Until June 2004, Nigeria had operated particularly in the public sector, a defined benefit pension scheme, which was largely unfunded and non-contributory. The system was characterized as pay-as-you-go (PAYG) scheme since retirees were to be supported not by their previous contributions but annual budgetary provisions thus the massive accumulation of pension debt, which was estimated at more than one trillion naira.
Following the apparent collapse of the public sector pension scheme, as evidenced by the thousands if not millions of poor, embittered retirees produced over the years and an equally large number of short-changed private sector workers, the government of Nigeria acted wisely to reform the system with the Pension Act in 2004.
The coming into force of the Pension Reform Act in 2004 has been hailed as a highly workable solution to the issue of pension, which for most employees today, remains the likely source of income in their retirement years.
The new pension scheme came to replace the previous defined benefit scheme. The new scheme is defined contribution scheme, which is contributory in nature, making it mandatory on employers and workers (in the public sector and private sector organization with five or more employees) to contribute 7.5% each of the emoluments of the employee into a Retirement Savings Account (RSA).However, for the military, the contribution rate is 2.5% with the government contributing 12.5%.
Under the old defined benefit scheme, no contributions were made, and projections were required to be made of the pension entitlements of each employee by the employer, with such projections being determined by the employee’s years of service and earnings. Thus, the obligations are effectively the debt obligation of the employer, which assumes the risk of having insufficient funds to satisfy the contractual payments that must be made to retired employees.
However, under the defined contribution scheme, the employer is responsible only for making specific contributions on behalf of qualifying participants. However, the employer does not guarantee any certain amount in retirement. The payment that will be made to qualifying participants upon retirement will depend on the growth of the scheme assets. The main objective of the scheme is to accumulate enough funds to ensure regular monthly payments to the contributor after he or she retires.
A contributor has the option to either buy an annuity from an insurer or draw direct payment from his Retirement Savings Account (RSA) balance to an insurer in exchange for a guaranteed monthly or quarterly payment for an agreed period; this could be risky in that such payment could stop when the retiree dies.
On the other hand, you can have an arrangement for programmed withdrawals from your Retirement Savings Account (RSA), which could guarantee life long payment and a lump payment to a contributor’s survivors in case of death before the funds run out. The scheme also gives allowance for bulk payment to enable a retiree buy a house or start a business provided the balance on the contributor’s Retirement Savings Account (RSA) could fund a monthly payment for the rest of the contributor’s life that is not less than half of the contributor’s last salary.
For example, if your total contribution to a RSA amount to N20,000 per month for a period of 20years at an average annual return of 10% and life after retirement is envisaged to be 25years.You would have accumulated about N15,000,000 and this entitles you to a monthly payment of about N138,000 for that period.
Let us assume you now retire with a monthly final salary of N150, 000 and wants a lump sum payment, which means, you will need to provide for a monthly retirement benefit of N75, 000, you can therefore take a lump sum of N12.9 million or retirement based on funds accumulated.
However, for a person who stars out early to contribute the same amount for 40years at the same rate of returns would have accumulated N126 million in his or her RSA and would be entitle to a monthly payment of N1.1 million.
Since the defined contribution scheme encourages labour market flexibility, the worker is free to move with his or her account as he or she moves to another place of employment and or residence. Finally, the direct contribution scheme is believe to have the potential to generate positive economic externalities, including the promotion of deeper, more competitive, and more liquid financial market.
PENSION FUND ADMINISTRATORS (PFA)
The pension fund administrators and pension fund custodians are to hold and manage the contributions up until the time a contributor retires at the age of 50years or above. The regulation of the scheme is provided by the pension commission to prevent abuses and safeguard the funds under management. However, care should be taken in choosing a PFA (Pension Fund Administrator) to manage your Retirement Savings Account. Most of the Pension Fund Administrators are basically star-ups, though all are link to one group of financial institution or another, such as banks and insurance companies.
Attributes such as a proven knowledge of large fund management, transparency and integrity as well as customer service issues should be consider. A little research into the antecedents and record of accomplishment of the owner institutions and their directors would help in making the right decisions. Remember that no employer can force any staff to use a particular Pension Fund Administrator, while the law allows a contributor to correct any error of choice by moving his or her account from one Pension Fund Administrator to another once a year without having to give reasons.