This article was first published in the first-quarter 2016 edition of Personal Finance magazine.
Legal experts are divided over whether you can nominate an artificial person, such as a company, close corporation or charity, as a beneficiary of your retirement fund. A key point of disagreement is whether section 37C(1) of the Pension Funds Act, which addresses how funds must distribute the benefits of a member, accords a higher priority to dependants than it does to nominees, or whether both dependants and nominees rank equally as beneficiaries.
The issue was debated during a panel discussion on death benefit allocations under section 37C of the Act, hosted by the Pension Lawyers Association in Cape Town in 2014. Section 37C of the Act applies when a retirement fund must pay out a lump-sum benefit because a member has died.
Naleen Jeram, a senior legal adviser at financial services group MMI and a professor in the law faculty at the University of Cape Town, put the case against the nomination of artificial persons, while Karin MacKenzie, the head of the pension law department at Herold Gie Attorneys, and Jonathan Mort, a director at Jonathan Mort Incorporated, took the opposing view.
Jeram says the Pension Funds Act does not define a nominee, and a normal literal meaning of the term may include both a natural person and an artificial person. However, he says the social protection and financial dependency themes built into section 37C make it doubtful that the legislature intended “nominee” to include artificial persons.
Jeram says that, in answering the question, it may be useful first to establish whether a fund member may nominate his or her estate as a beneficiary. Jeram says that, in his view, an estate cannot be a nominee for the following reasons:
* It is clearly stated in section 37C(1) that the benefit may not form part of the estate of such a member; and
* The Act contemplates the estate receiving the benefit in certain default circumstances only.
Therefore, Jeram says, it has been accepted in rulings by the Pension Funds Adjudicator that the estate cannot be a nominee.
Turning to other artificial persons, Jeram says the wording of the section indicates that a nominee is someone who is not a dependant – and a dependant includes a range of natural persons (based on blood line, marriage, legal or financial liability). Therefore, a nominee is also a natural person who falls outside the group of persons who are classed as dependants, he says. Moreover, although section 37C(3) and (4) deals with paying the death benefit in instalments, they refer to “minor nominee” and “major nominee”, which supports the view that the legislature was referring to natural persons.
If the legislature intended “nominee” to mean both natural persons and non-natural persons, the anomalous situation would arise where a fund member could be survived by both natural and non-natural persons. This, Jeram says, would make it practically impossible for trustees to fulfil the requirement to effect an equitable distribution among two different classes of person. For example, how would trustees equitably distribute a death benefit if a member is survived by a spouse, a child and a nominee such as the Society for the Prevention of Cruelty to Animals (SPCA)? Would the trustees have to investigate the financial status of the SPCA?
Mort disagrees that “nominee” should be interpreted restrictively to apply only to natural persons who are not dependants.
He accepts the social-protection purpose of the section, saying that this must always take precedence when deciding how the benefit must be distributed. At issue is what can be done with the portion of the benefit that is not required to fulfil that purpose – the part that remains.
Mort says the nature of a retirement benefit is voluntary savings or deferred remuneration. Once the social purposes have been met, there should be no reason why it cannot be distributed as the member wants.
If the member has no dependants, but the position is adopted that the benefit cannot be paid directly to a charity nominated by the member, it will be paid into the estate, where it will attract executor’s fees before the executor carries out the member’s wishes. If the benefit is paid directly to the nominated charity, the same result will be achieved without the cost.
Mort says it is unnecessary for trustees to weigh up the financial needs of, say, a hospice against those of a spouse, because they are not required to assess the financial needs of a nominee. Once the dependency needs have been satisfied, the nomination stands as it is stated on the nomination form.
MacKenzie agrees with Mort. She says that adopting the view that an artificial person cannot be nominated to receive a death benefit would “drive a horse and coach through our entire law on testate succession and testamentary freedom”.
An assumption of interpreting statutory law is that a newly enacted provision should interfere as little as possible with existing vested rights, and therefore she did not think “nominees” in section 37C should be interpreted to mean only natural persons.
Once the intention of the provisions in section 37C to protect the welfare of dependants has been taken care of, the state no longer has an interest in what happens to the death benefit, MacKenzie says. Therefore, whatever portion of the benefit is left over should be used to honour the wishes of the fund member.
Jeram disagrees, arguing that the section does not create a distinction between two different types of beneficiaries – dependants and nominees – with the former having a “higher claim” to the benefit. In terms of the section, he says, they are equally ranked, and the trustees are required to make an equitable distribution among dependants and nominees, with no beneficiary having a higher rank or prior claim.
Trustees are required to make an equitable distribution among dependants, as defined by the Act, or among both dependants and nominees. Although, as a result of the extent of dependency on the deceased member, one party may qualify for a greater share of the benefit, Jeram disagrees that dependants take precedence over nominees.
WHAT IS A BENEFICIARY FUND?
Beneficiary funds accept death benefits allocated in terms of section 37C of the Pension Funds Act, administer, invest and pay benefits to the widows, children and other beneficiaries of members of retirement funds.
Section 37C regulates the payment of lump-sum benefits that become due when a member of an occupational retirement fund dies while in service.
When a board of trustees is, for example, of the opinion that it would not be in the interests of a minor beneficiary that his or her benefit be paid to his or her guardian, the benefit must be paid to a beneficiary fund (instead of to an umbrella trust, as in the past).
If a member has no dependants, nominees or estate, the benefit must be paid to the Guardians Fund, which is controlled by the Master of the High Court.
Beneficiary funds are governed by the Pension Funds Act and overseen by a board of trustees. The funds are typically established by large financial services companies. Each service provider to the fund is registered and controlled by the Financial Services Board, and the fund’s investments must comply with regulation 28 of the Pension Funds Act.
The advantages of beneficiary funds are that they are cost- and tax-effective, and earn the returns of institutional investments, David Hurford, the head of sponsored products at Fairheads Benefit Services, says.
Beneficiary funds are taxed in the same manner as retirement funds – that is, no tax is paid on the build-up in the fund. Furthermore, any payment from a beneficiary fund, whether capital or income, is tax-free, he says.
Lump-sum death benefits are taxed when they are transferred to a beneficiary fund. The first R500 000 is tax-free.
Many companies have a group life policy, accident cover or other risk benefit cover with a service provider separate from the company’s retirement fund. The payouts from these policies are called unapproved benefits, while the payouts from the retirement fund are called approved benefits. Since February 28, 2014, beneficiary funds can receive employment-related unapproved benefits in addition to approved benefits.
If the beneficiary fund member is a minor, once he or she turns 18, the account will be terminated and the money will be paid out. However, Hurford says the member has the option of requesting that the assets be retained in the fund, where they will continue to grow, until he or she instructs the funds to be released.
He says that keeping the assets in the fund may help members to preserve their benefits where, for example, they may be under pressure from family members who want a share of the money, or they do not feel comfortable at that stage in their life to receive a large cash payment.
BENEFITS FOR CHILDREN
Retirement fund trustees can decide that a lump-sum death benefit must be paid into a beneficiary fund, even if you, the fund member, nominated a trust to receive the benefit allocated to your minor child.
Naleen Jeram, a senior legal adviser at financial services group MMI and a professor in the law faculty at the University of Cape Town, says section 37C of the Pension Funds Act permits fund trustees to overrule the instructions of a fund member, as stated on a beneficiary nomination form, or those of a child’s guardian, to pay the benefit into a trust and instead pay the money into a beneficiary fund. The fact that a fund member has nominated a trust to receive the death benefit does not mean that this wish will automatically be carried out, Jeram says.
Jonathan Mort, a director at law firm Jonathan Mort Incorporated, agrees with Jeram, saying the discretion granted to trustees has been bolstered by a recent amendment to the Act that imposes a fiduciary duty on trustees when making benefit payments to beneficiaries. The introduction of this fiduciary relationship means that trustees may decide on a method of payment that is different to the one stipulated by the member, because it is in the best interests of a beneficiary.
However, as with any fiduciary decision, he says the trustees must be able to defend their decision not to carry out the wishes of the member or guardian.