Issue: March/May 2008

Is there a future for umbrella trusts and beneficiary funds?

Why the answer to this question is so important for trustees of retirement funds.

Primarily as a result of the seemingly endless Fidentia debacle, there's been an intense spotlight on the umbrella trust industry. For perspective, it's relevant to reflect on the history of umbrella trusts which evolved out of a real need to protect minor dependant's benefits as a result of a retirement fund member's death. This need was recognised by the legislator in the late 1980s, when s37C of the Pension Funds Act was amended to permit the payment of death benefits into trust.

Conceptually and legally, this amendment was appropriate. Practically, however, there was no guidance on the operation of these trusts. Many trust companies chose not to service death-benefit trusts and, in many cases, individual trusts were established to manage death benefits.

These services were expensive because relatively small amounts of money were involved, yet they used structures that had been established for high-net-worth clients. At this stage Fairheads, in consultation with leading industry trust attorneys, sought to find a cost-effective solution. The concept of an umbrella trust evolved along similar principles to that of a retirement umbrella fund.

So how could Fidentia have happened?

The trust industry in South Africa goes back to the 1800s. It is well established with sound and respected business principles.

In truth, it was never intended to deal with umbrella trusts.

It is predominantly unregulated, falling under the Master of the High Court and the Trust Property Control Act.

Notwithstanding this, the need for trust services continued to grow in a developing industry. A number of leading trust companies endeavoured to provide a professional, quality service for beneficiaries.

As the industry grew and new service providers entered the market, many focused on growing assets for their asset management companies. Fidentia was complicated by many governance issues, but also implicated was its related asset management company (notwithstanding in this highly regulated environment).

Trusteeship and administration were treated by many as secondary. As in many growing industries, unscrupulous players find opportunities to exploit clients. When exposed it brings an entire industry into disrepute - often undeservedly.

Where to from here?

As the retirement-fund industry continues to develop, so does the umbrella-trust industry. Because the same governance and operational issues exist, it is right that the umbrella-trust industry is being aligned to the Pension Funds Act through the proposed creation of beneficiary funds (TT Dec '07 - Feb '08). The proposed legislation is currently with National Treasury, awaiting release for public comment.

It is envisaged that umbrella trusts will run parallel to beneficiary funds but that any new death-benefit monies will be placed into beneficiary funds.

For those umbrella trust service providers that have grown with the industry, and evolved with the requirements of the retirements industry, proper administration of beneficiary funds should pose no particular challenges. Whether regulated or not, it is good governance to have:

  • Independent professional trusteeship
  • Independent asset managers
  • Appointed asset consultants
  • Annual independent audits

As well as comprehensive

  • Service level agreements
  • Administration agreements
  • Investment policies
  • Other appropriate policies and procedures

Appropriate trustee decisions

It is unfortunately true that many retirement fund trustees fail to fulfill their responsibilities by evaluating all the options and tend to use umbrella trusts as a default option when dealing with death benefits. Many of the complaints with which trust administrators and the Pension Funds Adjudicator deal are about inappropriate retirement fund trustee decisions.

Where trustees have properly applied their minds - and provided the amount of the death benefit is sufficient and age of the the beneficiary is appropriate - the use of a trust or beneficiary fund can be most effective in managing the funds to ensure that the child (the beneficiary) can be properly maintained and decently educated.

The past 18 months have been difficult for the industry, yet being under the microscope has helped propel its standards to a higher level. In terms of the new beneficiary fund legislation, the industry has recognised its home under the Pensions Funds Act. It will continue to grow and provide meaningful services to beneficiaries, many of whom are in desperate need of financial support and guidance.

By Richard Krepelka, Group CEO