Pension Insight: The contributory pension scheme — a superior choice for modern times

In an era marked by economic uncertainties and shifting demographics, the need for a robust and sustainable pension system has never been more critical. There is no doubt that the best way to ensure retirement security is via the contributory pension scheme (CPS), which offers a superior alternative to the traditional defined benefits scheme (DBS). This article explores the advantages of the CPS and its suitability for the challenges of the 21st century.

UNLIKE THE DBS, THE CPS REQUIRES REGULAR CONTRIBUTIONS

Firstly, let us clarify the fundamental difference between the two systems. Under the defined benefits scheme, retirement benefits are predetermined based on factors such as years of service and final salary. In contrast, the CPS requires employees and employers to make regular contributions to an individual retirement savings account (RSA). The accumulated funds are then invested, and the retirement benefit is determined by the value of the account at the time of retirement.

One of the primary advantages of the CPS is its sustainability in the face of demographic shifts. As life expectancy and birth rates increase in Nigeria, the burden on traditionally defined benefits systems becomes unsustainable. With a contributory system, the retirement benefit is directly linked to the individual’s contributions and investment returns. This ensures that the pension system remains financially viable, even as the population ages.

Moreover, the CPS empowers individuals to take control of their retirement planning. It offers greater transparency and flexibility, allowing workers to monitor their retirement funds actively. Pension fund administrators (PFAs) send statements of accounts to RSA holders periodically, entrenching the culture of transparency in the CPS.

ACCOUNTS ARE TRANSFERABLE UNDER THE CPS

In addition, RSA holders are allowed to transfer their accounts from one PFA to another once in a year, giving them control over their pension funds. In contrast, the defined benefits scheme often provides little information or control to employees, leaving them uncertain about their future financial security. The CPS instils a sense of ownership and personal responsibility, encouraging individuals to make informed decisions and adjust their savings accordingly. The Pension Reform Act 2014 (PRA 2014) allows employers and employees to make additional contributions and even increase the minimum 10 percent employer and 8 percent employee contribution. These flexibilities do not exist under a defined benefits arrangement.

Another compelling advantage lies in the portability and mobility offered by the CPS. In today’s dynamic job market, where career changes and relocations are increasingly common, individuals require flexibility in managing their retirement savings. With contributory pensions, employees can seamlessly transfer their accumulated funds when changing jobs, ensuring continuous growth and uninterrupted savings accumulation. This mobility empowers workers to pursue new opportunities without sacrificing their retirement security.

EQUITABLE DISTRIBUTION OF BENEFITS

Furthermore, the CPS promotes fair and equitable distribution of retirement benefits. Under the defined benefits system, the pension payouts are often heavily skewed in favour of long-tenured employees. Sacked employees and those who worked less than a certain number of years end up without retirement benefits under defined benefits arrangements. This creates disparities and inequities within the pension system. In contrast, the contributory system ensures that retirement benefits are based on the individual’s contributions and investment returns, eliminating biases and promoting a more egalitarian approach to pension provision.

The National Pension Commission (PenCom) developed strong investment guidelines underscoring fair returns and the safety of pension funds. PFAs strictly adhere to these guidelines, ensuring a steady growth of pension assets. As of March 2023, total pension assets stood at N15.58 trillion and still growing. Noteworthy is that the defined benefits system carries its own risks, as demonstrated by numerous cases of pension funds facing significant shortfalls and delays in payments to retirees due to non-release of budgeted funds.

Government is already overburdened with the payment of pensions under the DBS. There are competing demands on the federal government, which limited revenues cannot meet. By embracing a contributory approach, individuals have the opportunity to harness the potential growth of their retirement funds, ultimately leading to more substantial and sustainable benefits.

ENDLESS VERIFICATION PROCESSES UNDER THE DBS

The DBS exposes retirees and employees nearing retirement to endless verifications. There are risks of inefficiencies and malpractices in pension administration under defined benefits arrangements due to a lack of transparency. On the contrary, the CPS has sufficient safeguards to protect pension funds.

Significantly, the CPS ensures timely payment of pension, which was one of the objectives of the pension reform in Nigeria. From the inception of the CPS to March 2023, a total of 326,248 pensioners on programmed withdrawal have been paid N941.66 billion as a lump sum and N14.66 billion as monthly pension. Similarly, within the same period, a total of 108,552 pensioners on Retiree Life Annuity have been paid N16.66 billion as a lump sum and N6.54 billion as monthly pension.

In conclusion, the CPS represents a progressive and adaptable approach to retirement security, tailored to the needs of the modern era. Its sustainability, transparency, portability, and equitable distribution of benefits make it a superior alternative to the traditional defined benefits system. As Nigeria navigates the challenges of an evolving economic landscape and changing demographics, it is imperative that public and private employers and employees embrace innovative solutions that empower individuals and ensure their financial well-being in their golden years. The CPS offers precisely that, heralding a new era of retirement security for all.

Based on information by the National Pension Commission (PenCom)