Reforms ahead: Near-term changes to the pension system are under discussion

Officials have been at work reforming Nigeria’s pension system for almost a decade, and are showing no signs of losing steam. While early attempts have failed to fix problems entrenched in the system, the government seems determined to tweak its features for as long as necessary to find the right mix and eliminate fraud from the system. An overhaul of the landmark pension reform of 2004 may emerge in 2014 as the primary change. In the meantime, private sector service providers continue to refine their offerings, making the entire system more attractive. For-profit players include pension fund administrators, securities sector firms and the insurance companies with interests in those systems.

IMPACT: At stake is the retirement security of millions of Nigerians employed by the government or in the formal private sector. The outcome will have a profound impact on economic growth at the grassroots level by helping dictate the pace of expansion of the country’s emerging middle class and consumption levels. A healthy pension system could also provide a large boost to top-down economic development; it could offer a larger pool of capital that could be deployed in long-term investments that have multiplier effects on GDP. Pooling pension funds to invest in infrastructure projects, for example, would allow the government to boost the pace at which it can address deficits in the country’s electricity market or transportation infrastructure. These funds could also serve as a large-scale buyer of government bonds or corporate debt, allowing a lower cost for financing key sectors to Nigeria’s growth.

The country has been warned, however, about the dangers of implementing a system that is lucrative for workers but comes at the expense of employers, which could trigger a possible slowdown in job growth by increasing the cost of labour in the country, according to Taiwo Oyedele, the head of tax at PwC Nigeria. The potential reforms to the 2004 law could make Nigeria’s labour market less competitive and frighten away potential investors, he warned in a research note published in June 2013. “If the proposal is passed into law, the compulsory rate of pension contribution in Nigeria will be one of the highest in Africa, ahead of Ghana, South Africa, Kenya, Mauritius, Angola and other jurisdictions competing for investment,” Oyedele told OBG. None of those countries have populations even half as large as Nigeria’s, however, and factors like this might affect the calculation. The huge numbers of consumers reachable within the country’s borders, particularly if a healthy pension system boosts overall consumer-spending power, could mean labour-intensive manufacturing in proximity to those masses is attractive enough for investors to tolerate a higher cost of labour.

SIZE & SCOPE: According to the most recent data from the state regulator, the National Pension Commission (PenCom), there were 5.16m Nigerians participating in the scheme and N2.74trn ($17.26bn) in assets under management at the end of the second quarter of 2012. Pensions have been formally separated from other life insurance and retirement savings schemes since the 2004 Pension Reform Act. That legislation created a regulatory framework for the system and moved it from a defined-benefit scheme to a defined-contribution model, reducing risk and uncertainty over the state’s future liabilities. Nigeria based its reforms on Chile’s pension system, mandating individual pension accounts and licensing fund administrators to manage those funds. The country’s insurers have emerged as major participants in the provision of these services. Pooled workers appoint pension fund custodians to monitor the system – a move aimed at providing checks and balances on behalf of beneficiaries.

FIGHTING FRAUD: Securing the system was a major motivation for the reform. Nigeria’s recent history is rich with incidents of the corrupt handling of workers’ retirement monies, including numerous scandals in which people with access to those funds stole them. That problem was particularly an issue for public sector funds, and the 2004 reform law addressed it by mandating agency-level pension commissions to verify contributions and provide documentation of proper fund management. A state law created the Lagos State Pension Commission for that purpose. The state Treasury must report to the commission the money it transfers to custodians on a monthly basis, and custodians must report the money they receive to the Treasury. The commission’s job is to reconcile the two amounts. Incidents of fraud continue; in late summer 2013 PenCom disclosed violations and accounting irregularities by unnamed pension fund administrators, calling into question the location of N9.6bn ($60.5m) in funds.

Adopting the new defined-contribution model is not mandatory for government agencies, however. The law requires all public sector employers and private sector firms with five workers or more to provide pension benefits at a minimum of 15% of the worker’s salary, with the contributions to be split equally between employer and employee. The armed forces are an exception, as the state provides 12.5% of the total. However, public agencies can opt to stick with existing pension systems or establish their own, and the police force chose to do the latter by leaving the new system in early 2013. The military has also returned to a defined-benefit approach. However, at the federal level most government agencies have adopted the new system or are planning to. Estimates are that it could take another 10 years before the pension system covers all eligible workers, Adeniyi Falade, the CEO of pension-funds administrator Crusader Sterling Pensions, told OBG.

ENFORCEMENT: In the private sector, enforcement of pension provision has been an issue, reflecting a common complaint across almost every sector of the Nigerian economy. As one of the largest single employers in the country Lagos State’s participation has been significant, but not all states have been willing to sign on and adopt the new and more transparent system.

The commission selected six administrators, and allows workers to choose among them. Pension-fund administrators and custodians emerged in three rounds of licensing, in 2005, 2006 and 2007. In total, 26 licences were issued for administrators and five for custodians. An additional seven administrator licences were given to large corporations that established closed systems for their employees. Among those competing for business, the firms that were first in are considered to have enjoyed the advantage of establishing themselves first. Although the law allows individuals to transfer between administrators after their employer had selected one for them in setting up initial accounts, in practice this has not been possible as the regulators needed to permit this are missing, according to Falade.

What has emerged is a three-tiered market in which the first seven administrators licensed in 2005 have the largest assets under management, with five from 2006 occupying the middle tier. The most recent entrants are the smallest. Stanbic IBTC, a subsidiary of South Africa’s Standard Bank, is the major player in terms of assets under management. Minimum capital requirement was set at N150m ($945,000) and boosted to N1bn ($6.3m) in 2012. Consolidation dropped the number of licences to 20 by July 2013, according to PenCom, with another seven running closed systems. “Consolidation has made it more cost-effective to expand physical branches of pension administrators,” Emenike D Uduanu, the managing director of PAL Pensions, told OBG. “Despite increasing use of technology in the industry, a brick-and-mortar presence is still very important.”

NEW LAW: As of mid-2013 an update to the 2004 law was under consideration by Nigeria’s bicameral legislature that would make companies with at least three employees provide pensions, and boost contributions to 20%, with the employer providing 12% and the employee contributing 8%. According to PwC’s calculations, the law could as much as double workers’ monthly burden and triple that of their employers. In addition to possibly driving up the cost of labour, this could potentially delay growth in spending power. To align pension funds with the national interest, the proposed law would expand options for investment options in the real economy, such as in infrastructure projects.

MORE REFORMS: Looking further, additional reforms include attempts to crack down on fraud via name duplication in databases and multiple registrations. PenCom is forming a database of biometric information about future pensioners to combat this problem. A concerted effort to convince states to opt in is also expected, as this is likely to be the fastest way to add the greatest number of employers. At the administrator level, firms are targeting individual strategies to grow their assets under management, such as Crusader-Sterling’s efforts to sign up small and medium-sized enterprises, many of which are unlikely to face official pressure to comply with the law or penalties for ignoring it, thanks to the volume of their numbers and PenCom’s limited ability to monitor them all. This effort will involve mapping districts, counting businesses, as well as conducting road shows with union organisations and other labour leaders, Falade said. It also requires winning over workers, who could put pressure on their employers to join the scheme. “In the future participation will be market-induced as people notice good returns on investments over time,” Falade told OBG.