Financial Venting part 2 – Retirement Savings Accounts

If you recall, last month’s article focused on the first of two of my pet financial peeves: saving for your future. In that article I addressed the widespread phenomenon of people living in ‘the now’ at the expense of their future financial stability, and the crucial importance of planning ahead.

This month I want to take a look at retirement savings accounts in Israel. Whereas last month I was talking to those who are financially short-sighted, now, ironically, I want to ensure that those who think they are being financially responsible by having retirement savings accounts, are in actual fact not being taken advantage of, due to lack of knowledge or understanding.

In Israel, pension contributions are generally the cornerstone of one’s personal savings. The new Israeli pension law, which came into effect on January 1, 2008, mandated universal pensions for all workers in Israel, who have worked at a company for a minimum of six months. Minimum payments as of next year will be 5% from the employee, 5% employer and severance payments of at least 5%. If one adds the additional combined 10% payment to a keren hishtalmut (advance training fund) that many workers enjoy, these savings form the bulk of the money the average person saves in Israel.

Since these savings are so crucial for retirement and overall financial well-being, you would think that the average person would be well-informed about these investments. However, unfortunately the exact opposite is true. Most Israelis (never mind the average Anglo Israeli who is unfamiliar with the Israeli financial system) have no basic understanding about their retirement savings plans.

Consider the following basic questions to help you understand and evaluate your policies (if you don’t know the answers – don’t worry, you are in good company!).

  1. What percentage of new money contributed to your policies is taken as a load fee (ie. upfront sales charge)?
  2. What is the annual percentage charged for managing your existing savings?
  3. How much life insurance is covered in your retirement policies? How much are you paying for this insurance? Until what age does the policy cover?
  4. How much disability coverage do you have? How much does it cost? Until what age are you covered?
  5. Are health and/or long-term care coverage included in your policies?
  6. What percentage of your monthly contribution goes towards fees, insurance premiums and savings?
  7. Are your projected pension payments linked to the CPI (inflation)?
  8. How have your investments performed compared to other funds?
  9. Does the fund’s risk strategy match your risk tolerance (as you get closer to retirement, your risk aversion should increase)?
  10. Will you be receiving your pension as a lump sum or monthly payments?
  11. At what rate will payouts be taxed?
  12. Will your spouse continue to receive your retirement benefit after death? If yes, what percentage of the benefit?
  13. How is your pension benefit calculated by the insurance company?

It is not enough to just ensure your deductions are going to the correct place. You need to understand the structure, fees and investment strategy of your policies. An investigation by Globes (Israel’s business newspaper) in December 2011 discovered that hidden fees on the management of pension and bituach menahalim policies amounted to 10-15% more than the stated management fees. Fees for custodian, brokerage services, research, and management fees for private equity funds are not considered management fees, and are not included in the fees stated. Fees are meant to allow companies to research and invest in more diversified international assets, so they are used by your pension management company for outside services, and are hidden from the average customer. When upwards of 400 billion shekels are being managed, the extra charges amount to over 200 million NIS a year. Insurance companies have the highest hidden fees.

While pension disclosure has improved in recent years, most policies are still too complex for the average person to understand. Whereas the market is divided between pension consultants and brokers (or agents), they are two completely different beasts. Insurance brokers have a natural preference to sell products that offer the agent the largest remuneration. Brokers oftentimes don’t have the desire or interest in explaining policy details to their owners. Consultants on the other hand, are supposed to represent the client and offer them objective advice. Of the almost 1,400 licensed consultants, almost all of them are employed by the banks. These bank insurance consultants rarely advise on pension funds preferring to focus on provident funds (kupot gemel) that are held in the banks. So what is a client to do?

  1.  Find out if your insurance representative is a broker or a consultant.
  2.  Ask your broker/consultant the questions listed above and write down all the answers.
  3.  Ensure that you understand all the details of your policies and if you feel you’re receiving insufficient information, seek objective advice from a financial planner or independent pension advisor.
  4.  Avoid taking advice from consultants who have a potential conflict of interest when advising employees and employers simultaneously.
  5.  Ensure your pension funds are invested according to the level of risk you’ve determined you are willing to take.
  6.  Consider investing your keren hishtalmut and kupot gemel policies in a self-directed pension plan (see below).

Israeli self-directed pensions are relatively new, and are similar to American IRA policies whereby employees manage their money directly. The major advantages include complete investment transparency. You’ll know exactly where your money is invested and how high the administrative costs are. For do-it-yourselfers, who want to take responsibility for their investments, administrative expenses are reduced to approximately 0.6%. The biggest disadvantage is that you need to put an investment plan together by yourself and that takes time and effort. However, portfolio managers can be hired to manage your savings in line with your specific investment needs.

Don’t be disheartened if you have now discovered that the pension fund you set up so responsibly just can’t be ignored and yet still expected to ‘produce the goods’. If you have a retirement fund/pension plan in place, that’s a great first step. But now you need to get satisfactory answers to the questions above and ensure that your money and benefits are working for you.