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The pension conundrum
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By Elvin Bailey
.jpg) Three things about pensions stand out in my mind from our discussions on reform of Social Security: (i) that pensions, once started, exhaust all of the contributions of an insured person, that of his employer(s) and all interest accrued within 7 – 10 years of payment, (ii) the international standard recommended for income replacement re pensions is 42% while our is 60%, and (iii) that our age pensions are based on the best three-year average salary of the last 15 years and starts at age 62. This article sets out to explore the generousity of our system and explains why this combination of factors is unsustainable.
I examined the real life situations of ten old age pensioners, drawn at random. All of them are still alive and all of them have been receiving old age pension payments for nine or more years. The results are as shown in the table. I have highlighted three of them, that of the insured person who paid a premium of just about $45,000 over 15½ years and has received approximately $284,000 from mid 1996 to February 2009; the person who paid $4,075.00 for the same period of time and has collected $54,000.00 since 1993 and the third person who paid $6,300.00 over 27 years and has already received $68,300.00 from 1991. I will allow readers to figure out the rate of return on the investment made into Social Security, and as you do so, keep in mind that after their deaths, there may be payments to survivors as well as the payment of funeral grants. (Note: the contribution paid excludes the employer portion).
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Contributions
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Pension Payments
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Weeks paid
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Amount paid ($)
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% of wage replaced
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Amount received to date ($)
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803
983
765
817
1063
802
1521
1387
1310
1220
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44,246.16
18,434.58
7,107.15
36,208.77
32,854.30
4,057.67
13,863.22
6,304.86
11,870.17
29,130.47
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41
44
40
41
46
41
55
52
51
49
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283,795.17
131,732.66
66,584.43
129,242.91
185,374.34
53,944.40
102,386.48
68,285.72
41,255.77
202,649.05
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Some people may argue that there is too much disparity in the examples given, but even as you do so, remember that rewards from Social Security are wage based as well as density based. That is, the longer one pays contributions for the greater is the percentage of your wage that is replaceable (up to 60%), and the higher the salary (up to the ceiling of $6,500.00 per month), the better is the nominator within the pension calculator. That is why we encourage full disclosure from all persons and encourage people, especially the self employed, to top–up their contributions. It is to your eventual benefit.
In October 2008, while part of a panel during Financial Literacy month, I indicated that I do not know of any word in finance or insurance that describes the type of return on the investment in Social Security that we are asking persons to make. It is not compound interest and certainly not simple interest. Therefore, I challenge all those persons who demanded the right to withhold contributions in order to do self investment to indicate where they would receive a better return on investment!
My best analogy is to describe it like an upside down mortgage. At Social Security, a person pays a small sum each month and receives a large payment each month upon attaining pensionable age. The total received is limited only by the lifetime of the individual, and the insured person is obligated to pay only when working. In a mortgage, one receives a large sum upon approval and is expected to pay a monthly amount, regardless of their employment status. Payment within a mortgage adds up to so much more than that which was borrowed, while pension adds up to so much more than what is paid in. Think about it! Lest anyone misunderstand, Social Security is not against mortgages, they have their place in the economy. Our argument is simply to underline the point that Social Security is an institution that is well worth the investment.
To provide balance in this article, I will admit that some insured persons do not attain age 62. However, our records show that 94% of us do and the vast majority of that 94% live long enough to “empty out” their contribution payments.
The challenge that your Social Security must deal with therefore is what will happen if the pension age remains at 62; if the replacement rate remains at a maximum of 60%; if the pension numerator continues to be based on the best 3 of the last 15 years. In addressing these challenges, I appeal to members to understand that your institution is neither punishing people for longevity, nor attempting to force persons to work for longer, nor seeking to bring pensions and contributions closer. We are simply aiming to make Social Security last forever.
Membership must continue to provide privileges!
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