This article first appeared in The Edge Malaysia Weekly on September 23, 2019 - September 29, 2019
THREE years after retiring from the civil service, Pak Farhan, 63, decided to remarry. His second wife, Farah, 40, bore him twin daughters a year later. Should Farhan pass on within the first 20 years of his retirement, Farah will be entitled to his pension for the remaining period, given the 20-year entitlement limit on widows/widowers from marriages that take place post-retirement.
Had they married while Farhan was still in active service, Farah would have been entitled to his monthly pension for life, which could be for at least three more decades, given the average life expectancy of 76 years for bumiputera women.
She would not need to share it with Farhan’s children (all above 21) from his late first wife. Should Farhan pass on when Farah remains entitled, she will get 40% (2/5) share, while her daughters will get one-fifth each. The remaining one-fifth will go to Farhan’s adopted son Reza, his deceased brother’s son, who has certified disabilities and would thus be entitled to his pension for life even after Farah and her daughters are no longer entitled.
Farhan’s starting monthly pension works out to RM7,181.40, being the maximum 60% of his last-drawn pay of RM11,696 a month. Upon retirement, he was entitled to a one-time gratuity of RM368,424 (7.5% x 420 months of service x last drawn salary) for his 35 years of service. On top of the gratuity — equivalent to 31.5 months’ bonus — he was also entitled to cash compensation for leave not taken of up to 120 days, which is four months of his last -drawn pay, plus other daily fixed allowances due for the period.
A former civil servant herself, Farah has a pension of her own, having been granted optional retirement at the age of 40. For her 20 years of service, she received about RM91,656 in gratuity (7.5% x 240 months of service x RM5,092 last drawn salary) and will be entitled to a monthly pension of RM2,036.80 when she reaches 55 (56 for those appointed after 2001, 58 for those appointed after 2008).
While they are both retirees, the couple’s combined pension income of up to RM9,218.20 every month puts them at the higher end of the current M40 household income bracket of between RM4,360 and RM9,619.
They might be better off than comparable private wage earners, given that pension income is not taxable, yes, even for top civil servants who Prime Minister Tun Dr Mahathir Mohamad said were earning around RM20,000 a month, which means they will receive a monthly pension of about RM10,000 when they retire.
The illustration involving Farhan and Farah is probably an exception rather than the rule, although it is a fact that the current system does not limit the size or number of pension streams one can have, so long as the eligibility criteria is fulfilled. There are no publicly available figures on how many pensioners earn more than, say RM5,000 or RM10,000 a month, or are getting the minimum pension.
Yet even for the bottom half of civil service pensioners, including those who get the minimum pension of RM1,000 a month, they are still better off than many regular wage earners, who are finding themselves unable to retire due to a lack of savings.
Longevity is an issue for private sector wage earners or self-employed people who have to save for their own retirement with the Employees Provident Fund (EPF), which is a defined contribution system that relies on one’s own ability to put money away for retirement.
Some 68% of active EPF members do not have the recommended basic savings of RM240,000, which is equivalent to RM1,000 a month for 20 years post retirement – a figure that is incidentally derived from the current minimum monthly public pension of RM1,000 and the average lifespan post retirement.
Because pensionable civil servants under the defined benefit system do not need to contribute or save towards their own pension, longevity is not an issue because public pension payments are currently tax-funded in Malaysia.
Department of Statistics Malaysia (DoSM) data shows that 2.4% of women aged 65 and above married younger men aged 18 to 24 while 1.1% of men aged 65 and above married younger women aged 16 to 24 in 2017. The 2018 Marriage and Divorce statistics show that the oldest groom in Malaysia was 91 years old while the oldest bride was 84.
In 1970, the average Malaysian was only expected to live until he or she was 64 years old, just nine years after the retirement age of 55. Today, the average life expectancy is 74.5 years (72.2 years for men and 77.3 years for women) — about 20 years after reaching 55 and 15 years after reaching 60. By 2040, the average Malaysian man is expected to live until 78 and and a woman to 83, projections byDoSM show.
Those who have passed the age of 65 this year are expected to live until an average of 79.8 years for men and 82.1 years for woman (an extra 14.8 years and 17.1 years).
Strain from past largesse
While longevity is good, it also increases the government’s burden for pension payments, more so in Malaysia when the number of beneficiaries can continue to rise post-retirement.
The country’s public pension liability can potentially be a lot bigger without the 20-year limit on new beneficiaries from marriages post-retirement. The limit was raised from 12.5 years in January 2012.
Thanks to the previous administration’s eagerness to please this growing vote bank, there is a 2% annual automatic increment for pension payments, neutralising even the worry of inflation on the civil service pensioners’ income, a rarity globally where the norm is for a shared burden or which is borne entirely by retirees instead of being guaranteed by taxpayers’ money.
Pension and gratuity payment for civil servants and their dependants, which was already rising as baby boomers retired, spiked 22.7% year on year to RM18.2 billion in 2014 — incidentally, the first year after the previous government instituted an automatic 2% annual pension hike from 2013 without needing to wait for any salary review. (See table on rise in pension and impact on government finances)
Private wage earners in Malaysia, who need to set aside money from their monthly salary as EPF contributions, would have to depend on the provident fund to earn enough money from investments to beat inflation’s dilutive impact on their retirement savings.
Those who outlive their savings (many do within five years of retirement) may have to turn to government assistance, possibly at further cost to taxpayers if public finances are tight. The impact on the economy would be worse, should the strain be a drag on businesses and consumer confidence and consumption.
The lack of savings means many Malaysians who are able to find jobs will probably have to continue working until they expire, or at least work past the official retirement age that was raised from 55 to 60. There are also people who are happy to continue working past 60, being healthy and able to contribute to the country and economy. Mahathir Mohamad turned 94 in July.
Recently, there have also been discussions on whether the retirement threshold should be raised further to 65. Singapore, whose retirement age of 62 is already the highest among Asean nations, plans to raise the threshold to 63 in 2022 and to 65 by 2030.
Whether or not the official retirement age is raised, policymakers are already paving the way to allow retirees avenues to find re-employment, including incentivising employers to hire. Employers’ EPF contribution for staff aged 60 to 75 has been cut to 4% while the EPF is paying dividends to savers until 100, up from 75 before.
The additional income will help the aged. Almost half of Malaysians are not confident of having an adequate income stream to retire while 16% are very worried about household expenses in their old age, according to data from the Financial Education Network.
With 6 of 10 Malaysian adults either self-employed or not covered by any formal retirement or pension system, the government also needs additional fiscal bullets to implement socioeconomic policy measures and expand the social safety net.
Housewives, for instance, are potentially vulnerable. Research has shown an increase in old-age poverty among women across Asia who tend to outlive the older men they marry. The i-Suri initiative to have EPF savings for housewives is a good start but may not be enough for most, which means a wider policy solution is likely necessary here.
Something needs to give
The rising need to cater to a growing group of society brings to the forefront questions such as whether public service pensioners who are “well off”, including those getting multiple pension and above RM10,000 a month, should give up at least part of their pool so that the public pension system can be fiscally sustainable for longer to cater to those getting near the minimum pension — a level that most private wage earners do not have.
“We are paying pension to wives and children [of deceased retired civil servants] … We want to continue [paying pensions], but we have to find a way that the government can afford and government officers don’t lose out,” the prime minister told reporters in Kyoto on Sept 7, noting the strain of steep civil servant pay hikes in recent years as well as the RM1 trillion national debt on government finances.
“Payments of pension are now a problem… previously the monthly salaries of senior officers never exceeded RM6,000 or RM7,000, and they would receive RM3,000 pension a month. But we are also aware that living costs have increased considerably, so we need to study the pension scheme from time to time,” he told reporters separately in Alor Setar on Sept 10.
The types of pensionable staff may well need to be streamlined. As it is, pension may be payable if a public agency or part of it is privatised. Apart from civil servants, it is understood that others eligible to receive public pension include judges, political secretaries, members of parliament (MPs) as well as the lower house, ministers, deputy ministers, chief ministers, as well as sultans and the Yang di-Pertuan Agong. Some of our national sportsmen may also be eligible.
While accounting for only about 1% of total pension payments, compared with about 30% for retired policemen and armed forces personnel and officers, pensions paid to MPs and members of the administration (anggota pentadbiran dan ahli parlimen) have doubled from an estimated RM55.7 million in 2009 to an estimated RM102.9 million for 2019. Pension estimates for judges, meanwhile, have risen from RM6.1 million in 2009 to RM21.8 million in 2019. (Actual figures may vary as the actual breakdown is not provided and actual accumulated annual payments exceeded estimates by between RM500 million and RM4 billion between 2009 and 2019.) (See accompanying story and table for available breakdown of pension)
Former Public Service Department director general Borhan Dolah on Sept 4 said newly appointed civil servants may no longer be pensionable but will be given an improved contract scheme, possibly starting next year, to reduce the government’s financial burden by up to RM5 billion a year.
The move to revamp the public pension scheme, which is “still being fine-tuned”, is consistent with the decision to reduce the civil service size in phases based on need, as recommended by the special Public Service Reform Committee meeting in October last year.
It is understood that apart from looking for a suitable cut-off point to determine the last batch of pensionable civil servant, officials with higher pay, who are deemed to be able to shift to an EPF or EFP-like defined contribution system, may be transferred.
Any change will still need to be discussed and passed at the Cabinet level, Mahathir said, a statement affirmed by Deputy Prime Minister Datuk Seri Wan Azizah Wan Ismail on Sept 5.
It is understood that new civil servants start out contributing to KWAP until their pension status is confirmed after three years of service, unless they choose to remain on the EPF system.
The creation of Retirement Fund Inc (KWAP) in 2007 was supposed to help ease the transition but its fund size remains inadequate to sustainably lighten the government’s public pension burden more than a decade on, even as it had grown to RM140.8 billion as at end-2017 from RM41.94 billion in March 2007.
To be able to pay RM28 billion in pensions every year, one needs at least a RM560 billion fund that can earn at least 5% return every year, back-of-the-envelope calculations show.
Reforming the civil service pension scheme has been studied for years but left on the backburner for fear of upsetting a sizeable vote bank. Yet the painful reform that could cost the Pakatan Harapan government the next election is necessary and overdue.
50% by 2021 and 60% by 2026
In 2003, when Mahathir first retired as prime minister, pensions and gratuities of RM5.87 billion amounted to 6.3% of federal government revenue and the minimum monthly pension was RM280.
By 2013, the RM14.84 billion required 7% of revenue, with the minimum pension being RM850 while the number of pensioners and beneficiaries was about 683,000.
The minimum pension is now RM1,000 and the number of pensioners and beneficiaries has reportedly grown to 834,000 and the RM26.6 billion estimated for this year is 11.5% of normalised revenue (excluding the RM30 billion special dividend from Petronas).
In the past 10 years, the annual amount required to pay pensions and gratuities has grown at a 10-year compound annual growth rate of 10.1% from RM10.15 billion in 2009 to RM26.56 billion in 2019. If it continues to grow at the same rate, the amount required would reach RM52 billion by 2026 — the size of this year’s budget deficit of 3.4% of GDP for 2019 and possibly 2.4% of GDP in 2026, if the economy can grow 5% every year.
At the current 10-year average annual growth rate, annual pensions and liabilities payment alone will reach 20% of government revenue by 2029, 30% by 2036 and 50% by 2044, back-of-the-envelope calculations show.
If allowed to grow at the same annual rate as in the past decade, pensions and gratuities are poised to reach RM200 billion by 2040 and RM500 billion by 2050. While the number will only reach RM1 trillion and exceed 100% of government revenue in 2057 — the other sizeable commitments the government has means the brink of bankruptcy will arrive a lot earlier than that.
Together with emoluments, pensions and gratuities are poised to take up 50% of government revenue by 2021 if nothing changes. The ratio could reach 60% by 2026, 70% by 2030, 80% by 2034, 90% by 2038 and exceed 100% by 2040.
Emoluments plus pensions and gratuities were just under 30% of government revenue in 2003.
According to estimates in Budget 2019, some 47% of government revenue is spent on the civil service wage bill plus pensions and gratuities. In other words, nearly half of government revenue is already spent on part of public service delivery and just 7.5% of the country’s population.
Our neighbours Singapore and Thailand foresaw the potential strain of public-funded pensions on government finances and shifted to a defined contribution scheme. Singapore started earlier and is more successful while Thailand introduced its first public sector defined contribution fund in March 1997.
Most of Singapore’s civil servants do not have pensions when they retire, with the shift happening “over a fairly long period” from 1973. By 1987, all public sector employees could choose to shift to the defined contribution Central Provident Fund (CPF) scheme, which applies to both public and private sector employees.
The carrot dangled to shift was the availability of public housing finance under the CPF scheme, which also had implied inflation protection that the public pension scheme did not provide, according to an assessment of Singapore’s social security arrangements by Mukul G Asher and Wasana Karunarathne at the National University of Singapore in 2001. According to them, even those on the pension scheme make reduced contributions to CPF, although they do not need to contribute to their own pension.
While meant for retirement, savings with CPF allow members to fund the purchase of Housing and Development Board flats and pay medical expenses and insurance coverage as well as tertiary education loans. There is reportedly legislation for Singapore’s elderly to tap their next-of-kin for their CPF and Medisave obligations before public or taxpayer’s money kicks in — a system some have described as a national culture of self-reliance with family support.
As Singapore started out limiting social welfare and being prudent in managing finances, it has greater fiscal means today to expand the social safety net as its population ages.
The problem is a complex one, as attested by how it took years for Singapore to get where it is and how Thailand is still going through its journey.
Malaysia needs a thorough assessment of its strengths and vulnerabilities before making the painful necessary change that should have been instituted decades ago to ensure fiscal sustainability going forward. As seen with the experience in other countries, including the UK, it is likely that a suitable cut-off point will be found to ensure that civil service personnel are not left in the lurch.
Unless the government is confident of its ability to raise income or cut other expenses substantially, a reform of the public pension system to a more sustainable model is better done earlier than later. A change from a defined benefit to a defined contribution system, if deemed necessary, needs to be done right for the pain to be worthwhile, as the experience in many other developed and developing nations around the world has shown.
While the government would want to continue supporting the DB public pension system, the truth is that the government cannot afford it on the current income trajectory. Responsible policymakers need to be concerned about the sustainability of the current system as well as the welfare of other stakeholders in the country, including the coming generations of voters and taxpayers on whom the burden of the public pension system will fall if a solution is not found now to prevent a meltdown in the future.
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