The CMA requires issuers to undertake There are some overlaps in the regulation of service an independent annual governance audit. This audit providers within the pension industry, which can enables the issuer to assess the level of governance. lead to over regulation and arbitrage. In Kenya and As such, it acts as an early warning sign to both Uganda, for example, asset managers are regulated the regulator and the issuer regarding governance by both the securities and the pensions regulators. issues that need to be addressed. Therefore, there is a need to streamline the PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 43 1 CHAPTER 5 PENSIONS INVESTING IN EAST PENSION AFRICA: FUND ASSETS JOURNEY THE IN THUS FAR EAST AFRICA ‑ David ‑ Patricia NyakundiCFA, Kiwanuka, Bonyi ‑ ‑ MBA Introduction Kenya, where in a period of less than one year (from 2015), three banks were placed under statutory There are many aspects to consider in any discussion management due to reported financial irregularities. of pension funds in the East Africa region, such as Corruption is hardly unheard of in the region, significant (policy) changes and developments in and the retirement industry is no exception. Yet, the area of retirement funds, and their contribution until recently, there have been no widely reported to the economy, capital markets and so on. From cases or convictions. However, there has been a the mid-2000s, there has been a notable increase heightened focus on the investment decisions being in the level of assets under management, as well made by the trustees, which may in turn increase as improved structured governance and regulatory costs (and reduce returns) through the bureaucratic supervision. Indeed, retirement funds in the region process. For example, there is anecdotal evidence are now considered a significant source of capital of procurement loopholes being exploited. Among for investment. other policy measures, regulators are promoting training programs to improve governance and The EAC pension funds have been characterized by reduce such instances of unethical behaviors. growth in the value of assets under management, and significant and continued investment in capital Asset allocation remains the key driver of markets. These trends have both positive and investment returns. In this context, it is important to negative impacts. On the positive side, government note that most of the retirement funds are segregated policymakers are looking into directing capital to mandates and do not invest in pooled vehicles. more than just government securities, including Therefore, the market is rather fragmented in new kinds of capital allocation for infrastructure contrast to the situation in developed markets, where projects, other private-public partnerships, and investments are assigned to fund managers based on pension funds. Corporates coming to the capital asset class capability and expertise. This degree of market or seeking to raise private capital are also specialization allows a fund manager to focus on targeting pension funds. Finally, fund members an asset class, without necessarily having to claim have growing demands for returns above the rate of expertise in separate individual asset classes. inflation, whereas fund managers are experiencing downward pressure on fees despite demands In this chapter, the strategic issues affecting for more innovative investment alternatives. As retirement funds in the region will be explored. such, fund trustees/directors are under pressure to There are a variety of tools that may be applied. further diversify their investments as they pursue However, given the strategic objective, this healthy returns. chapter has adopted the Political, Economic, Social, Technological, Environmental and Legal On the negative side, the region has had to grapple (PESTEL) tool for analysis of the macroeconomic with cases of financial lapses in accountability and factors affecting pension funds. Finally, some mismanagement. For instance, the banking sector in PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 45 recommendations are offered to improve the One of the areas where politics has been seen to investment discipline for retirement schemes. play a role in the pension markets has been on early Where policies are in place, it is essential that they access of benefits by members. The argument for be viewed as enabling policies that will allow the preservation of retirement savings to meet needs industry to develop without hindering product of retirees is appreciated. However, as the pension innovation and market competitiveness. laws are debated in parliament, the issue of the ability to access benefits early takes center stage. PESTEL Analysis In Kenya, the benefits law has undergone several Fund managers generally adopt a research-based amendments, the most recent (and current practice) approach to their investments and provide adequate is that members can withdraw 100 percent of their disclosure through reports to the trustees. Their member benefits and 50 percent of the employer results need to be measured based on performance. portion of their benefits. That leaves only 50 percent As will be discussed, there is a need for retirement of the employer portion to await retirement date. In funds to move beyond a short-term profit focus, as Rwanda, the pension law that was passed in 2015 the factors that drive significant returns occur over mandated 100 percent preservation, as is the case in a longer period. the mandatory scheme. There has been significant outcry, with a number of pension arrangements converting to savings schemes. One of the reasons Political Environment given is that they would be able to allow members access to funds on leaving service. Regarding politics, the widely accepted truth by investors in developing and/or frontier markets, The payments for early withdrawal are accessed such as in East Africa, is that politics influence in lump-sum form. Most individuals use this for investment decisions. Indeed, politics impacts personal consumption, to pay off outstanding loans all regions. or as capital injection to start a business. From a retirement benefit fund perspective, the early access Politics sets the policy direction for the and payment of lump-sum benefits impacts the macroeconomic environment and affects decisions liquidity profile of the scheme. There are clearly made by the government about monetary and fiscal behavioral and other needs-based reasons for policies, revenue collection and disbursement. accessing retirement benefits that are not limited In younger democracies in particular, the degree to political reasons. However, early access does of the political impact on investments is further have implications on the investment (liquidity exacerbated by any interference on the financial needs). Thus, it must be considered when making system. Fortunately, over time, the region has moved investment decisions. This section does not seek to separate politics from policy implementation. to argue the merits or demerits of early access to overall retirement benefit. Rather, it seeks to The trustees of retirement funds need to be aware examine the investment decision-making aspects. of their primary role as fiduciaries. As such, they need to have a good understanding of the legal Some trustees and investment managers focus on framework. This framework will offer them liquidity management, and in some cases hold adequate protection when making investment significant cash or near cash reserves to meet this decisions, including a separation of responsibilities need. It is important to note that this has been from the sponsor. The need to ensure independence suggested as a reason for holding significant cash and make the right investment calls for the long- reserves. However, in practice, in most cases, the term viability of the pension fund is one of their contributions received are able to meet the liquidity core mandates. needs. The exceptional or unique cases arise when 46 | CHAPTER 5: INVESTING PENSION FUND ASSETS IN EAST AFRICA there have been large staff rationalization exercises, cases, this undermines the policy of promoting long- as in Kenya. From 2016-2018, financial institutions term savings for retirement. With the exception of made significant job cuts. This would also South Sudan, across East Africa inflation remains apply where there are unremitted contributions, range bound with positive GDP growth. This is necessitating that liquidity be created from the beneficial for retirement funds, which have invested portfolio to pay benefits. in the equity markets because this positive growth is reflected in the profits of both listed and unlisted firms. Investment in property also benefits from Economic Environment positive GDP and inflation, as property prices are In understanding the economy of a country, several expected to rise over time. This provides a valuable measures may be applied. However, the focus of this hedge against inflation for long-term assets. chapter will be on GDP and inflation. Policymakers consider these measures in setting monetary policy, When growth is positive, government securities and investors (both domestic and foreign) consider are another attractive investment for both foreign them when determining their asset allocation and and local investors. The prescribed investment flow of capital. Retirement funds in the region limits applied by regulators in the region allow for are no exception. At the minimum, they aim to a higher allocation to this asset class. Government secure real rates of return, implying returns above policies regarding long-term funding recognize that inflation. This is a key parameter for ensuring that the retirement funds are an essential source of this member benefits are able to pay for their retirement income. However, the high interest rates on the upon maturity. short end of the yield curve make the investment profile of the schemes short term in duration. A country’s GDP is one measure of its production, the As such, there is little if any benefit to taking a key determinants of which are private consumption, long-term investment risk, even on government business investment, and government spending securities. plus exports less imports. If growth is positive on a quarter-to-quarter basis, then positive sentiments In Kenya, the regulation prescribes that all rise vis-à-vis the economy and investment markets. retirement funds must adopt financial reporting However, if growth in negative, it may be a signal for their investment in government securities as for a potential recession. On the other hand, “marking-to-market”. It is important to note that the inflation is the measure of changes in price and International Financial Reporting Standards (IFRS) money supply levels in the economy. Theoretically, provide for alterative valuation methods, such as inflation should be correlated with government hold to maturity (still practiced largely in Rwanda, interest rates. However, in the East Africa region, Tanzania and Uganda), as well as available for this is not the case. The higher than expected rates sale (which is mainly used by banks and corporate of interest in government borrowing are seen to treasuries). The rationale for “marking to market” is influence investment behavior by crowding out to ensure that when the assets and liabilities of the other investment asset classes. fund are valued, the funding level remains reflective of the true position at a given point in time. Thus, The East Africa region has been referred to as a this is the most prudent valuation methodology. The middle-class economy, which means that GDP is volatility of the yield curve represents a challenge being spurred largely by personal consumption and to the fund manager to explain to the trustees and imports. The downside of this is that employees members why the “risk free” government securities are driven to spend, thereby reducing the level of are delivering negative returns whenever there is an voluntary savings to retirement funds and increasing increase in interest rates. the demand for early access to savings. In most PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 47 Social Demographics Technological Aspects From a retirement industry perspective, social Technological improvements are about convenience demographics may be viewed using two indicators: (use and cost) and access to knowledge and age and employment. The East Africa region boasts information (connectivity and networking). large numbers of citizens in informal employment, Technology has made information readily available, with only a fraction of citizens formally employed and it has also changed the pace of product in government or private firms. When looking at innovation, with constant adaptations. Therefore, to age, these countries have a large youth (ages 18 – keep up with the times, trustees are pushing fund 35) cohort. Reportedly, a large proportion of youth managers to innovate and introduce new products are also unemployed. and enter new markets as competitive pressures increase. The experience of Rwanda’s mandatory scheme is that more payments are being made in lump When pension funds are managed in-house, the sums. One reason for this is that most people do cost for information technology and administration not work for the mandated 15 years necessary to platform upgrades will continue to put upward collect pension benefits. Job mobility is also high pressure on expenses. On the other hand, by in Kenya and Uganda. As individuals are able to leveraging technology, trustees can reduce some access their benefits on changing employment, this of the other administrative costs, such as printing affects the retirement scheme’s ability to invest for costs for Annual General Meeting, statements, the long term. financial accounts, Board meetings and others. In making investment decisions, the fund manager Policy reforms have been geared to support must consider expenses, keeping in mind the entrepreneurship as a means of stimulating overall objective of delivering a positive return economic growth and creating employment (after expenses) to members. opportunities. However, the challenge for regulators and policymakers in the region is to create an Trustees have adopted technology applications, environment that encourages private firms to including providing members with online establish retirement funds and/or contribute to statements and mobile updates. In this context, the currently existing pooled arrangements. The there is increased pressure for managers to deliver introduction of the pension and long-term savings positive short-term returns. The challenge of such a laws in Rwanda sought to increase coverage by short-term focus from an investment perspective is offering personal pension scheme arrangements. that managers will increasingly take fewer risks to The mandatory scheme also introduced a category secure capital in an effort to avoid negative returns. for voluntary savings to target the large, informal For unit trusts, the daily updating of net asset employment sector. values through unitization happens. However, for pension fund accounting this is done on a monthly The uptake for the two products remains low. The basis, usually for valuation purposes. It is also done experience is no different than in other countries. annually (post audit) for member benefit statements. Part of reason for this is that high acquisition or It is not possible to always maintain an expectation distribution costs are required to target this market. of positive returns. Therefore, expectations about To address this issue, the regulator in Kenya performance will need to be managed with regular partnered with a market player to promote the communications and education directed to members. Mbao Pension Scheme. 48 | CHAPTER 5: INVESTING PENSION FUND ASSETS IN EAST AFRICA Environmental Concerns While the capital market in Kenya enjoys higher number of entities reporting sustainability from The East Africa region is located along the Equator. listed securities, there is no independent body that Thus, it enjoys a great climate and is recognized evaluates or reports on ESG practices. In recent as a tourist destination. Also, it has been rightly years, a few multinational companies have included observed that with the right incentives, agricultural disclosures about their sustainability practices. production can be a significant benefit for its It is expected that as the Capital Market Authority economies. For instance, the Kenyan government’s enforces the Corporate Governance and Steering big four agenda focus on manufacturing, housing, Codes, there will be increased disclosures to support universal health care and food security. In Rwanda, such reporting. In the other East African countries, agricultural production also remains a key driver of the equity markets remain largely under-developed the economy. with very few listings. As such, sustainability reporting as a kind of screening criteria would Regarding retirement funds, citizens will need largely be viewed as theoretical from an investment to look at the securities being chosen, review the perspective. In East Africa, most managers adopt policies on proxy voting, and take an active part the prudent person investment principles, that is, in encouraging a sustainable business agenda. they recognize that as fund managers, they have As a long-term investor, the sustainability of the a fiduciary role to conduct adequate fundamental environment in which we do business and invest research to support their investment decisions. is a key consideration. It is important to note that However, the screening criteria adopted is chosen currently only a few multinational companies at the discretion of each investment house as part of are reporting on environment and sustainability their investment strategy and philosophy. concerns in their annual accounts. However, this remains a footnote. Indeed, very little weight is given to environmental concerns when making Legal Matters investment decisions. From a retirement fund investment perspective, there are prescribed guidelines in Kenya and Uganda Regional experience indicates that fund managers for asset allocation, including a requirement to recognize the principles for sustainable investment have professional investment managers on board. and ESG criteria. However, the practical application The guidelines are broad and not unduly restrictive. of such criteria is difficult. In most of the research However, there has been a push to have these models, the fund managers take into account the guidelines dropped in favor of the prudent person governance practices of the firm. In some cases, approach.79 This would allow retirement funds the they use the opportunity to make investor views latitude to determine their asset allocation. There heard during proxy voting. The structure of most are pros and cons to this argument. However, investment houses is one of balanced portfolio given past adverse experience with funds holding management with a few specialist mandates. In as high an allocation in property of 70 percent, developed markets, ESG investments are directed these guidelines continue to be retained by the to specialist managers as part of the overall asset regulators. In the other jurisdictions, the legal allocation decision by trustees. However, the environment is not as regulated, but that does not allocation by capabilities has not taken root in the mean that there are no restrictions on investments. East Africa market. These could take the form of restrictions for out of country investment, as well as limits to projects that can be undertaken with the intention of protecting member dues. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 49 As part of the EAC regional harmonization process, • Consider investments across EAC markets proposals have been developed. Partner states have as domestic investments under investment been encouraged to adopt these proposals. This regulations includes the following broad principles: • Encourage the gradual adoption of appointing • Adopt a robust legal and regulatory framework to professional fund managers and custodians for regulate pension investment activities. the investment of assets. • At a minimum, pension funds should be required Table 6 provides a snap-shot of the current to make investments in diversified asset classes; prescribed investment limits applicable to pension and only prescribe a maximum limit. funds in the EAC region. In Rwanda, the pension • Develop guidelines for the operations and regulator is looking to introduce maximum limits in procedures to be adopted for investments by line with EAC harmonization principles as part of pension funds, including minimum guidelines to the ongoing review of the pension law. be included in the investment policy. Table 6: Prescribed Investment Limits for EAC Pension Funds (Percentage) Kenya Kenya Actual Uganda Uganda Actual Tanzania Asset Class Limits 12/2017 Limits 12/2017 Limits Government securities 100 36 80 72 20-70 Bank deposits 30 3 30 3 35 Corporate bonds 20 4 30 1 20 Equity 70 19 70 15 20 Real estate 30 21 30 5 30 Private equity 10 <1 15 2 5 Other   5 2   Guaranteed funds 100 13   Offshore 15 1 REIT 30 <1   Direct loans to government   10 Private debt 10 <1 5 Infrastructure   25 CIS   30 Source: The data is drawn from the regulators website, specifically the provisions pertaining to investment regulations, as well as actual industry-wide allocations for Kenya and Uganda (from their regulators’ annual reports). Note: CIS = collective investment scheme; and REIT = real estate investment trust. 50 | CHAPTER 5: INVESTING PENSION FUND ASSETS IN EAST AFRICA From the investment allocations listed in Table 6, very few are employed by pension regulators, some broad observations can be made: pension fund management houses or capital market firms. • Tanzania maintains a much lower limit for equity than the other countries. However, it The knowledge gap is even wider for trustees who allows for other types of asset class investments, are charged with the mandate of overseeing the for example, direct loans to government, and investment process. Some trustees do not even have infrastructure. These investments are aligned personal exposure to investments in the capital with the investment policy direction for long- market related to assets. Thus, some may have term funds to be available to support the country’s a bias for land or property, areas where they tend development. to have personal knowledge. The risk and return • Kenya’s limit is set at 100 percent, but only 36 focus for trustees also tends to be short term, which percent of funds are invested in government is usually the investment bias for the individual securities. By contrast, in Uganda, the limit is seeking capital preservation. 80 percent, with the actual allocation to the asset class standing at 72 percent. Training and development of technical skills must be • Kenya has a higher exposure to real estate an essential part of the policy agenda for regulators investments than Uganda, with 21 percent across the region. In Rwanda, the government compared to 5 percent in Uganda. The prescribed has encouraged a policy whereby individuals limit for both countries stands at 30 percent. are promoted based on obtaining professional qualifications. To encourage the acquisition of In Kenya, over time, the regulator has also these qualifications, employers sign up to sponsor introduced other categories in a response to training offered by the Association of Chartered market movements, as well as a bid to spur market Certified Accountants (ACCA) for professional development. The introduction of the new asset accountants and Chartered Financial Analysts classes, for example, private equity, infrastructure (CFA) for fund managers and research analysis. and possibly derivatives, has not been successful. The training in areas such as administration and It should also be noted that in a number of cases custody are largely left to the service providers and — with the exception of the property asset classes tend to be done in-house. The cost for such training where there is push by schemes to take more remains significant for these firms, and constant job exposure — the funds have not reached the limits. mobility increases the associated costs. In Kenya, following the introduction of a five-day Investment Knowledge and Access program on the retirement industry that seeks to to Professionals provide trustees with an overview of their fiduciary role, experience shows that trustees struggle with The managing of investments and the investment the investment concepts. To address this issue, management process are technical skills that need across the region, the majority of service providers to be developed both by the service providers, also offer trustee education as part of their services, as well as for the trustees who are charged with either free or for additional cost. This process oversight. The past few years have seen an increase has introduced a minimum basis of knowledge in the number of investment professionals, with the for trustees. The vetting process adopted in other number of qualified Chartered Financial Analyst countries only provides a minimum of education, (CFA) Charterholders now estimated at over 140. qualifications, experience and certified training These professionals are now represented in each of before sign-off by the regulator. This experience the East African countries, with a larger number in is not necessarily pension-related. Thus, the gap in Kenya. However, even with the increased numbers, knowledge remains a key concern. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 51 Performance Measurement and Rwanda Social Security Board (RSSB) would Reporting not be comparable to the other countries, given the low depth in equity markets in Rwanda and The main objective of retirement fund investing higher exposure to private equity. For Tanzania, the should be to generate adequate risk-adjusted comparisons would need to allow for direct loans returns. Specifically, returns alone are not the to government and infrastructure, which are not overriding, binding consideration. Rather, one must common in the other regions. understand the degree of risks being taken by the fund manager in generating returns. In this context, performance measurement remains an area devoid Asset Allocation of independent verification, and trustees must rely The readily available asset classes for investors in on the fund manager’s report. the East Africa region can be broadly categorized as cash and cash deposits, equities (listed and The Chartered Financial Analyst Institute has unlisted), fixed income (government and private) introduced minimum guidelines for compliances and property. This section will examine these with Global Investment Performance Standards securities broadly, including the manner in which (GIPS).80 The GIPS are designed as voluntary these investments are being undertaken in the standards, but they have adequate depth to address region. most of the challenges pertaining to investment performance reporting and monitoring from the perspectives of both the asset owners and the Cash and Cash Deposits regulators. Policymakers need to be educated about these standards, and consider their application in The old adage that “cash is king” is prevalent in their individual markets, given country nuances. the mind of retirement fund trustees. The perceived At a minimum, an effort should be made to adopt a security of cash, despite the low interest rates policy that ensures that performance measurement offered by banks, remains pertinent. There are reporting is done in a consistent manner that allows stories of deposits being held with preferred banks for some degree of comparison and standardization to shore up liquidity, or to obtain favorable loan across funds and asset classes. The GIPS recognizes rates for members and in some cases the employer. that moral suasion by regulators — either by key retirement fund trustees, insurance firms, and so on In a majority of cases, the fund managers are able to — will influence the fund manager community. The conduct due diligence and negotiate more favorable local CFA Society for East Africa is undertaking rates than those offered to individual trustees. an education initiative for regulators and key Clearly, there is a need to hold liquid assets, but this stakeholders regarding the benefits of GIPS in needs to be supported by an adequate understanding East African markets as part of its ongoing of the cash flow needs of the fund into the future, advocacy efforts. thereby avoiding a drag on investment returns. Indeed, the whole purpose of investing retirement In the current form, a comparison of investment assets is to generate a reasonable investment return. returns across East Africa would be difficult. For example, the results would not be comparable Equities (listed and unlisted) and when examining the National Social Security Fund Securities in Kenya, whose larger assets (government bonds) are priced on marked to market basis and the The securities markets in the region have seen National Social Security Fund in Uganda, which an improved position over the past decade. The values government bonds on hold to maturity. To Nairobi Securities Exchange (NSE) in Kenya take another example, the equity portfolio of the remains the most active. Despite the large value 52 | CHAPTER 5: INVESTING PENSION FUND ASSETS IN EAST AFRICA of assets under management, the largest players in market. This is an indication of the perceived risk the NSE remain foreign investors. This is because level associated with the country — mainly due to local investors remain averse to the volatility in its politics. Also, it is important to note that the Euro stock prices. It is only through persuasion that some bond issue was open only to international investors. exposure is taken in the stock markets. Allocations to securities is particularly touchy during election The market has had negative experience with periods. However, based on past experience, the corporate securities, with firms either defaulting, stock prices drop during this period and rebound seeking to renegotiate and/or refinance following thereafter, making it a good time to invest. a rapid expansion drive or failed business strategy. In some cases, the pricing of the corporate debt Private equity deals are continually reported does not reflect the interest rate margin that would in the East Africa region. Like stocks, the bulk be commensurate to the risk being taken. Such of participation is by foreign investors seeking experiences and the subsequent risk aversion exposure to the regional markets — not local (particularly by retirement fund trustees) have led institutional investors, such as retirement funds. investors to stay away from corporate securities. In developed markets, retirement funds are key The resultant cost for corporate management to investors in private equity given the longer-term convince the market to invest in any firm through nature and attractive return potential. debt, as well as the high mark-up on the potential interest margin demanded by the fund managers, There is no need for further market regulation, but has increasingly caused corporate firms to focus on trustees need to have a clear understanding of the bank borrowing or equity to raise capital for their long-term nature and stability of liabilities involved businesses. Again, this is a lost opportunity for local in the investment in equities. Experience in East retirement funds to participate in the economic Africa shows listed equity allocations in the range growth of the region. of 0 – 30 percent, with private equity being less than 5 percent of retirement fund assets. In developed markets, the allocation to both local and offshore Property equity markets is higher as retirement funds seek From a primal instinctual level, there is a strong the capital appreciation and dividend income desire to own property (land) directly as part of the available from this asset class. average East African citizens’ investment dream. This motivation does not change when one becomes a trustee/director of a retirement fund. Further, the Debt (Government and Corporate) property prices in the region have continued to Securities experience price inflation, with some individuals The bulk of retirement industry assets, currently making huge returns from either the sale of land or estimated at over 70 percent on average across the development of properties. retirement industry, continue to be held in debt securities with the government. This is because For retirement funds, the investment in property the interests on offer are attractive, and these has been largely focused on land as well as investments are also considered risk free. The commercial and residential developments. The perception of “risk free” is one that is continually older, more established retirement funds also being evaluated and does not mean the complete inherited significant property portfolios that had absence of risk. been in place before the capital markets became an attraction. The Kenyan government issued a Euro bond, with an impressive subscription. However, it continues to The investments are largely held for the long term show significant price volatility on the international and are not for sale in most cases. This suggests PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 53 that the return from the investment in properties artificially high prices driven by supply and demand is largely limited to the rental yield, which ranges forces. The stock exchanges in the region need to from 5-9 percent, depending on the actual property. address the reasons why there is limited appetite In this context, it is important to note that higher for listing by private firms seeking to raise capital. returns are possible when the investment is sold, It is possible that this is due to the stringent listing and capital gains are realized. requirements, although as has been demonstrated at the NSE, even the introduction of the over-the- A variety of investment risks are evident. Examples counter equity platform has not seen an increase in include fraudulent transactions, ownership disputes, uptake. Thus, there is a clear need to bridge the location and zoning changes, and limited liquidity gap between private firms seeking capital and their (especially during times when GDP is contracting). reluctance to come to market. These and other risks need to be considered when making investments. As such, in comparison to the On the product side, very little innovation has taken risk-free rate proxy, treasury bill rates offer higher place in introducing new investment capabilities returns in some instances. There is also a clear to the market. The attempts to introduce product disconnect that suggests that property investment capabilities such as private equity funds, Sub- is not necessarily a rational decision. Rather, it is Saharan market funds and such have not been driven more by the desire to own a tangible asset successful with retirement funds. This has that is perceived to be risk-free. largely been due to a lack of adequate knowledge (awareness) by the trustees. As such, they fear taking a risk and investing in such product. However, some Conclusion trustees also perceive these as foreign products, and Definite similarities and differences emerge in the would prefer home-grown solutions. East Africa region retirement industry. However, in terms of investments, the firms remain largely In these markets, there have been opportunities to allocated in similar assets. At present, the bulk of fund tenders, which could be large government or investments by pension funds are largely placed in private sector out-sourcing of projects in need of the home country, with minimal investment across financing. This represents a home-grown version partner state economies. The asset class location is of project funding, whereby the pension fund takes very country specific, despite the potential regional on project-related risk for businesses that are not allocation benefits that would accrue if pension infrastructure related. Some areas currently seeking funds would invest in the EAC region. From the funding include housing and infrastructure, such as pension regulator perspective, there is a recognition university hostels and road construction. Looking of the EAC region as a similar destination, but this back at the early banking environment, products has not been borne out in the actual fund allocation such as Limited Public Offiering (LPO) financing and investments. Therefore, there is a need to were not available in the formal sector. However, educate and encourage fund trustees to diversify this is now considered a common business into other asset classes (as well as EAC countries) practice. The challenge to firms therefore is to not only to manage risk, but to enhance their long- find an appropriate vehicle by which to avail such term returns. opportunities to investors. As demonstrated, there is a clear need to have more Legislative and policy reforms should be considered products and solutions available for investment as they do not seek to over-regulate and increase the by pension firms. The available range is currently cost of doing business. Although the markets are limited, which means that all retirement funds are linked, there is room to take advantage of changes competing for the same securities. In some cases, in yield curve (based on a given monetary policy for example, the securities markets have seen in a country), foreign exchange movements, and/ 54 | CHAPTER 5: INVESTING PENSION FUND ASSETS IN EAST AFRICA or share prices. Unfortunately, the costs are quite despite the growth in assets, as firms compete for prohibitive. Also, not many market makers have a business mainly based on price strategy. These price presence in the various countries, which introduces wars are not unique to fund managers. Indeed, they counterparty risks. To address this, there is a need apply to all other service providers in the industry to review the costs of cross-border transactions, as well. By encouraging pooled assets, there may be taxes and legal charges. space to have passive funds that support this low- price margin. At the same time, this would allow for Currently, the majority of pension funds in the investment managers to create other pooled funds region operate as segregated mandates, meaning to target more aggressive returns. It is possible that they are stand-alone schemes. In other markets, that having pooled funds will also help address the fund managers offer pooled funds and sign concerns about the constant reduction in fees paid pension fund mandates based on capability. This to fund managers, thereby shifting the focus from shifts the marketing focus to fund managers, who fees to evaluating the fund manager’s capabilities are responsible for looking at investment mandates, (mandate size, risk and return considerations) for strategy and returns associated with a given each asset class. execution and/or skill. The outlook and opportunities for pension sector From an investor perspective, having segregated growth in the region remain optimistic. Certainly, mandates also creates a situation in which the the investment process and asset allocations will trustees focus on security selection, leaving space play a significant role in the deployment of assets for trustees’ personal views and biases to distract the issues preventing further diversification into from the investment process and longer-term goals. different asset classes is not due to limitations Any policy reform that encourages the allocation imposed by regulations. The regulatory framework of assets to fund managers based on capability is broad enough and provides flexibility to any fund will enable the pooling of assets which can then be manager to take exposure in the available assets. directed to investment. However, as demonstrated, the issue is the lack of market knowledge and the short-term focus of Fund manager fees are determined based on trustees, and the increased pressure on fees. This assets under management. Given the segregated causes firms to adopt less intense investment mandates, the manager must compete for business activities, given high government security returns and negotiate prices separately with each retirement for lower risk. The result is a crowding out of other fund. There has been a reduction in fee rates applied asset classes. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 55 CHAPTER 6 EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR ‑ Joseph Lutwama ‑ Introduction is registered. The employee’s perspective focuses on the contractual obligations of the employee, This chapter explores the challenges and that is, whether they have a formal employment opportunities of extending pension coverage to the contract with attendant employment benefits. The informal sector from an East African perspective. firm and employee perspectives are interconnected The informal sector dominates the economies in the sense that one can be informally employed in of East African states. However, to date, pension the formal sector, that is, where a formal registered coverage has been limited to the formal sector. firm employs workers without formal contracts and Therefore, it is critical to devise strategies to extend employment benefits. pension coverage to the majority of the population in East Africa. This is not without its challenges. The regulatory perspective focuses on the extent However, the informal sector also presents unique to which both firms and individuals comply with opportunities that can be leveraged to ensure the regulations. This perspective can be regarded as futures for most East Africans. a sub-set of the firm perspective because in most cases it is the unregistered firms that are more The analysis and discourse focus on four countries, likely not to comply with the law. The International including Kenya, Rwanda, Tanzania and Uganda. Labour Organization (ILO) (International Labour This chapter is divided into three sections. The first Organisation 2018) provides a detailed framework discusses the concept of the informal sector and on measuring the size of the informal sector using analyzes the extent of the informal sector in East the firm and employee perspectives. Africa. The second section analyzes the state of pensions in East Africa, focusing on the extent of Thus, how the informal sector is defined will pension coverage for the informal sector. The third depend on the perspective in which informality is and final section presents the key considerations discussed. In this chapter, emphasis will be placed involved if pension coverage for the informal sector on the firm and employee perspectives. Indeed, the is to increase in East Africa. main focus will be the extent of pension coverage of the informal sector, which is affected by both informal firms and informally employed workers. Understanding the Informal Sector Informality can be viewed according to three different perspectives: the firm’s perspective The State of Informal Employment (productivity view); the employee’s perspective Two billion (61.2 percent) of the world’s population (the social protection view); and the regulatory above the age of 15 is estimated to be informally perspective (Oviedo, Thomas and Karakurum- employed (International Labour Organisation Ozdemir 2009). The firm’s perspective focuses on 2018). Africa has the highest level of informal the legal status of the firm, for example, whether it employment, with an estimated 85.8 percent of PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 57 the total African population above the age of they are poor. There are reasons other than income 15 informally employed (International Labour levels. Thus, there is a population segment of the Organisation 2018). In East Africa, informal informal sector that have the will and the ability to employment levels are equally high at 91.1 percent save for retirement (see Figure 14). This segment of the total African population above the age of 15. should be the target for expanding pension coverage (International Labour Organisation, 2018). Among to the informal sector. the four focus countries, Uganda has the highest informal employment levels at 93.7 percent. However, all the focus countries also have informal Demographics and Pensions for the employment levels above 90 percent (Figures 12 Informal Sector and 13). (International Labour Organisation 2018). Traditionally, in the absence of formal pension mechanisms, pensions have been in the form of Pensions and the Informal Sector in extended family support to the retired persons in the community. This partly explains the situation in East Africa East Africa. With high fertility rates, families had to In analyzing the state of pensions and the informal hedge their bets for retirement because the mortality sector in East Africa, the myth that the informal rates were also high. Therefore, if one had a large sector is synonymous with poverty needs to be family — and even if some of the children died debunked. When extending pension coverage to before they retired — they still had some remaining the informal sector, this does not mean pensions children to take care of them in their retirement. This for the poor. The informal sector is heterogenous, system worked well so long as the life expectancy with different income levels ranging from the poor at birth was low and the fertility rates were high. to the rich. Some choose to be informal not because Figure 12: Share of Informal Employment, Including Agriculture, 2016 (%) Less than 20% 20% - 49% 50% - 74% 75% - 89 90% and over Source: (International Labour Organisation 2018) 58 | CHAPTER 6: EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR Figure 13: Share of Informal Employment, Excluding Agriculture, 2016 (%) Less than 20% 20% - 49% 50% - 74% 75% - 89 90% and over Source: (International Labour Organisation 2018) Figure 14: The Labour Force Pyramid Voluntary Private Formal Pension Schemes Formal Mandatory FORMAL SECTOR Social Secrity/Pension Schemes EXTEND TO THE INFORMAL SECTOR Targeted Schemes Other Informal INFORMAL SECTOR for Informal Groups Savings Mechanisms Social Protection VULNERABLE POOR Source: World Bank PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 59 This meant that there would be fewer old people Developing innovative and creative pension to care for, and enough children to take care of mechanisms for the informal sector which account them. However, the rising life expectancy at birth for the largest proportion of the East African (Figure 15) and the declining fertility rates (Figure economies is a key priority. Such pensions will 16) threatens the status quo and places old people greatly minimize the potential risk of old age at risk of poverty. poverty arising from the shifting demographics. Figure 15: Life Expectancy at Birth (Years) 80 70 60 Number of Years 50 40 30 20 10 0 19 955 19 960 19 965 19 970 19 975 19 980 19 985 19 990 19 995 20 000 20 005 20 010 20 015 20 020 20 025 20 030 5 03 -1 -1 -1 -1 -1 -1 -1 -1 -1 -2 -2 -2 -2 -2 -2 -2 -2 50 55 60 65 70 75 80 85 90 95 00 05 10 15 20 25 30 19 Uganda Tanzania Kenya Rwanda Source: United Nations data. http://data.un.org/Data.aspx?d=PopDiv&f=variableID%3A54 accessed on 14/11/2018 Figure 16: Fertility Rates (Live Births per Woman) 10 Number of Live Births 8 6 4 2 0 19 955 19 960 19 965 19 970 19 975 19 980 19 985 19 990 19 995 20 000 20 005 20 010 20 015 20 020 20 025 20 030 5 03 -1 -1 -1 -1 -1 -1 -1 -1 -1 -2 -2 -2 -2 -2 -2 -2 -2 50 55 60 65 70 75 80 85 90 95 00 05 10 15 20 25 30 19 Uganda Tanzania Kenya Rwanda Source: United Nations data, http://data.un.org/Data.aspx?d=PopDiv&f=variableID%3A54 accessed on 14/11/2018 60 | CHAPTER 6: EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR State of Pension Coverage in Table 8: Coverage Ratios of Pension East Africa Schemes across Selected East Kenya has by far the largest number of pension African Countries schemes in East Africa, most of which are voluntary Country Coverage Ratio (%) occupational pension schemes (Table 7). All East African countries except Rwanda have a pension Kenya 20% scheme targeting workers who are self-employed Tanzania 10% or who work in the informal sector (Table 7). In this context, it should be noted that the government Uganda 14% of Rwanda is working on a national pension Rwanda 10% scheme for the informal sector which will be partly Sources: (Uganda Retirement Benefits Regulatory Authority, 2017), subsidized by government. (East African Pension Supervisors Association 2017) In terms of workforce coverage, Kenya still leads the other East African countries with a coverage Mismatch between the Formal ratio (that is, workers covered/total labor force) of Pension System and the Informal 20 percent (Table 8). Tanzania and Rwanda have the lowest coverage ratio at 10 percent (Table 8). Sector Formal pensions systems dominate the East African pension landscape (Table 7). However, these Increasing the Pension Frontier to pension systems are limited in design, making it the Informal Sector difficult to meet the needs of the informal sector. There is an opportunity to restart the pension There are five fundamental aspects that need to be system in East Africa so that it can meet the needs addressed if the current formal pension systems of workers in the informal sector. The formalization are to extend their frontiers to the informal sector. of the East African society is likely to take time, These are the irregularity of identification; income which means that informality will continue to variability; contribution matching and incentives; a be a major part of the East African economies. lack of access to financial services infrastructure; Therefore, it makes more sense to adapt the formal and preservation. Each of the fundamentals will be pension system to the conditions and needs of the discussed in turn, including how they relate to the informal sector. East African economic landscape. Table 7: Types of Pension Schemes across Selected East African Countries Country Mandatory Schemes Voluntary/Occupational Schemes Informal Sector Schemes Kenya 1 1,302 1 Tanzania 7 7 5 Uganda 2 61 2 Rwanda 1 2 1 Sources: (Uganda Retirement Benefits Regulatory Authority 2017), (National Bank of Rwanda 2017). PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 61 Identification Most financial institutions within EAC countries still rely on paper-based KYC procedures, which Identification is at the heart of formal pension can be very cumbersome and plagued with many systems. Given their long-term nature, an authentic errors and risks. These challenges are further and uniform identification system is critical to amplified if these financial institutions are looking minimizing potential fraud in the pension systems. at extending their services to the informal sector Therefore, in countries where there is no uniform which has its own challenges with record keeping. national identification system, the formal pension system is unworkable outside of the formal Financial institutions face a number of challenges workplaces which have recognized identification with a paper-based KYC system81: documents. All EAC countries have a national ID system, albeit at different levels of development • A single KYC view of a customer may not be (Table 9). Furthermore, all EAC countries, with available within the various departments of the exception of Burundi, have digital national ID a financial institution because such physical systems (table 9). These systems provide a good documents may be restricted to a particular foundation for extending formal pensions to the department. informal sector. Table 10: Proportion of Adult- Despite having national ID systems in place, the Population with a National ID proportion of the adult population with a national ID varies from country to country. Kenya and Rwanda Country Percent have registered the highest proportions and South Sudan has registered the lowest (Table 10). Kenya 91 Rwanda 91 Most EAC countries have made progress toward Tanzania 77 digital national identity systems. However, much more needs to be done to establish electronic Know- Uganda 81 Your-Customer (E-KYC) systems. E-KYC is a South Sudan 21 process in which approved entities query a digital (and usually national) ID system to authenticate Sources: World Bank data at: http://id4d.worldbank.org/global- dataset accessed on 22/05/2018. https://www.ippmedia.com/ or verify their customers’ identities and, in some en/news/22m-tanzanians-will-have-received-national-identity- cases, retrieve basic information about them. cards-dec-2018 accessed on 22/05/2019 Table 9: Status of the National Identification Systems in the EAC National ID Mandatory Digitized ID Fingerprint and/or Iris Country System Age System Biometrics Collected Burundi Yes 16 No No Kenya Yes 18 Yes Yes Rwanda Yes 16 Yes Yes South Sudan Yes 18 Yes No Tanzania Yes 18 Yes Yes Uganda Yes 18 Yes Yes Source: World Bank data at: http://id4d.worldbank.org/global-dataset accessed on 22/05/2019. 62 | CHAPTER 6: EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR • Erroneous details may be updated to the system deductions applied in the formal sector become without sufficient supporting documentation. almost untenable. It is also more challenging to deduct retirement savings from one’s income rather • KYC documents can be more easily misplaced. than having the employer do so. In the latter case, • The document collection process can be the impact of the deduction is not as impactful as in cumbersome and time-consuming. the former case. E-KYC systems can improve the onboarding process by reducing or eliminating paper-based Access to Financial Services procedures and record-keeping. This also reduces Infrastructure the cost and time spent on verification, making it Access to financial services infrastructure is more profitable to provide services to low-income another critical factor in the provision of formal customers. E-KYC also improves on the quality of pension services. Most pension contributions are customer data and reduces the risks of identity theft paid by employers and sent directly to the bank. and document forgery.82 This makes retirement savings mobilization more efficient and less costly. In a scenario where most Regularity of Incomes and potential pension customers do not have access to a Contribution Matching bank account, as is the case in the informal sector, retirement savings mobilization becomes more Most formal pension schemes are designed to difficult and costlier. account for regular incomes and matching of pension contributions by employers or governments. In all the EAC countries, with the exception of The employees usually make regular monthly Kenya, less than 5 of every 10 adults have access to a pension contributions, which are then deducted financial institution account (Figure 17). However, from their salaries. These employee contributions more East Africans have access to a mobile money are also usually matched by contributions from the wallet (Figure 18). employers. The employer’s contribution acts as an incentive to the employee. The automatic deductions Currently, more than 5 out every 10 East Africans and matching employer contributions make saving own a mobile phone (Table 11) there is a huge for retirement easier and more accessible. potential of leveraging the mobile phone to increase access to pension products and promote retirement By contrast, many workers in the informal sector savings. are self-employed without a stable, regular income. Finscope survey data83 shows that in both Uganda and Tanzania 60 out of every 100 individuals earn Preservation of Retirement Savings their incomes from trade of merchandise, in most Pensions require that one’s retirement savings only cases, petty trade. Incomes from trade are too be accessed in retirement, usually 20 to 30 years intermittent to sustain contributions to a formal from the time that retirement contributions are pension plan. made. This is possible for formal employees who have disposable income to make regular pension The Finscope survey data also shows that 70 out of contributions over the long-term. Such workers every 100 individuals in Tanzania and Uganda who can afford to save money for the long-term because are engaged in trade have seasonal incomes. In this they have sufficient income to meet their short- to case, access to retirement savings becomes a major medium-term needs. challenge because the incentives and automatic PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 63 Figure 17: Proportion of Population (aged 15+) with a Financial Institution Account, 2017 Kenya 56 Rwanda 37 % of Population Uganda 33 Tanzania 21 South Sudan 9 Burundi 7 0 10 20 30 40 50 60 Source: Global Findex Database 2017 Note: The figures for Burundi are from the 2014 Findex Survey. Figure 18: Proportion of Population (aged 15+) with a Mobile Money Wallet, 2017 Kenya 73 Uganda 51 % of Population Tanzania 39 Rwanda 31 South Sudan 9 Burundi 1 0 10 20 30 40 50 60 70 80 Source: Global Findex Database, 2017. Note: The figures for Burundi are from the 2014 Findex Survey. Table 11: Proportion of Adult Apart from a few informal workers and Population (aged 16+) who Own entrepreneurs with stable incomes and cashflows, a Mobile Phone many self-employed workers in the informal sector do not have the luxury of being able to save for the Country Percent long-term. For some, what they earn is insufficient or barely enough to meet their short-term needs. Kenya 79 For example, instead of putting money into a Rwanda 47 pension scheme be accessed 10 to 20 years later, these informal workers may spend that money to Tanzania 64 meet the education expenses of their children or a Uganda 54 medical emergency. Findings from the FinScope surveys indicate that meeting daily expenses is the Source: http://finclusion.org/data_fiinder/ accessed on 22/05/2019 major purpose for savings across all East African Note: The latest date for Kenya, Tanzania and Uganda is from 2017, and the data for Rwanda is from 2015. countries (Tables 12 and 13). 64 | CHAPTER 6: EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR Table 12: Purpose of Savings, Tanzania  Purpose Number Percent Living expenses (when there is no money) 5,675,915 45 An emergency (other than medical) 2,345,608 18 Medical expenses (either planned or emergency) 1,331,451 10 Education or school fees 794,688 6 Retirement or old age 106,991 1 Others 2,492,684 20 Total 12,747,338 100% Source: Finscope, Tanzania, 2017 Survey Data. Table 13: Purpose of Savings, Uganda  Purpose Number Percent Support regular expenses 3,635,831 37 Support unexpected expenses 2,598,102 26 Business purposes 872,767 9 Farming/fishing purposes 772,298 8 Support for old age 65,332 1 Other 2,011,246 20 Total 9,955,576 100% Source: Finscope, Uganda, 2018 Survey Data. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 65 Case Studies of Informal Pension US$ 1,342,00085. The target is to cover 50 percent Schemes in East Africa of the informal sector by 203086. The low uptake and levels of awareness about the Mbao Pension Plan of Kenya84 Mbao Pension Plan remain the biggest challenge of The Mbao Pension Plan is a voluntary retirement this scheme. With an estimated informal population savings plan, mainly targeted to the informal sector of 12 million, the current active membership of employees who have no access to occupational 100,000 amounts to just 1 percent penetration. This pension schemes. This pension plan was established challenge partly stems from the limited capital base in 2009 as an Individual Pension Plan (IPP), and of the scheme, impacting its ability to finance a it is open to all Kenyans above the age of 18 who massive growth plan. The other major challenge of either have a National ID or a passport. the scheme relates to the high cost of administration. Proposals to address these issues and potentially The scheme is registered by the Retirement Benefit other micro-pension schemes are currently being Authority (RBA) and enjoys tax exemption status considered by the Kenyan authorities. from the Kenya Revenue Authority. The retirement benefits are not taxable at the point of exit, unless Mazima Voluntary Individual Retirement they exceed the maximum exception taxable limit Benefits Scheme (MVIRBS) of Uganda of KShs 20,000 (US$ 200) per month, and up to KShs 240,000 (US$ 2,400) per year. The Mazima Voluntary Individual Retirement Benefits Scheme (MVIRBS) was one of two The Mbao Pension Plan is distributed and managed voluntary individual pension schemes licensed through the mobile money platforms of the two by the Uganda Retirement Benefits Regulatory largest mobile telecommunications operators in Authority (URBRA) in 2016. The other scheme is Kenya: Safaricom and Airtel. As the corporate fund the Kampala City Traders Association (KACITA) trustee, the Kenya Commercial Bank (KCB) is the Retirements Benefits Scheme. The primary objective legal owner of the scheme. The Co-Trust Investment of these two schemes is to increase the access of Services Limited, a subsidiary of Cooperative informal sector employees to formal pensions Bank, serves as the fund manager, and Eagle Africa (Financial Sector Deepening Uganda 2017). Insurance Brokers serves as the fund administrator. Mazima was established as a not-for-profit entity The retirement savings contributions can be made and an irrevocable trust. Accrued contributions on a daily, weekly, fortnightly, monthly, quarterly, are invested according to the asset allocation seasonally, or yearly basis, according to the decisions benchmark stated in the trust deed. The MVIRBS of the members. The member also determines the has a flexible retirement savings contribution plan amount to save. The minimum savings is KShs 20 with no penalties for inconsistent contributions. All (US$ 0.20cents) per day, KShs 500 (US$ 5) per that is required for an individual to enroll in the month and KShs 6,000 (US$60) per year. There is MVIRBS is payment of a registration fee of UGX no maximum or ceiling on savings. Furthermore, 10,000 (US$2.70). The next requirement is to make there are no penalties in case of default. Members a regular contribution of as little as UGX2,000 are encouraged to save promptly. The benefits are (US$0.50 cents) a day or UGX 10,000(US$2.70) accessible after a minimum of 3 years, 10 years, per week — with no upper limit on contributions 15 years, 30 years, and so on, depending on the age ( Financial Sector Deepening Uganda 2017). of a member at entry. The recommended withdrawal age is 50, although As of March 2018, the Mbao Pension Plan had the scheme permits early withdrawals after one 100,000 active members with a fund value of year from the initial contribution. Like all the other 66 | CHAPTER 6: EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR pension schemes, the MVIRBS is also governed by Launched in December 2018, it is a voluntary licensed pension fund trustees and managed by a defined contribution pension scheme sponsored licensed pension fund manager and custodian. by the government of Rwanda and established by law87. It is managed by the Rwanda Social Security The MVIRBS has also partnered with the biggest Board (RSSB) and covers both formal and informal mobile telecommunications company, MTN sector workers. The primary target market is Uganda; one of the largest microfinance institutions, those Rwandese who previously could not access Pride Microfinance; and one of the largest insurance retirement savings because they did not belong to companies, Britam, to distribute its pension plans an employer sponsored pension scheme. and increase access to its products. The members of this scheme can only access their To date, the MVIRBS has a total of 1,900 members, retirement savings when they reach the age of 55. with cumulative savings amounting to UGX However, a member of this scheme is permitted to 1.3 billion (US$ 352,625). A total of Ushs 250 take a lien of up to 40 percent of his/her pension million (US$ 67,812) has been paid to members. amount to access a housing mortgage or education Like the Mbao Pension Plan in Kenya, the single loan from a bank or financial institution (Ministry of biggest challenge is low uptake and awareness. Finance and Economic Planning 2018). Members The current membership is 1,900 members and the can also access up to 25 percent of the accumulated penetration level for the informal sector is well below savings in their pension accounts to meet their 1 Percent. The low capital base of the MVIRBS liquidity needs (Ministry of Finance and Economic and a weak distribution network partly explain this Planning 2018). predicament. If the MVIRBS is to scale up and increase its penetration rate within the informal To encourage uptake of this product and to build a sector, it will need to address the high administration culture of savings for retirement, the government costs to make it more affordable and accessible. of Rwanda has provided incentives for different categories of members to this pension scheme for the first three years of enrollment (Ministry of The Long-Term Savings Scheme Finance and Economic Planning 2018) (Table 14). (EJO HEZA) of Rwanda The Long-Term Savings Scheme (LTSS) of There are four categories based on the cultural Rwanda is the most recent addition to the pension community support structure, “Ubudehe93”. schemes targeting the informal sector in East Africa. Members in categories 1 to 2 who have each saved Table 14: Government Incentive Structure for the Long-Term Savings Scheme, Rwanda Subscriber Government Government Ubudehe Eligibility Life Funeral Co-contribution Co-contribution Categories Minimum Insurance Insurance Ceiling (%) Amount per Year Categories 1 & 2 RwF 15,000 RwF 18,000 100% RwF 1,000,000 RwF 250,000 Category 3 RwF 18,000 RwF 18,000 50% RwF 1,000,000 RwF 250,000 Category 4 RwF 72,000 - - RwF 1,000,000 RwF 250,000 Source: (Ministry of Finance and Economic Planning 2018)Note: Ubudehe refers to the long-standing Rwandan practice and culture of collective action and mutual support to solve problems within a community. The Rwandese government has since adopted aspects of this culture to facilitate and promote a participatory development approach to poverty reduction in Rwanda. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 67 at least RwF 18,000 (US$ 16) are eligible to receive sector pensions puzzle can be solved. There are five a 100 percent government co-contribution up to aspects to consider in solving this puzzle: adoption a ceiling of RwF 18,000 (US$ 20) (Ministry of of electronic Know-Your-Customer (E-KYC); Finance and Economic Planning 2018). Members leveraging the mobile telecommunications in category 3 who have each saved at least RwF infrastructure; rethinking the business models of 18,000 (US$ 16) are eligible to receive a 50 percent pension products; and targeted financial capability government co-contribution up to a ceiling of programs. RwF 18,000 (US$ 20) (Ministry of Finance and Economic Planning 2018). Finally, members in category 4 who have each saved at least RwF 72,000 Adoption of Electronic Know- (US$ 80) are not eligible for any government co- Your-Customer (E-KYC) contribution (Ministry of Finance and Economic The adoption of E-KYC by the EAC countries will Planning 2018). However, all categories benefit be critical in addressing the identification challenge from a life insurance cover in case of death in the of increasing informal sector workers’ access to amount of RwF 1000,000 (US$ 1,114), as well as a pensions. E-KYC makes it possible to verify and funeral insurance cover of RwF 250,000 (US$ 278) authenticate the identity of the customer remotely, one year from signing up for the scheme (Ministry without the customer being physically present. of Finance and Economic Planning 2018). All EAC countries, with the exception of Burundi and South Sudan, have made progress toward The LTSS has leveraged the local administration establishing digital national identification systems. structure up to the village level to mobilize people Digital identification systems are a prerequisite to to enroll in the scheme. The district, sector, cell having E-KYC, which is driven by technology. and village leaders have been trained to lead Pension providers who plan to leverage technology in the mobilization of people supported by the to provide digital pensions need to be able to LTSS district coordinators at RSSB (Ministry integrate with the electronic national identity of Finance and Economic Planning 2018). The database if they are to use E-KYC to on-board new scheme has also partnered with the leading mobile customers from the informal sector. telecommunications companies, banks and their agents to both receive the retirement savings contributions and to mobilize people to enroll in Leveraging Mobile the scheme. Telecommunications Infrastructure The partnership with the government and the With limited access to formal financial institutions, leveraging of the local administration structures mobile telecommunications infrastructure is seems to be a brilliant solution to the uptake going to play a critical role in increasing access challenges facing the pension schemes in other East to pensions by the informal sector. Most formal African countries. Therefore, it will be critical to pension plans are designed to target individuals in monitor how much the government co-contributions formal employment, and the target customers access and insurance plans will contribute to the growth of them through their employers. Outside the formal the LTSS in Rwanda. employment structures, however, the dynamics of access change because the formal pension providers are now directly targeting the individual customer. Unlocking the Informal Pensions Puzzle in Therefore, pension plan providers must become East Africa innovative and creative with their distribution Having considered the limitations of formal pension channels if they are to deliver their services at the products in reaching the informal sector, this lowest possible cost while still achieving a decent section will consider ways in which the informal return on investment for their customers. 68 | CHAPTER 6: EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR Mobile telecommunications technology presents credit behavior. Clients who pay their loans on time the best possible alternative to addressing the and return for more loans and banking services access challenge. Data from the Financial would be rewarded with more pension benefits. Inclusion Insights Surveys across four East African This model would be like an occupational pension countries shows that at least five out of every ten scheme, with the only difference being the nature East Africans owns a mobile phone, with varying of the relationship. In the occupational pension proportions in the individual countries. Kenya has scheme, it is the employer and employee; in this the highest mobile phone ownership coverage, with case, it would be the provider and the customer. eight of every ten Kenyans owning a mobile phone. Therefore, there is potential to deliver pension In both cases, the employer and provider want to products through mobile phones. The use of mobile retain the employee and customer, respectively, phones can tremendously increase pension sector for the longest time possible. The pension benefit coverage across the East African countries. Kenya provides the perfect incentive to enable both the and Uganda are already experimenting with this employer and provider to achieve their objectives. pension distribution model. However, it is still too The pension plan will be considered as a cost of early to make a judgement about the viability of customer retention on the part of the provider, which this distribution model. can then be recovered with higher revenues and profits from increased customer loyalty and repeat sales. This approach could substantially increase Rethinking Pension Business the pension coverage among the self-employed Models and informal sector workers by leveraging strategic To address the challenges of irregular incomes and partnerships that are aligned to their needs. the short-term perspective of savings prevalent in the informal sector, a rethinking of the design of the Dedicated Administration and formal pension plan product/service offering will Government Support be required. The product needs to be designed in such a way that it can accommodate the seasonal Pension schemes targeted to the masses have income cashflows of most of the workers in the largely been successful in markets where they informal sector. have received a dedicated commitment from the government in terms of mass sensitization and One possible approach that could align the pension matching contributions to the schemes. Given the product to the behavior of the target market is low-income levels and intermittent cashflows, to bundle the pension plan with a product that is the population market segments targeted by these consumed most by the target market. In most cases, schemes cannot sustainably contribute toward the pension productly will be offered as a bonus their retirement savings without a boost from the rather than as a direct product to the customer. government. In East Africa, Rwanda has taken this For example, if a microfinance bank which offers route, and it remains to be seen if the successes micro-credit products mainly to clients in the brought by government support in other markets informal sector entered into a partnership with a will be replicated in Rwanda as well. It is already pension fund manager, it could offer a pension evident in both Kenya and Uganda that the private plan to its clients who take loans of a certain size sector, when left to itself, cannot sustainably or duration. Thus, as the clients go about their operate pension schemes targeting the low-end of normal short-term business, they are rewarded with the market. a pension plan. This could act as an incentive for the microfinance institution to retain its customers for a longer duration. It could also encourage good PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 69 Targeted Financial Capability Furthermore, for the financial capability programs Programs to be effective, they need to be targeted to focus on an uptake of pension products already on the The approach taken to increase access and usage market that are designed to meet the needs of the of pension offerings in the informal sector needs to informal sector. The programs need to be linked be complimented by targeted financial capability to pension products that potential customers can programs. Given the uniqueness of pension easily take up once they have fully appreciated the offerings, it will take more than sensitizing the value of pensions. potential customers about the products. Focus needs to be placed on building the financial capability Noting that cost-effective financial education of the customer, which goes beyond literacy, to programs with real impact are difficult to design and address issues of financial management, investment implement, programs need to be developed at all advice seeking, planning for the future, and making levels of society to increase the levels of financial choices between different financial products. The capability of the targeted population. customer needs to appreciate how pensions are an integral part of their social wellbeing, even when their consumption patterns differ. 70 | CHAPTER 6: EAST AFRICA’S EXPERIENCE WITH RETIREMENT SCHEMES FOR THE INFORMAL SECTOR CHAPTER 7 PENSION SYSTEM ADEQUACY: AN EMPIRICAL ASSESSMENT OF PENSION PAYMENTS IN MAINLAND TANZANIA ‑ Dr. Irene Isaka ‑ This chapter examines the adequacy of the social payments to its members that are sufficient to security system in mainland Tanzania. The main prevent old age poverty and maintain a decent objective is to assess the adequacy of benefits standard of living. The stream of payments ensures to determine whether there is room for further reliable incomes to retirees and beneficiaries, and improvement. The study applies the life-cycle the income smooths lifecycle consumption for the theory of savings and consumption, which predicts majority of members of the schemes (Holzmann a negative correlation between savings and age. The and others 2005). Adequacy means securely methodology used time-series pensioner data from financed pension payments, and adequate income the pension schemes. The simulation was made to members that does not destroy government using average pension payments against average finances or impose any excessive burden on future salaries from the years 2010 to 2045. To assess members of the pension scheme. At the same time, system adequacy, this study deployed a number of the pensions maintain equity, fairness and solidarity. system adequacy ratios, such as demographic ratios, system replacement ratios and coverage rates. The main objective of achieving adequacy is to ensure that all older people enjoy a decent living Results show favorable demographic ratios. standard, share in the economic well-being of their However, actual pension payments are below the country, and participate actively in public, social statutory level of replacement rate, as stipulated in and cultural life. Payment of pension benefits the respective establishing legislation. The results requires the systematic redistribution of benefits also show that there is no room for improvement over the life cycle of a member between members of pension payments without addressing parametric or between generations (Draxler and others 2009). reforms. The study’s policy implication is that For instance, the EU level has set adequacy as one despite high statutory replacement rates, the of the objectives of pension schemes. Specifically, monthly pension payments are inadequate due it states that “public earnings-related schemes (first to huge commutation (pension gratuity) and low pillar), private occupational schemes (second pillar) catchment levels. The main policy instruments and individual retirement provision (3rd pillar) are: increased social security awareness, enhanced provide good opportunities for most Europeans to compliance, reduced administrative costs. and maintain their living standards after retirement.” introduction of parametric reforms. (Fornero and others 2005). Three dimensions of adequacy are considered Introduction critical, including: consumption smoothing, Pension adequacy is the degree at which pension mitigating poverty, and maintaining the payments meet the objective of social security, that intergenerational standard of living. Consumption is, income smoothing and prevention of poverty. smoothing is the first because the individual Adequate pension systems88 provide periodic maintains the same or a better pattern of income PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 71 after retirement (Bernheim and others 2003). The Theory of Adequacy of second dimension of adequacy is an anti-poverty Pension Systems focus, whereby the pension system can deliver a universal basic benefit/social assistance granted on The adequacy of pension payments can be explained a citizenship basis. The other part of this equation by use of the Life-cycle hypothesis (LCH) (Ando is that the system aims more toward actuarial and others 1963). The LCH predicts an increase fairness of pension payments (Draxler and others in savings during the early stages of the life cycle, 2009). The third dimension relates to generational which then decreases at a later stage. The theory effectiveness, which compares the living standards suggests that at an early stage, a household or of the generations. In so doing, it may call for a individual will borrow; after the early stage, they redistribution of income between generations. will save for retirement. Then they will reach a maximum point beyond which they start to dissave. Adequacy can be measured by the quantity and quality of benefits offered by the system; Thus, the insufficiency of the pension payments the involvement of the beneficiaries and other would undermine the social security principle of stakeholders; state guarantees; turn-around time adequacy, which advocates that a stream of income of benefit payments; and the benefit equivalence to the retiree be adequate to enable the person to scales or replacement rates (that is, actuarial live a decent life in retirement. Hence, adequacy of fairness), which basically relates to the degree benefits depends primarily on the level of savings, to which the replacement of income matches an the density of contributions, the replacement rates individual’s income before retirement. Normally, in and catchment influences. The system that uses a the discussion of adequacy, one can always have consolidated approach, whereby insurable income recourse to the notion of actuarial fairness. includes all allowances, tends to produce more adequate benefits. However, this complicates The actuarial fairness is indicated by the accrual saving patterns, whose effect has not yet been rates (replacement rates). The accrual rate of the determined (Crown 2002; Feldstein 1974). This mandatory pension schemes in Tanzania ranges is mainly because, in theory, consumption would between 67 and 77 percent for a contribution not be continuous as expected from savings for of period of 35 years. This is regarded as an retirement. adequate accrual rate internationally because the ILO minimum standard is 40 percent. However, According to Baranzini (2005), at the early ages beneficiaries (especially pensioners) have been of the lifecycle, there will be no savings provided persistently complaining about low monthly for by the individual. Rather, it is assumed that pensions. This chapter will assess the situation, income earnings and, therefore, savings would start determining the main cause of the complaints, at the age of 20. As a person grows and ages, both specifically whether actual payments are in line with income and consumption increase up to the age the statutory accrual rates, and whether there is room of 55, when income reaches a peak beyond which for enhancement of monthly pensions. It will also dissaving and dependence on pension funds starts examine the adequacy of the system by employing (Figure 19). In the case of an inadequate pension, ratios such as the coverage ratio, the demographic the amount of pension received (GH) is less than ratio, and the system replacement ratio. The chapter the level of consumption (EF). Hence, inadequate also introduces indexation to the analysis. pensions make the pensioner worse-off, assuming the pension is not indexed. Modigliani assumed that income remains constant during the working 72 | CHAPTER 7: PENSION SYSTEM ADEQUACY: AN EMPIRICAL ASSESSMENT OF PENSION PAYMENTS IN MAINLAND TANZANIA Figure 19: Initial Negative Savings Ratio and Inadequate Retirement Pensions Consumption C D A E Consumption, Income Income G B F H Pension 20 45 55 60 80 Age AF: Consumption BD: income C: income=consumption CD : income greater than consumption CE GH: pension less than consumption EF Source: Modified from the Life-Cycle Theory of Modigliani, Brumberg and Ando (Baranzini,2005). life and reaches a maximum point at the retirement Empirical Literature age. He also assumed that consumption patterns remained the same during the lifecycle, and that The empirical literature concerning the adequacy of there were no inheritances (bequests) (Modigliani pension schemes is diverse. Whereas some studies 1980; 2001). focus on the adequacy of pension benefits with respect to consumption patterns of individual(s) The adequacy of a pension system is positively at retirement, others address the objectivity correlated with the adequacy of pension benefits of adequacy. Alternatively, some measure the (Holzmann and others 2005). Hence, to be adequate, adequacy to compare results obtained using the pension has to provide extensive benefits to different methodologies. the beneficiaries throughout their lifecycle. Also, these benefits should smooth income to reduce or Filip (2012) analyzed adequacy using income, avert poverty in old age for retirees. If the pension covering 26 European countries, and found that scheme is adequate, as indicated in Figure 20, then the most adequate pension systems were those of the amount received by a retiree should be equal Austria, France, Germany, Luxemburg, and the to the level of consumption. It is assumed that the Netherlands. The countries whose pension systems pension is indexed in line with the increase in the were least adequate included Cyprus, Estonia, cost of living. Other assumptions are as presented Latvia and Lithuania. The synthetic approach is by Modigliani (Modigliani 1980; 2001). advantageous for analyzing issues differently. However, the major drawback is the relativity of the assessment of adequacy. For instance, Filip PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 73 Figure 20: Initial Negative Savings Ratio and Adequate Retirement Pension Consumption C D A G Pension Consumption, Income E B Income H F 20 45 55 60 80 Age Source: Modified from the Life-Cycle Theory of Modigliani, Brumberg and Ando (Baranzini 2005). (2012) places Norway in the category of countries benefit ratio over the years 2008-2060 across with inadequate pensions, whereas Global Pensions these EU countries. The analysis was based on the Watch places Norway in the best 10 countries in Gross Replacement Rate (GRR) of earnings. The terms of welfare of the elderly. GRR is a measure of average pensions as a share of the economy. The results suggested that future La Rochelle-Cote and others (2010) used a pensioners of Austria, Estonia, France, Poland, Longitudinal Administrative Database (LAD) that Portugal, and Sweden were at high risk of lower covered a period of 26 years from 1982-2007 to pensions. Additionally, six countries showed a examine the extent to which family income during considerable decline in the value of their pensions. their working years is replaced during retirement. Zaid (2010) concluded that pension reforms The focus was on individuals aged 54-56 in 1983, protected low earners in the Belgium, Finland, and their incomes were tracked until they reach France, Germany and the United Kingdom. 77-79 years of age. The study observed that some However, Austria, Italy and Portugal experienced individuals had very low replacement rates (about a decline in adequacy, whereas in other countries 20 percent had replacement rates of 6 percent). such as Hungary, Poland and Slovakia, payments The study concluded that replacement rates during were strengthened. retirement were inadequate, including negative correlation with family income. Borella and others (2009) used a Comprehensive Replacement (CORE) rate to analyze the adequacy Zaid (2010) examined the adequacy issue by of benefits in European countries. The study assessing the financial sustainability of public used the European Community Household Panel finances in 13 EU countries. Among other (ECHP) data to compare individual standards of components, the study analyzed the public pension living when working and retired. Projections were 74 | CHAPTER 7: PENSION SYSTEM ADEQUACY: AN EMPIRICAL ASSESSMENT OF PENSION PAYMENTS IN MAINLAND TANZANIA made for individuals aged 65-69 over the average US. Using information of 1,797 retirees aged 62-67 of 15 years before retirement, that is from ages years in 1973, and 1,422 household members aged 50-54. The countries included Denmark, France, 64-69 in 1975, the study found that, on average, Germany, Italy, Spain, and the United Kingdom. consumption of about 500 whites aged 62-69 was The results of the study suggested a decrease in inadequate to cover their day-to-day requirements adequacy as the replacement rate declined. For after retirement. Conversely, the retirement benefits instance, in France, the CORE declined from were adequate to cover consumption expenditures 57 percent in 2020 to 47 percent in 2050. Other of the white married couples included in the study countries that showed a declining replacement rates in 1973. included Germany and Spain. The study also found Denmark, Luxembourg and the United Kingdom Empirical studies regarding adequacy issues in to be more stable. Countries that indicated an Africa are very scarce. A few studies were conducted increase in adequacy included Hungary, Latvia, the by international organizations between 2008 and Netherlands, and Slovakia. 2010. These studies applied a social protection model to study adequacy of the pension system. For Mintz (2009) assessed retirement income adequacy instance, the ILO (2006, 2008 and 2010) performed in Canada following a sharp decline in stock values a critical analysis of social protection interventions in 2008. The study observed that the financial in Mainland Tanzania, Zanzibar and Zambia. The crunch had affected income levels of individuals. main finding was that social security interventions For example, low-income Canadians needed were inadequate to prevent poverty at old age. to replace higher levels of income during their Accordingly, the studies recommended reforms of retirement, whereas higher-income Canadian needs the existing social insurance schemes, with special were lower. The study found that the 60 percent emphasis on health care and maternity. By design, replacement rate of pre-tax income was adequate these studies were very broad; as such, they did to maintain the standard of living. Mintz (2009) not analyze the social security sector very deeply, also concluded that there is no exact rule regarding especially the pension schemes. replacement rates in Canada because replacement levels depend on a number of factors, such as the In sum, most of the reviewed studies analyzed size of the household, the existence of disabilities adequacy issues by employing both pension and income levels. as well as other incomes (Borella and others 2009; Hamermesh 1984; Hurd and others 2006; Hurd and others (2006) used data for the United La Rochelle-Cote and others 2010; Mintz 2009; States to analyze both expected and actual and Zaid 2010). The approach assumed that consumption patterns at retirement, hypothesizing adequate pension benefits positively influence the that consumption after retirement would be lower. well-being of the beneficiaries. Some analyses used The study analyzed the pattern of expenditures of wealth in both the working and retirement phases the household level and found that the purchase of as a measure of adequacy and found a negative goods and related services declined at retirement. correlation between replacement rates and family The findings were consistent with the lifecycle wealth. However, wealth as a measure of adequacy theory of consumption. is inappropriate when applied to economies with large informal sectors, such as Tanzania. This is Hamermesh (1984) assessed adequacy concerns by because a large chunk of the income is not recorded testing the theory of lifecycle utility maximization in the official statistics. after retirement. The study linked a retirement history survey and social security administration Most of the reviewed studies on adequacy issues data to analyze the adequacy of social security in the focused on the lifecycle earnings, how they PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 75 are distributed across the population, and their Conceptual Framework regarding relationship to age. However, no study examined Pension Adequacy both adequacy and fiscal implications of pension schemes. Also, there was no empirical study that The conceptual framework regarding pension used ratios (that is, demographic, catchment, or adequacy is based on the individual, which will be system replacement ratios) to measure adequacy. referred to hereafter as a member of a social security Instead, most of the studies used replacement scheme. As shown in Figure 21, such a member has rates. Thus, in assessing the social security system a life time of income (A), which is partly used to adequacy in Tanzania, this study has modified the remit contributions (B) to a social security scheme. approach used in the previous studies to include The remaining income is used for consumption (C) the demographic ratio (DR), the catchment ratio and savings (D). The level of contributions to the (CatR), and coverage ratios (CR). social security scheme depends on coverage (E), Figure 21: Conceptual Framework on Pension Adequacy Individual Income (A) Pension Individual Saving Consumption Contribution Underlying (C) Plans (B) (D) factors Pension Assets Pension Coverage (J) Investments (E) (I) Intermediate factors Pension Payments (K) Adequacy Pension Liability Sustainability (F) (L) (H) Outcome Source: Author’s construction. 76 | CHAPTER 7: PENSION SYSTEM ADEQUACY: AN EMPIRICAL ASSESSMENT OF PENSION PAYMENTS IN MAINLAND TANZANIA which includes both the number of members and The duration of a member’s life ends at period T, the amounts contributed. which is determined by the survival probability. At each time (t), the survival probability (t+1) is Coverage is an important component of the represented by (lt). The member enrolls to work adequacy of benefits (F). Adequacy determines at age (t0), and stops working at (t0+g), and his/ both the pension payments/retirement income (K) her preference at time (t) is determined by a utility and sustainability of the social security system (H). function that is specified as: The contributions remitted to the social security schemes are invested (I) in order to build pension Utility = (X1-δ 1 T j T-2 it0) (1-δ) + Eit0 [∑j=1V (∏t=0)Lit0+g)] assets (J). Pension assets are normally used to pay benefits (K) when a member retires. These {1Lt0+j} C (Zit0+j)1-δ ( 1 )……..................….....7.1 c 1-δ payments constitute what is known as a pension liability (L). When the liability created is equal to where Xito is expenditure at time t; Zit is the assets or less than pension assets, the system is adequate that member (i) accumulates to bequeath for an and sustainable. In this case, the pension debt is inheritance (C) at death, c > 0 is the magnitude of called implicit pension debt. However, when the inheritance; V j is the discounting factor; δ is the risk assets are insufficient, the debt created becomes an avoidance factor; Eit0 is labor income determined explicit pension debt. The explicit pension debt has by individual characteristics such as gender, marital to be budgeted and paid for by the State because status, education, and household composition; the pension schemes are unable to pay the pensions. Lit0 is survival probability at the beginning of the working life; L(it +g) is the survival probability at 0 the end of the working life; and Zit0+j represents Empirical Model assets accumulated at the end of the period and Eit (Bagliano and others 2013; Cocco and others A pension system integrates all the social 2005). By considering working members who have components at both the individual and national already registered in schemes, such that: levels. Hence, a pension system’s functioning is not independent of demographic and economic Log Eit = f (A,Mit) + uit + dit ; …………............7.2 factors (Cichon and others 2002; ILO 1997; and t0 ≤ A ≤ t0+g Illinois 1998). Thus, a number of models have been developed to address the system using these (A) is age, (Mit) is a set of demographic factors linkages. One such model is the ILO pension model, of members including sex, literacy and size of the on which this chapter is based. However, in this household. The symbol (uit) is a shock and (nit) study, the ILO pension model has been modified to is a disturbance term, (Bagliano and others 2013). suit the social security system in Tanzania, keeping Symbols (uit) and (dit) are unforeseen contingencies, in line with Bagliano and others (2010) and Coco such that: and others (2005). The model is used to establish whether the social security benefits in Tanzania uit = uit-1 + Ɛit ………..............…………….....7.3 have been adequate. Furthermore, it is modified to accommodate both the accrual rates as stipulated 2 where Ɛit is disturbance distributed as h(0,ƟƐ) and in the legislation pertaining to the social security 2 shock dit is distributed as h(0,Ɵn ). The Ɛit applies to schemes and lifecycle hypothesis, as presented by all members, that is, Ɣ~h(0,ƟƔ 2 ) An idiosyncratic Modigliani and others (1957). component is α ~ h(0,Ɵα 2) uncorrelated across members of the schemes such that: The model assumes a member (i) who optimizes utility throughout his/her entire lifecycle, who also Ɛit = Ɣt + αit……………………................….....7.4 plans to set aside an inheritance (bequest) as well. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 77 Here, the correlation is allowed and a shock element Descriptive Statistics to a member’s income Ɣt and social security returns. However, in the defined benefit (DB) schemes, Table 15 depicts a very wide range for the number the risk of assets is borne by the schemes, not the of pensioners. 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Social Security (Regulatory) Act Principles for Responsible Investment, global No.8 of 2008. statement. https://www.unpri.org/page/ sustainability-is-not-only-important-to-upholding- ______. 2010. National Bureau of Statistics. fiduciary-duty-it-is-obligatory ______. 2012a. National Bureau of Statistics. ______. 2007. “World Economic and Social Survey 2007: Development in an Ageing World.” ______. 2012b. Social Security Laws (Amendments) (E/2007/50/REV.1st/esa/314) http://www.un.org/ Act No. 5 of 2012. esa/policy/wess/wess2007files/wess2007.pdf ______. 2013a. GEPF Benefits Retirement Scheme United Republic of Tanzania (URT). 1978. Act No.8 of 2013. Parastatal Pension Scheme Act No. 14 of 1978 CAP 372. ______.2013b. Population Distribution by Age and Sex. National Bureau of Statistics, Ministry ______. 1997. National Social Security Act No.28 of Finance, Dar es Salaam and Chief Government of 1997 CAP 50. Statistician, President’s Office, Finance, Economy and Planning, Zanzibar. ______. 1998. The Constitution of the United Republic of Tanzania. World Bank. 2016. “Guidelines for Reforming African Pension Systems.” Unpublished paper. ______. 1999. The National Health Insurance Scheme CAP 395. Zaidi A. 2010. “Fiscal and Pension Sustainability”. Present and Future Issues in the EU Countries, ______. 2002. Government Employees Provident European Centre for Social Welfare Policy and Fund CAP 51 of 1942. Research, Vienna. ______. 2003. The National Social Security Policy. 120 | BIBLIOGRAPHY ENDNOTES 1. The Pensions Act (Cap 189) and European 4. For further discussion of the necessary Officers’ Pension Act (Cap. 66) of Kenya protect powers and resources of pension supervisory the interests of retired white civil servants and authorities, see ‘International Organization their widows, most of whom currently live in of Pension Supervisors (IOPS), Principles of the United Kingdom. Pension Supervision. 2. Note that the integrated schemes (those that 5. For further discussion of risk-based supervision, combine civil service and private sector see IOPS Toolkit www.iopsweb.org schemes) are also presented as national schemes. For example, Sierra Leone is higher 6. IOPS Guidelines for The Supervisory than Uganda and Tanzania because it covers Assessment of Pension Funds. civil servants as well. The picture may change if civil servants are excluded. 7. Sections 22A and 26 of the Uganda Retirement Benefits Act. 3. It should be noted that the tax regimes for other income also play a role (assuming 8. Section 75 of the Rwanda Pension Law, individuals choose between different options Section 39 of the Kenya Retirement Benefits when they make savings decisions), but this Act, Section 74 of the Uganda URBRA Act is beyond the scope of pension supervisors. prescribe broad powers at the disposal of their Fiona Stewart is a Lead Financial Sector respective supervisory agencies to effectively Specialist with the Long-term Finance Team intervene and enforce the requirements of in the World Bank’s Finance, Competitiveness the law. and Innovation Global Practice. She provides policy advice on pension and insurance 9. Section 88 of the Rwanda Pension Law, market reforms to governments around the Section 39 of the Kenya Retirement Benefits world, including in the East African region Act, Section 74 and many other sections of and the EAC. Previously, she worked for the the Uganda URBRA Act make provisions for Organisation for Economic Co-operation many offenses of breach of the URBRA Act and Development (OECD) Financial Affairs and accompanying regulations. Division for eight years and led the Secretariat of the International Organisation of Pension 10. Article 65 of Rwanda Pension Law, Section Supervisors (IOPS). Prior to working at the 20 of the Tanzania Social Security Regulatory OECD, Fiona worked in the pension fund Authority (SSRA) Act. The Uganda URBRA industry. Act provides for various circumstances under which licenses of regulated entities can be PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 121 revoked. The Kenya Retirement Benefits Act 17. See Jeffrey Carmichael and Michael empowers the Retirement Benefits Authority Pomerleano, “The Development and Regulation (RBA) to revoke the registration certificates of of Non-Bank Financial Institutions,” pp. 93- schemes and service providers. 128. The World Bank Group, 2002. Available at file:///C:/Users/WINNIE/Downloads/ 11. Section 45 of Kenya Retirement Benefits Act; multi0page%20(1).pdf (accessed July 7, 2018). Section 41 of the Tanzania SSRA; Section 78 of the Uganda URBRA Act, and Section 66 of 18. See Richard A. Johnson and Daniel W. Greening, the Rwanda Pension Law. The Effects of Corporate Governance and Institutional Ownership Types on Corporate 12. The IOPS is a global forum of pension Social Performance, (1999) Academy of supervisors with headquarters at the OECD in Management Journal 42(5): 564-576; E. Paris, France. Philip Davis, “The Role of Pension Funds as Institutional Investors in Emerging Markets.” 13. For further details, see IOPS, “A review of A Paper presented at the Korean Development the Pros and Cons of Integrating Pension Institute conference on Population Aging in Supervision with that of Other Financial Korea: Economic Impacts and Policy Issues, Activities and Services”, IOPS Working Paper Seoul, March 2005. http://buratest.brunel. No.1 (2007). See also IOPS, “Structure of ac.uk/bitstream/2438/3550/1/05-18.pdf Pension Supervisory Authorities and their (accessed May 25, 2018). Approaches to Risk-based Supervision”, IOPS Working Paper No. 16 (2012). 19. Rwanda applies a different regime for the main social security fund, the RSSB, and private 14. Section 5 Retirement Benefits Act, Kenya. pension funds – TTE. 15. This is a type of scheme whereby both the 20. See Sections 154 and 155 of the Constitution of employer and the employee make a defined or the Republic of Uganda. stated contribution to the employee’s retirement benefit. There is no guaranteed benefit and the 21. See Stanbic Bank Uganda, Annual Report 2017, employee receives a payout that is either a lump pp.114 and 150. https://www.stanbicbank. sum (in the case of provident funds), or both a co.ug/standimg/Uganda/fileDownloads/ lump sum and a pension whose value depends UG_AnnualReport2017.pdf (accessed May on the return on investment of the pension 14,2018). funds over the period of the contribution. 22. See Section 22(2)(i) of the Uganda Income Tax 16. These are schemes in which the employer Act, Cap. 340. undertakes to pay to the employee benefits based on the employee’s salary and length 23. S.34 Income Tax (Trading and Other Income) of service with the employer. These types of Act 2005. schemes were commonly used in both private and public employment contracts. However, 24. For a discussion of tax effects on pension they are not considered a good practice now policy, see James L. Bicklser and Andrew H. due to concerns about the ability of employers Chen, “The Integration of Insurance and Taxes to meet these obligations. Several governments on Corporate Pension Strategy,” Journal of and private sector organizations have faced Finance, 1985, 40(3) pp. 943–955. difficulties in meeting their defined benefit obligations. 122 | ENDNOTES 25. See Peter Shonewille, “The Elimination of Tax 38. See clause 13 of the schedule to the VAT Obstacles to Pan-European Pension Funds: Act of 2014. Financial services are broadly An Overview,” https://ec.europa.eu/taxation_ defined under this section of the Act to include customs/sites/taxation/files/docs/body/occ_ transactions relating to shares, stocks, bonds pen_article3.pdf (accessed July 7, 2018). payment of pension and retirement fund benefits. 26. The applicable rate according to Part III of Schedule 3 is 30 percent. 39. Section 21(n) and (o) of the Income Tax Act Cap. 340. 27. National Social Security Fund Transparency Statement for the year ended June 30, 2016. 40. Section 3(2)(c)(i) and (ii) of the Income Tax https://www.nssfug.org/uploads/NSSF_ Act, Cap 470. transparency_statement_2016_new.pdf (accessed June 26, 2017). 41. Section 8(4) of the Income Tax Act. 28. National Social Security Fund Statement of 42. Section 8(5)(a) of the Income Tax Act. Financial Position as of June 30, 2016. 43. Section 8(5)(b) (i) and (ii) of the Income Tax 29. According to the NSSF statement of changes Act. in net assets, total revenues for the year ending June 30, 2016 amounted to Uganda Shillings 44. Section 8(5)(b)(i) and (ii) of the Income Tax 707, 989, 927,000. Act. 30. h t t p : / / w w w. m u r b s . o r g / w p - c o n t e n t / 45. A gain is defined in Section 63(2) as an interest uploads/2016/10/MURBS-Summary- that is in excess of retirement contributions. Financial-Statements-Advert-2016-FINAL-1. pdf (accessed June 26, 2017). 46. Section 63 of the Income Tax Act. 31. Sections 13, 14 and first schedule of the Income 47. Article 16 of Law No. 16 of 2006 on Direct Tax Act, Cap. 470. Taxes on Income. 32. Section 62(1) Income Tax Act. 48. For example, Table G of the Retirement Benefits (Individual Retirement Benefit Schemes) 33. Section 62(2)(a) and (b) of the Income Tax Act. Regulations of 2000 provides for investment guidelines of pension schemes that include 34. Section 62(3)(a) of the Income Tax Act. investments in securities of issuers within the East African Community. 35. See Value Added Tax Cap. 349, S.19 and the second schedule clauses 1(c), 2(b)(iii) and (iv). 49. See Peter Shonewille, “The Elimination of Tax Obstacles to pan-European Pension Funds: 36. See clause 1(k) of the Third schedule of the An Overview,” https://ec.europa.eu/taxation_ Value Added Tax Act, Cap. 476. customs/sites/taxation/files/docs/body/occ_ pen_article3.pdf (accessed July, 7 2018). 37. Article 6 of Law No. 37 of 2012 Establishing the Value-Added Tax. 50. For example, the OECD developed guidelines for private pension supervision in 2002. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 123 51. In Kenya, the case of Shah Munge & Partners 58. GEPF Retirement Benefits Fund Annual Ltd. vs. Capital Markets (Civil Appeals 913 & Performance Report for the Year 2014/2015. 930 of 2003) brought to light the fraudulent acts of the stockbroker that were aimed at fleecing 59. See the IOPS Tool Kit for Risk-based Pension the National Social Security Fund (NSSF). Supervisors, case study Kenya at: www. Shah Munge was a licensed stockbroker and iopsweb.org/rbstoolkit. the other four appellants were directors in the Company. Shah Munge represented to 60. Guidance on Scheme Governance and Controls the NSSF in Kenya that there was a treasury https://www.thepensionsregulator.gov.uk/en/ bond available on the secondary market. NSSF trustees/managing-db-benefits/governance- then issued a check in the amount of KShs and-administration/scheme-governance-and- 251,505,500 (approximately US$ 2,468,996) controls for the purchase of the treasury bonds. However, the treasury bond was not in fact 61. Law No 45/2010 of 14/12/2010 Establishing available, and the appellants authorized the Rwanda Social Security Board and determining deposit of the funds in the company’s office its mission, organization and functioning. account in Euro Bank, which was failing. The appellants withdrew the monies and utilized 62. Section 2, Kenya Retirement Benefits Act them for other purposes. No. 3 of 1997, Section 1, Uganda Retirement Benefits Regulatory Authority Act 2011. 52. New Vision Newspaper, September 14, 2014. 63. All costs are incidental or in relation to the 53. Uganda Retirement Benefits Regulatory registration of members, the collection of Authority, Sector Performance Report 2017. member contributions and the disbursement of Total assets in Uganda amounted to Ugandan member benefits. Shillings to the US$ 10.04 trillion, Kenya 37.80 trillion, and Tanzania 20.00 trillion. 64. In Uganda, natural persons may undertake administrative services for a scheme, in which 54. According to the International Labor case there would not be a requirement for Organization, Social Security is a broad term licensing. that covers aspects relating to protection from insecurities relating to making a living 65. Law No.05/2015 of 30/03/2015 Governing the through work for example old age, retirement. Organization of Pension Schemes. Unemployment. Illness, injury, invalidity. 66. Section 53(2) of the Uganda Retirement 55. Andrew Kasirye, Chairman, URBRA, Benefits Regulatory Authority Act 2011 Statement, Annual Pension Industry Report, 2015. 67. Section 34 (1) of the Kenya RBA Act 56. Kenya National Social Security Fund Act No. 68. Section 41(3) of the Kenya RBA Act 45 of 2013, and the Uganda National Social Security Act (Cap. 222). 69. OEC Pension Fund Governance Guideline 9 57. Section 53 (3) and Schedule 1 of the NSSF Act 70. This refers to Criminal Session Case 9 of 2015 of Tanzania 1997, and the Rwanda Law No. of the High Court of Uganda. The three accused 45/2010. persons were experienced public officers who were responsible for pensions in the Ministry 124 | ENDNOTES of Public Service. The accused persons were 77. World Bank, unpublished research charged with the following counts; causing financial loss, abuse of office, false accounting, 78. Kenya Code of Corporate Governance Practices conspiracy to defraud and diversion of public for Issuers of Securities to the Public (2015). funds. The accused persons budgeted for payment of UGX 88,241,784,930 to the NSSF. 79. The prudent-person rule is a legal maxim This was an anomaly, as the Ministry of Public restricting the discretion allowed in managing a Service is not responsible for the NSSF. Public client’s account to the types of investments that servants do not contribute to the NSSF, and the the prudent-person (also known as the “prudent budget provision for the NSSF was illegal. The man rule”) would adopt. budget item was then reclassified as a gratuity for teachers, traditional servants and veterans. 80. The GIPS are designed as voluntary standards. However, this was also contradictory because However, policymakers can use moral suasion, teachers, soldiers and other pensionable staff cajoling, and so on to influence the fund do not pay NSSF contributions. The funds were manager community, also helping prominent not sent to the NSSF; rather, they were paid to trustee boards to push for this. ghost pensioners through the Cairo Bank. The money was paid to persons whose identity the 81. https://www.finextra.com/blogposting/12460/ Cairo Bank could not confirm. These accounts digital-kyc-a-key-to-transform accessed on were also opened at Cairo Bank before the 22/05/2019 money was illegally budgeted. The Court found the accused persons guilty of causing 82. https://www.finextra.com/blogposting/12460/ financial loss, abuse of office, false accounting, digital-kyc-a-key-to-transform accessed on conspiracy to defraud and diversion of public 22/05/2019 resources. 83. This is an analysis of the 2018 FinScope Uganda 71. OECD Pension Fund Governance Guideline 7 Survey and the 2017 Finscope Tanzania Survey. 72. Section 28(5) Social Security Regulatory 84. Retirement Benefits Authority, Kenya, Mbao Authority Act No. 8 /2008 (Tanzania); Section Pension Scheme, http://www.rba.go.ke/index. 34 (5) Retirement Benefits Act Cap 197 php/en/mbao-pension-scheme accessed on (Kenya); and Section 65 Uganda Retirement 23rd November 2018. Benefits Regulatory Authority Act. 85. MBAO Pension Scheme, 2018. https://spc. 73. According to the Tanzania Social Security socialprotection.or.ke/images/downloads/ Regulatory Authority Act. presentations/Rose-Kwena-MBAO-Pension- Plan.pdf accessed on 5th February 2019 74. Institute of Directors, South Africa 86. MBAO Pension Scheme, 2018. https://spc. 75. The issue of conflict of interest would also socialprotection.or.ke/images/downloads/ apply to public pensions. presentations/Rose-Kwena-MBAO-Pension- Plan.pdf accessed on 5th February 2019. 76. https://www.unpri.org/page/sustainability-is- not-only-important-to-upholding-fiduciary- 87. EJOHEZA - Long Term Savings Scheme, duty-it-is-obligatory https://ejoheza.gov.rw/ltss-registration-ui/ accessed on 5th February 2019. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 125 88. In this chapter, the social security system and 104. Section 24, Retirement Benefits Act pensions system are used interchangeably (Act No.3 of 1997). because the main focus is on the replacement rates. 105. Regulation 8 of the Retirement Benefits Act (Occupational Retirement Schemes) 89. Article 7, ONPR Law. Regulations, 2000. 90. Article 9, ONPR Law. 106. Regulation 8 of the Retirement Benefits Act (Occupational Retirement Schemes) 91. Article 19, ONPR Law. Regulations, 2000. 92. Article 22, ONPR Law. 107. Section 35 of the Retirement Benefits Act. 93. Regulation 26 of the First Schedule of the 108. Rwanda Law Governing the Organization of Pensions Act (Cap. 189). Pension Schemes Article 4. 94. Regulation 4, Pensions Act. 109. Rwanda Law Governing the Organization of Pension Schemes Article 38. 95. Section 8, Pensions Act. 110. Rwanda Law Governing the Organization of 96. Section 10, Pensions Act. Pension Schemes Article 19. 97. Alexander Forbes Financial Services (EA) Ltd. 111. Rwanda Law Governing the Organization of (2005): Actuarial Study on Superannuation in Pension Schemes Articles 47 and 62. the Public Service, Kenya. Unpublished report submitted to the Government of Kenya. 112. Rwanda Law Governing the Organization of Pension Schemes, Articles 59, 60 and 62. 2 98. Other smaller schemes covering specific public service groups (e.g. judges, parliamentarians) 113. Rwanda Law Governing the Organization of with different benefit formulae also exist, but Pension Schemes, Article 49. are not covered in detail here. 114. Minor schemes, such as the political service 99. Section 5, Public Service Superannuation Act retirement benefits (PSRB) scheme, will (No. 8 of 2012). continue to exist as independent schemes. 100. Section 16, Public Service Superannuation 115. Section 5 of the Kenya Retirement Benefits Act (No. 8 of 2012). Act. 101. Section 1 of the First Schedule of the National 116. Section 2 of Kenya Retirement Benefits Act. Social Security Act (Cap. 258). 117. Section 22 of the Kenya Retirement Benefits 102. Section 19 of the National Social Security Act. Fund Act. 118. Section 22(4) of the Kenya Retirement 103. Section 26, National Social Security Fund Benefits Act. Act. 126 | ENDNOTES 119. Regulation 32 of the Kenya Occupational 128. Rwanda Law Governing the Organization of Retirement Benefits Schemes Regulations, Pension Schemes, Article 52. 2000. 129. Rwanda Law Governing the Organization of 120. Section 26 of the Kenya Retirement Benefits Pension Schemes, Article 59. Act. 130. Rwanda Law Governing the Organization of 121. Section 5, Tanzania SSRA Act. Pension Schemes, Article 39. 122. Sections 24(4), 26(2) and 48(a) of the Tanzania 131. Rwanda Law Governing the Organization of SSRA Act. Pension Schemes, Article 47. 123. Chapter II and III of the Rwanda Law 132. Rwanda Law Governing the Organization of Governing the Organization of Pension Pension Schemes, Articles 70, 71 and 72. Schemes. 133. Rwanda Law Governing the Organization of 124. Article 3 Rwanda Law Governing the Pension Schemes, Article 49. Organization of Pension Schemes. 134. Rwanda Law Governing the Organization of 125. Rwanda Law Governing the Organization of Pension Schemes, Article 6. Pension Schemes, Article 34. 135. Rwanda Law Governing the Organization of 126. Rwanda Law Governing the Organization of Pension Schemes, Article 79. Pension Schemes, Articles 47 and 48. 136. Rwanda Law Governing the Organization of 127. The Law No 45/2010 Establishing the Pension Schemes, Article 80. Rwanda Social Security Board [RSSB) and Determining its Mission, Organization and Functioning. PENSION SYSTEMS IN EAST AFRICA—A DEEP DIVE | 127