Pensions are a good thing. We all need to plan for the time when we will no longer have an income from work, and ensure we have enough funds to live on in old age.
But we are now living longer, so our retirement savings need to stretch further. This is one of many factors that make pensions a complicated area, even for business-savvy professionals, and one that needs careful planning and expert advice. The low interest rate environment makes it harder to build funds for the future, and there are other variables to consider: including your family situation, health, where you live and work, whether or not you are an expatriate employee, and what arrangements you have in your home country.
Globally there are many different pension and investment schemes available including state, employer, private, defined benefit, defined contribution and others: there’s no universal template. But where you live and work matters. The 2016 Melbourne Mercer Global Pensions Index – a respected annual pensions study – suggests that people living in Denmark, Australia or the Netherlands can expect a much better pension than people in India, Japan or South Korea.
What about the UAE?
In the UAE, the story is different again, especially for the nearly 8 million expatriates working here who comprise some 85% of the region’s population. While Emirates nationals have pension entitlements, there is no formal pension provision for expatriates, and no mandatory company plan or state-sponsored scheme, like Singapore’s Central Provident Fund or Hong Kong’s Mandatory Provident Fund.
While Emirates nationals have pension entitlements, there is no formal pension provision for expatriates, and no mandatory company plan or state-sponsored scheme, like Singapore’s Central Provident Fund or Hong Kong’s Mandatory Provident Fund.
It can be argued that the UAE’s zero tax regime is a benefit that offsets the lack of expatriate pensions. But the fact is it leaves expatriates without a structured retirement plan, relying solely on individuals to make their own arrangements. If you have a live-for-today mentality, especially in a spend culture like the UAE, it’s easy to neglect the importance of setting aside funds for the future.
What the Emirates and other Middle East countries do have is the local practice whereby companies provide their expatriate employees with an end-of-service (ES) lump sum, known as a gratuity, based on the number of years an employee has worked for a company. If you’ve completed one year or more of continuous service, you get 21 days’ pay for each of your first five years with the company; growing to 30 days’ pay for each year of service after five years. The final sum does not include payments such as housing, transport, travel allowance, overtime, or other benefits in kind.
Like the tax regime, the gratuity system is traditionally seen by the government and employers as an alternative to a pension scheme for expatriates. But, just as the absence of state tax is no substitute for a pension, neither is a gratuity.
For one thing there is no cast-iron guarantee that you’ll receive all or any of your gratuity. Most companies in the Middle East make no distinction between working capital and money that needs to be set aside for settlements. In contrast, companies in western countries segregate funds and have appropriate investment strategies to meet their commitments to employees.
Even with these safeguards in place, the underfunding of defined benefit pension schemes in western countries remains a serious risk to the benefit holders. We’re all familiar with media scare stories about scheme deficits and the pension ‘time bomb’ in countries like the UK. In the UAE, the risk is arguably even greater because companies’ end-of-service liabilities are either under-funded or not funded at all, and there is no guarantee to make good the commitment.
Local developments and pension alternatives
Studies have shown that pensions are the company benefit valued most by employees in the UK. Employee benefits specialist, Thomsons, found that employees rated a decent company pension above private medical insurance, extra holiday or childcare vouchers. Bonuses can even be paid into the pension scheme by the employer for employees as they reach service milestones. All things being equal a pension scheme is highly rated by potential employees and could be used as a recruitment tool to attract the right talent.
This explains why – in addition to end-of-service benefits – some employers in the UAE are beginning to offer private pension schemes to expatriate employees. This shift is entirely voluntary, with no legal obligation, but is a sign that times are changing. It reflects the government’s desire to improve working conditions and introduce a more progressive system; and to boost the local economy by discouraging expatriates from sending money back to their home countries.
The first pension scheme for expatriates, called the Wealth Builder Plan, was launched in 2013 by the National Bank of Abu Dhabi, for local and multinational companies to offer to their staff. Similar schemes have been introduced by Emirates airline and the Jumeirah Group, a Dubai-based hotel and resort business. The Emirates scheme, admittedly for senior employees only, was reported to involve the company contributing 12 per cent of basic salary, with the employee contributing 5 per cent. As a rough guide, in a typical occupational pension scheme the employer and employee would each contribute around 5 per cent. In the UK, the average contribution to a defined contribution pension scheme is 6 percent of gross salary, as reported by The Financial Times in October 2015.
The first pension scheme for expatriates, called the Wealth Builder Plan, was launched in 2013 by the National Bank of Abu Dhabi, for local and multinational companies to offer to their staff.
Several types of defined contribution schemes are now available in the region, including International Pension Plans and International Savings Plans (IPPs and ISPs), enhanced End of Service Benefit (ESB), and bespoke corporate packages that provide a range of investment funds for employees to choose from. Mostly these schemes pay out a cash sum on retirement, though there is a growing trend to allow a drawdown arrangement, with funds being ‘drawn down’ as needed and the remainder of the funds staying invested in the plan. Over a quarter of IPPs and ISPs now have this capacity, according to a study last year by the Willis Towers Watson consulting group.
But there is a long way to go. Some of the schemes introduced are more like savings plans than pension plans in the strict sense. Some, like the Emirates airline scheme, are only available for executives and senior staff. And nor are the savings exclusively set aside for retirement: they can be used for purchases such as house deposits and cars.
Advice is essential
Because of the complexity of pension arrangements, and because they vary so much across companies and countries, it’s very important to seek advice and explore all possible options for building your capital reserves while working in the UAE.
Your country of origin will have implications for the best approach for your individual circumstances. For example, consider the wide choices available to UK pension holders following sweeping changes introduced in 2015. Reflecting the new flexibility available from these changes, UK expatriates may now be thinking of transferring funds from their home country to offshore accounts. While moving funds offshore is always an option when living and working overseas, it can turn out to be a costly mistake unless carefully thought through with the help of a professional adviser who has a sound knowledge of pension and tax legislation.
When moving to the UAE it may be possible to keep contributing to both national pension schemes and private retirement plans in your home country. But this is a complex area and many restrictions apply. So one of the first things to consider when setting up a pension fund is the tax regime in your home country and what structure will be most efficient for your current and likely future circumstances. For instance, if you intend to move between companies and countries, you’ll need to consider whether your arrangements are portable between different employers, regions and jurisdictions. Again, you should consult an experienced independent adviser with local knowledge and an international perspective.
So long as the end-of-service gratuity remains the standard approach in the UAE, it’s important to make it work as effectively as possible. As mentioned, there’s a danger that funds owing to a departing employee may not be secured. In most cases gratuities are paid from cash flow, which is acceptable when a company has plenty of cash, but this is not always the case. Imagine a scenario where the company is struggling. People then leave due to the circumstances, which puts even more pressure on the company’s cash flow.
Companies have a responsibility to remove this liability from the balance sheet, but it may not happen for want of the right structures and controls. One solution could be an offshore trust account with a board of trustees who monitor the scheme and ensure that employees are paid their gratuity at the end of their term. Having a separate fund for the gratuities can make the difference between the company surviving or going bust. Furthermore, as funds accrue in the separate fund, interest would be earned. This in effect may reduce the liability of an employer by reducing the amount required to pay into the account. This means that even if a company fails, the money is still available to pay the necessary gratuities.
It’s simply a case of good practice and proper planning, on which companies should be taking professional advice in the same way that individual employees should.
Preparing for the future
Despite talk of moving to a formal pension structure, the situation in the UAE remains piecemeal and ad hoc. For years there have been discussions between the World Bank and Dubai’s Department of Economic Development, intended to create a model to suit the high level of expatriates in the UAE workforce. However this remains work in progress: neither the details of such a model nor an implementation date have yet been agreed.
Until pension scheme practices in the UAE come more into line with other countries, the onus remains firmly on employees to plan for their own futures after retirement. But companies in the region should also be looking to do more to secure gratuities, and to increase the availability of pension schemes for expatriates, attracting employees and supporting the local economy.