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: An Introduction to Financial Mathematics) The focus on superannuation and encouraging individuals to save and invest for their future, and particularly their retirement years, has been increasingly emphasised in the past two decades in Australia. The Australian Government has been especially pro-active in this regard, mandating minimum contributions that must be made to complying superannuation or retirement funds by employers on behalf of their employees. This minimum level of employer contribution to superannuation was introduced at 36 per cent of employees’ salaries and is legislated to increase to a minimum contribution of 9 per cent by 2005. Employees will also be required to compulsorily allocate a percentage of their income to superannuation investment by this date. The impetus for introducing these superannuation policy initiatives is to remove the burden from the social security system for the provision of pension payments to support individuals during the retirement stage of their lives. Due to these mandated superannuation requirements and an increasing realisation by individuals of the importance of saving for their future, there are currently billions of dollars of superannuation contributions flowing to superannuation funds and financial institutions every year, whose role it is to profitably invest these contributions to provide sufficient income to fund the non-working component of individuals’ lives. As such, superannuation and mutual funds are one of the largest investors in Australian financial markets, and particularly in equity securities of companies listed on domestic and overseas sharemarkets. One of the largest individual industry-based superannuation funds is Unisuper Limited, which services and manages thesuperannuation for activities ofemployees in the tertiary education sector in Australia, including alluniversities, TAFE colleges and other higher education institutions. The other revolution in superannuation funds management and service provision in recent years has been a significant increase in the variety of superannuation fund products and investment and retirement plan options, with members now having much greater flexibility in deciding what types of funds and assets their superannuation contributions are invested in. In line with this increasing investment choice, Unisuper Limited offers its members two forms of superannuation plans: • a Defined Benefit Plan; and • an Investment Choice Plan As the name suggests, the Defined Benefit Plan is one involves a superannuation policywhere the benefit paid to employees at retirement is determined based on a formula which factors in determinants such as employees’ yourfinal average salary, yourage and the number of years that they youhave been employed. Under the Defined Benefit Plan, employees’ retirement benefit is calculated as: Retirement Benefit = Benefit salary × Length of membership × Lump-sum factor × Average service fraction
Online Case Studies t/a Business Finance 8e by Peirson et al.
Under the Investment Choice Plan. This implies that employees do not benefit from gains earned by their asset portfolio (above the minimum requirement to meet their defined benefits) and it is the responsibility of the Unisuper Limited trustees to be able to fully fund these defined benefits. For employees who choose the Investment Choice Fund. with a small exposure of domestic and overseas shares and property. their superannuation contributions are pooled and invested in a selection of assets determined by the Unisuper Limited trustees. Online Case Studies t/a Business Finance 8e by Peirson et al. their final retirement pay-out is dependent on the returns generated by their chosen investment strategy and they bear the investment risk associated with their superannuation contributions. The trustees of the Defined Benefit Plan do have the discretion to pay an additional accumulation benefit on an annual-adjusted basis. an annual distribution of gains earned on their invested contributions. compared with the Shares Fund. For those employees who choose the Investment Choice Plan. less any administration and management charges. Stable Fund — Primarily fixed interest and bond securities. the investment performance of their asset portfolio is effectively irrelevant and does not affect their final retirement pay-out: the investment risk is borne solely by Unisuper Limited. with the Secure Fund being the least risky and likely to provide the lowest average return. among the following four investment strategies: • • • • Secure Fund — Australian fixed interest securities and cash. 5 . At the time of retirement. Trustee’s Selection Fund — Balanced fund of domestic and overseas shares. Shares Fund — Investment solely in domestic and overseas shares. although this is not guaranteed and will form a small proportion of overall superannuation benefits under this plan. employees can nominate the types of assets or portfolios that their superannuation contributions are invested in. These differentstrategies can be basicallydifferentiated on their risk and return characteristics. which carries the highest risk but is expected to provide the highest overall average return. These include the following pension or other investment options: • Indexed Pensions — provide a regular income that is indexed to inflation and is payable as long as you live and is transferred to a spouse or dependent upon your fordeath.For tertiary education employees who elect to follow the Defined Benefit Plan. property assets and infrastructure and private equity investments. As their final benefit pay-out is determined solely by the above formula. they retain an individual investment account comprised of employer-sponsored and personal theirsuperannuation contributions. Unisuper Limited provides a range of investment products for both Defined Benefit Plan and Investment Choice Plan subscribers to manage and distribute their retirement benefits.
Are you correct in saying that participants who opt for the Defined Benefit Plan are forgoing potential gains in investment earnings and returns generated in association with the time value of money? Consider the retirement investment products that are offered to members by Unisuper Limited. Roll-over Options — you can choose to transfer (roll-over) your retirement fund balance to an approved personal or industry superannuation or investment fund. which of the available alternatives do you think would be most attractive? to you?Explain your reasoning for this choice. What issues relating to the concept of the time value of money may be important to this decisionmaking? 2) Explain how the time value of money has an impacts on the potential investment returns and retirement savings of participants in both the Defined Benefit Plan and the Investment Choice Plan. 6 . 3) Online Case Studies t/a Business Finance 8e by Peirson et al. an approved deposit fund or a retirement savings account. if required. and four available investment strategies in which your capital can be placed. consideration of investment risk and return profiles are paramount. Allocated Pensions — provide a regular income (at a level of your choosing) and access to your capital if desired. If you die. but is not transferred to a dependent at the time of your death. or they can choose to continue the allocated pension on the same terms. Participants can also elect to undertake a combination of these alternatives. the balance of the pension is eitherdistributed to your dependents. with the decision-making very much dependent on their income and lifestyle requirements in retirement. using examples of present or future values calculations. Part-Cash Distribution — a certain percentage of your retirement fund (subject to regulatory and tax approvals) can be taken as a cash lump-sum to be used for investment or personal consumption purposes. Within this decision-making.• • • • Single Life Indexed Pension — provides a higher regular income compared to the standard indexed pension outline above. In terms of time value of money concepts and ideas. as well as the effects of inflation and the time value of money. Questions: 1) Outline what you think are the important factors that should be considered by tertiary sector employees when they are deciding whether to place their superannuation contributions in the Defined Benefit Plan or the Investment Choice Plan.