INSTITUTE OF RETIREMENT FUNDS

28 May 2007

Representations: Pension Funds Amendment Bill 2007

We hereby submit representations and comments on behalf of the Institute of Retirement Funds ("IRF") on the Pension Funds Amendment Bill 2007 for consideration by Parliament.

To the extent that the IRF submitted comprehensive comments in November 2006 and March 2007 on the previous draft Pension Funds Amendment Bill, and such comments were incorporated into the amendments, these have not been repeated. We commented on retroactive provisions, and believe that the benefit of such may merit attention. However, reference is made to the IRF's previous comments where necessary.

This submission comprises 3 components, namely:

1. General Comment

2. Detailed submission on Divorce on Section 370 of the proposed Pension

Fund Amendment Bill of 2007; and Paragraph B of the Second Schedule of the Income Tax Act

1. General

1.1 The definition of "spouse" refers to "permanent life partner". It is not clear that this is appropriate in relation to any of the statutes or religious tenets subsequently mentioned in the definition. Thus the following is proposed wording is submitted:

"spouse" means a person who is a partner or spouse in

 

         a marriage in accordance with the Marriages Act, 1961 (Act No. 25 of 1961);

 

         a customary marriage in accordance with the Recognition of Customary Marriages Act, 1998 (Act No. 120 of 1998);

 

         a civil union in accordance with the Civil Union Act, 2006 (Act No. 17 of 2006); or

 

         a union validly concluded under a system of religious law.

 

1.2 Section 11 of the Bill:

We refer to point 1.4 of the IRF submission on the first draft of the Bill, which raised concerns about inter alia nil schemes. Section 15B(11) can be construed to require all funds that have already submitted nil schemes to do so again. Should this not be the intention, it should be clarified in the legislation. We propose an additional proviso to section 40B of the Act as follows:

"Provided further that in the case of funds that have prior to the effective date made submissions stating that the funds had no actuarial surplus to apportion in terms of section 15B, the Registrar must inform each such fund of whether or not its submission satisfies the requirements of this amendment and, if not, grant such fund a reasonable period of time to review its submission and submit a nil return or a scheme, as may be appropriate."

1.3 Section 26 of the Bill:

An issue with section 37(1) is the high daily maximum, although it may be argued that it is correct to have the limit in the body of the Act.

The current minimum penalty of R50 is insufficient, however, the proposed maximum penalty of R5m per day appears unjustifiably high. Imposing the maximum on a fund could bankrupt that fund.

1.4 Section 27(a) of the Bill:

Section 37C: The rules of most of DC funds provide that the death benefit is a pension payable to the dependants/nominees, which pension may on application be commuted. If the Bill is passed in its current form, all these death benefits will be removed from the ambit of 37C, which is not the intention. The Bill should only exclude specifically the spouse's and children's pensions provided for in terms of fund rules.

2. Section 28B(b) of the Bill:

Detailed submission on the division of pension interests on Divorce on Section 37D of the proposed Pension Fund Amendment Bill of 2007; and Paragraph B of the Second Schedule to the Income Tax Act

2.1 Introduction

Due to the urgency thereof, the submissions contained herein will only deal with the divorce provisions contained in the abovementioned proposed Pension Fund Amendment Bill and the Taxation Laws Amendment Bill, 2007. We shall also briefly deal with the issue of Maintenance orders on funds.

The submissions contained herein relate to both the above pieces of proposed legislation because the tax submissions and the pensions bill submissions are inextricably linked.

The sections which are referred to herein are:

 

         the proposed section 370 changes

 

         Section 7(8)(a) of the Divorce Act which is referred to in the proposed section 370 amendment.

 

         Section 7(8)(b) of the Divorce Act

 

         Paragraph 2B of Second Schedule which deals with the taxation of the amount allocated to the non-member spouse.

 

For ease of reference we have attached a copy of the three pieces of legislation in annexure A hereto.

2.2 Background

2.2.1 Proposed section 37D read with section 7(8)(a) of the Divorce Act


When the draft legislation was first released which incorporates the welcome clean break principle at date of divorce, there were divided views on whether the proposed legislation sought to tax the non-member's portion at date of divorce or at a later date when the member became entitled to benefits in terms of the rules of the fund, eg at retirement or resignation.

At a meeting between the IRF Legal and Technical Committee and representatives of SARS; National Treasury and the FSB, Mientjie Botha on behalf of National Treasury indicated an expectation that the tax would be due when the allocated portion accrues to the non-member spouse.

         On an early reading of the proposed legislation, it was assumed that this was because it had been had interpreted that the legislation would allow for a deemed accrual of the "pension benefit" at date of divorce, merely for this limited purpose

 

         This would have allowed for the fund to have paid over the gross allocated portion to the non-member spouse.

 

         It would then have allowed for tax to be paid by the fund out of the remaining pension benefit which was deemed to have accrued on date of divorce.

 

         The member would then have had a right of recovery of the tax from the member under the proviso to Paragraph B.

 

         Unfortunately on actual accrual from the fund, the benefit would have been taxable again. Hence the need for the tax on tax formula was discussed.

 

However on a more careful reading of the proposed legislation we have reached the following opinion.

         The fund may deduct from the member's benefit or actuarial reserve an amount assigned to a non-member spouse from the member's pension interest.

 

         The legislation refers to section 7(8)(a) of the Divorce Act. It deems the pension benefit referred to in that section to accrue to the member on the date of the court order. The pension benefit to which Section 7(8)(a) refers is the part of the pension interest which is allocated to the non-member.

 

         Therefore only the portion allocated to the non-member is deemed to accrue at date of divorce. Neither the pension interest nor the pension benefits or actuarial reserve is deemed to accrue on date of divorce under section 370.

 

2.2.2. Paragraph 28 of the Income Tax Act

On a reading of the proposed paragraph 28 of the Second Schedule to the

Income Tax Act the following is noted:

 

         Paragraph 28 applies to the case in point where a court has made an order that any "part" of the pension interest must be paid to a former spouse of a member

 

         It deems "that part" to accrue to the member on the date on which the PENSION INTEREST, of which that amount forms part, accrues to the member.

 

Therefore from the reading of the above three sections together the following is noted;

 

         Only the non-member's allocated portion accrues at date of divorce

 

         The pension interest only accrues when the member becomes entitled to a pension benefit under the rules of the fund.

 

         Taxation of the non-member's allocated portion is postponed until the date on which the pension benefit accrues. It is not due on date of divorce.

 

         It appears that the intention of National Treasury is not borne out by the proposed legislation.

 

2.3 Recommendations

2.3.1. Divorce orders after the date of the new legislation

The following changes are proposed which is believed to be equitable to all concerned. The following will state the intended effect. We will thereafter provide suggested changes to the wording of the legislation to give effect to the changes.

Proposed changes

         The non-member's allocated portion is deemed to accrue for tax purposes on date of divorce.

 

         The tax is payable at the member's average rate of tax and is deemed to be the member's liability for tax

 

         The tax is payable from the non-member's allocated portion

 

         The fund will deduct the tax payable by the member from the allocated portion and pay the amount over to SARS.

 

         The fund will pay the net amount of the allocated portion directly to the non member in cash within 60 days where after interest will be payable

 

         The right of recovery will be removed from Paragraph 2B

 

The effect:

         SARS is able to tax the non-member's allocated portion on date of divorce in line with its expectation

 

         The tax is payable at the member's average tax rate. There has been some debate as to whether in future the allocated portion should be taxed at the non-member's tax rate. On reflection, it is submitted that the taxation of the benefit at the member's tax rate is correct in principle. The Divorce Act deems a Pension Interest, as defined, to form part of the member's patrimonial assets on divorce. However, a member's interest in a fund is a taxable asset. If the member were able to withdraw from the fund at date of divorce, only the net proceeds after tax would fall into the member's estate to be available for division on divorce.

 

         The non-member is only entitled to the net amount and therefore it is equitable for the tax to be withheld by the fund prior to payment of his! her allocated portion.

 

         Submissions will be made in our second report for the Divorce Act to be changed in the longer term. But support for our view that tax may be deducted is also contained in section 7(8) (b) which provides the following:

(b)

any law which applies in relation to the reduction, assignment, transfer, cession, pledge, hypothecation or attachment of the pension benefits, or any right in respect thereof, in that fund, shall apply mutatis mutandis with regard to the right of that other party in respect of that part of the pension interest concerned.

 

         Income Tax is "any law" which will result in a reduction of the rights of the non-member spouse in relation to that part of the pension interest concerned.

 

         It removes the need for the member to exercise an almost impossible right of recovery of the tax from the non-member spouse.

 

         It gives real effect to the clean break principle.

 

2.3.2 Application of the clean break principle to divorce orders which have been made against funds prior to the new legislation.

Proposed changes


         It is submitted that, in principle, the clean break principle should be extended to existing divorce orders.

 

         The current wording of the proposed Pension Fund Amendment Bill does not provide for the new provisions to apply retrospectively.

 

         The proposed legislation needs to be amended to allow this as historically large numbers of non-member spouses have suffered and will continue to suffer unfairly due to inequitable provisions which have existed in the law since 1989

 

         Regard needs to be had to the administrative and liquidity burden which may befall approved funds which are faced with an avalanche of non-member spouses making claims which were unexpected for an extended period of time.

 

The effect

Therefore, in light of the above, the following is proposed:

         The legislation is to apply retrospectively

 

         In order for it to potentially have a staggered effect in practice, there will not be an automatic earlier accrual

 

         The date of accrual of the allocated portion to a non-member spouse with an existing divorce order will be deemed to accrue on the date of claim.

 

         Date of claim will be defined and will be on the date of receipt by the fund of a written request for payment after the date of the new legislation.

 

         Wording to this effect will be introduced in both the Pension Fund Amendment Bill and the Taxation Laws Amendment Act to reflect this

 

         Suggested wording is drafted hereunder.

 

2.3.3 The proposal to allow a transfer to a new fund: It is submitted that the option to transfer should preferably be removed.

         The member has already been taxed on the benefit, so only the net amount would be transferred. However there is no provision in the Second Schedule which provides the non-member spouse with a credit for that tax payment on exit from the transferee fund. Therefore the non-member would be taxed again on the benefit.

 

         Proposals for transferability to another approved fund were linked with the idea of a gross payment of the allocated portion to the transferee fund and for the tax liability to fall on the non-member on exit from the new fund. This situation does not currently apply so this provision should be removed.

 

         There is also a view that the Divorce Act authorises the fund to only make a payment in cash to the non-member spouse.

 

         Failing the removal of the transfer benefit, the Income Tax Act will need to be amended to provide the non-member spouse with a credit or deduction for the after tax nature of the transfer to the transferee fund, which may be cumbersome.

 

2.4. Suggested amendments to section 37D and paragraph 28 of the Second Schedule to give effect to the submissions referred to above

2.4.1 paragraph 28

28. For the purposes of paragraphs 1 A, 2 and 2A, where a court has made an order that any part of the pension interest of a member of a pension fund, provident fund or retirement annuity fund shall be paid to the former spouse of that member, as provided for in the Divorce Act, 1979 (Act No. 70 of 1979);

(i) the amount of that part is deemed to be an amount that accrues to that member on the date of the order of Divorce.

(ii) In respect of an order of divorce which precedes the enactment of the Pension Fund Amendment Act? of 2007. the date of accrual shall be deemed to be the date on which a written claim for payment is received by the fund from the former spouse of the member after the aforesaid legislative enactment.

Provided that the tax shall be deducted from that part of the pension interest payable to the former spouse of-the member
.

2.4.2 Suggested amendments to the proposed Section 37D

A registered fund may.....

"(d) deduct from a member's benefit or minimum individual reserve:

(i) any amount assigned to any other person in terms of a valid maintenance order made by a competent court; [ The issue of Maintenance requires some clarification as there are many difficult areas which need to be discussed prior to our making any further submissions on this issue. See note on Maintenance at the end of this document]

(ii) any amount assigned from his or her pension interest to a non-member spouse in terms of a valid order made by a competent court in terms of section 7(8)(a) of the Divorce Act, 1979 (Act No. 70 of 1979).

(e) For purposes of section 7(8)(a) of (Act No. 70 of 1979) the pension benefit referred to in that section is deemed to accrue to the member:

i. on the date of the court order: or

ii. In the case of a court order which was made prior to the enactment of this legislation. the date of accrual shall be deemed to be the date on which a written request for payment is received by the fund from the non-member spouse after the enactment of this legislation.

Provided that-

(i) such deduction shall be effected by the pension fund named in the order upon receipt of the order or the written request for payment. as the case may be.

(ii) 'such 'deduction shall have the effect of reducing the accrued benefit it at the date of such deduction;

(iii) the assigned amount. after any reduction which is made in consequence of the provisions of the Second Schedule to the Income Tax Act. shall be paid by the fund directly to the non-member spouse in cash and such payment must take place within 60 days of receipt of the order of court

(iv) the non-member spouse (words deleted)shall not acquire the rights of a member or beneficiary in relation to the pension fund; and

(v) the non-member spouse or other person shall be entitled to the accrual of interest on the assigned amount at fund return from the expiry of the period referred to in subparagraph (iii), (words deleted) but not to any other interest or growth.

2.5 Maintenance orders

2.5.1 Section 370: The proposed (1 )(d) now merely refers to a deduction of "any amount assigned to a non-member spouse or any other person in terms of a valid order made by a competent court". It is submitted that this should be limited to section 7(8) divorce orders and perhaps maintenance orders(although the latter are already dealt with in 37 A). If not, then the door is open for any court to order deductions from pension benefits for non- 7(8) divorce orders or for any other purpose whatsoever.

2.5.2 The issue of Maintenance orders is encompassed by the words "any amount assigned from his or her pension interest to a non member spouse or ANY OTHER PERSON".

The term pension interest is a defined term in the Divorce Act and it only applies to spouses. Therefore Divorce orders and Maintenance orders "to any other person" need to be separated .and dealt with ir. different sections.

2.5.3 In summary:

The intended reach of the legislation is unclear. It is suggested that the ambit be restricted to divorce orders and maintenance orders until the implications of extension to other types of court order have been investigated, and that the applications to divorce orders and to maintenance orders be clearly separated in the provisions.

Pension Interests on Divorce

Annexure" A"

A. For ease of reference the appropriate sections of the applicable legislation are recorded immediately hereunder.

1. The applicable portion of the proposed section 37D

Section 37D provides for a fund to make certain deductions from pension benefits

Section 370 of the principal Act is amended -

........................................................

.........................................................

(b) by the addition to subsection (1) of the following paragraph:

A registered fund may.....

"(d) deduct from a member's benefit or minimum individual reserve, as the case may be, any amount assigned from his pension interest to a non-member spouse or any other person in terms of a valid order made by a competent court. For purposes of section 7(8)(a) of the Divorce Act, 1979 (Act No. 70 of 1979) the pension benefit referred to in that section is deemed to accrue to the member on the date of the court order. Provided that-

(vi) such deduction shall be effected by the pension fund named in the order upon receipt of the order;

(vii)

(ii) such deduction shall have the: effect of reducing the accrued benefit at the date of such deduction;

(iii) the non-member spouse shall have the option to elect that the assigned amount be paid directly to him or her, or that it be transferred to an approved retirement fund on his or her behalf, and such transfer or payment must take place within 60 days of such election having been exercised;

(iv) the non-member spouse or other person shall not acquire

the rights of a member or beneficiary in relation to the pension fund; and

(v) the non-member spouse or other person shall be entitled to the accrual of interest on the assigned amount at fund return from the expiry of the period referred to in subparagraph (iii) until payment or transfer thereof, but not to any other interest or growth.

2. Relevant sections of The Divorce Act


"pension interest", in relation to a party to a divorce action who-

(a)

is a member of a pension fund (excluding a retirement annuity fund), means the benefits to which that party as such a member would have been entitled in terms of the rules of that fund if his membership of the fund would have been terminated on the date of the divorce on account of his resignation from his office;

(b)

is a member of a retirement annuity fund which was bona fide established for the purpose of providing life annuities for the members of the fund, and which is a pension fund, means the total amount of that party's contributions to the fund up to the date of the divorce, together with a total amount of annual simple interest on those contributions up to that date, calculated at the same rate as the-rate prescribed as at that date by the Minister of Justice in terms of section 1 (2) of the: Prescribed Rate of, Interest Act, .1975 (Act No. 55 of 1975) for' the purposes of that Act

(7) (a) In the determination of the patrimonial benefits to which the parties to any divorce action may be entitled, the pension interest of a party shall, subject to paragraphs (b) and (c), be deemed to be part of his assets.

(b) The amount so deemed to be part of a party's assets, shall be reduced by any amount of his pension interest which, by virtue of paragraph (a), in a previous divorce-

(i) was paid over or awarded to another party; or

(ii) for the purposes of an agreement contemplated in subsection (1 ), was accounted in favour of another party.

(c) Paragraph (a) shall not apply to a divorce action in respect of a marriage out of community of property entered into on or after 1 November 1984 in terms of an antenuptial contract by which community of property, community of profit and loss and the accrual system are excluded.

[Sub-so (7) added by S. 2 of Act No.7 of 1989.]

(8) Notwithstanding the provisions of any other law or of the rules of any pension fund-

(a)

the court granting a decree of divorce in respect of a member of such a fund, may make an order that-

(i) any part of the pension interest of that member which, by virtue of subsection (7), is due or assigned to the other party to the divorce action concerned, shall be paid by that fund to that other party when any pension benefits accrue in respect of that member;

(ii) the registrar of the court in question forthwith notify the fund concerned 'that an endorsement, be made in the ,records of that fund that that part of the pension interest concerned is so payable to that other party and that the administrator of the pension fund furnish proof of such endorsement to the registrar, in writing, within one month of receipt of such notification;

(b)

any law which applies in relation to the reduction, assignment, transfer, cession, pledge, hypothecation or attachment of the pension benefits, or any right in respect thereof, in that fund, shall apply mutatis mutandis with regard to the right of that other party in respect of that part of the pension interest concerned.

3. Draft Taxation Laws Amendment Bill 2007

"2B. For the purposes of paragraphs 1 A, 2 and 2A, where a court has made an order that any part of the pension interest of a member of a pension fund, provident fund or retirement annuity fund shall be paid to the former spouse of that member, as provided for in the Divorce Act, 1979 (Act No. 70 of 1979), the amount of that part is deemed to be an amount that accrues to that member on the date on which the pension interest, of which that amount forms part, accrues to that member";

Existing Proviso to 2B

Provided that so much of any tax payable as is due to the inclusion in the income of such person of any amount in accordance with the provisions of this paragraph, may be recovered by such person from the former spouse to whom or in whose favour the part in question is paid or becomes payable.