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    Gary Hartwig

    October 2000




    This paper was originally written as a B.Bus.Sc thesis in 1999, and has subsequently been

    modified to be presented at the 2000 ASSA convention. It presents a consideration of

    the financial services needs of the low income sector in South Africa, from the

    perspective of the life insurance industry.

In recent years there has been an increasing awareness of this market, and efforts to

    reach it have increased significantly. This has occurred for several reasons:

    ? Competition in the upper income market is fierce, driving profit margins down.

    ? Technology has made premium collection easier and has reduced administration


    ? There is a realisation that the low income market of today is likely to be the

    (potentially very large) middle income market of tomorrow.

    ? The post-apartheid era has made the needs of the low income market more visible

    and highlighted the need to provide services to that sector.

    ? Insurers in the low income market have done well.

Given the growing interest by many parties in the low income market, and the increasing

    efforts on the part of life assurers to target it, it seems appropriate to research this market.

    Indeed, given the importance of this sector to South Africa’s future, it might be argued

    that it is crucial for the life industry to pay significant attention to it.


1.1 Objectives of this paper

    This paper sets out to:

    ? Give an overview of the current financial services situation in the low income market;

    ? Give an overview of the dynamics, opportunities and problems that a life assurer

    targeting the low income market needs to consider; and

    ? Stimulate thinking, particularly within the actuarial fraternity, regarding the particular

    problems and challenges of the low income market.

1.2 Scope and Limitations

    This paper is a compilation of primarily ‘informal’ information. At all times, it aims to

    present issues objectively and factually. However, it does have several limitations.

    Firstly, much information represents opinions of those in the market, rather than concrete facts established by detailed market research.

    Secondly, the definition of ‘low income’ is used inconsistently. ‘Low income’ is not clearly defined in many of the sources used for this paper. Thus, in some cases ‘low

    income’ may refer to a specific income bracket, in others only to the black low income

    market, and in other cases it may simply be a generalised grouping.

    Thirdly, much information is based on focus groups, localised surveys, and superficial studies. This may mean that information is not completely representative of the entire

    South African market.

    Finally, it is beyond the scope of this paper to fully cover all of the relevant issues pertaining to the low income market, and so some issues are only briefly dealt with.

1.3 Definition of the low income market

    It is desirable to define what is meant by ‘low income’ and the ‘low income market’ to aid

    clarity. Since the decision to purchase a life insurer’s products is often made with regard

    to the family situation, it seems reasonable to consider household income for the purposes

    of this paper. Unfortunately, most research considers individual income, making accurate

    information difficult to come by.


This paper considers a range of needs and products from the fairly broad perspective of

    the life assurance industry, and so it is not possible to define ‘low income’ as explicitly as an individual institution would. The ‘low income market’ is thus defined as:

    ? that group of households

    ? with a minimum gross monthly income of R1 000

    ? and a maximum gross monthly income of R6 000.

In some cases in this paper a slightly different market may be referred to, but only where

    it is reasonable to assume that the characteristics of the market referred to are similar to

    the low income market as a whole.

Consideration of the Census ’96 figures for employed individuals gives a very basic idea of

    the size and racial composition of this group. In 1996, 47%(4.3m) of employed

    individuals in South Africa earned between R12 000 and R72 000 per year. The majority

    (54%) of this income group is black, and for this reason there is a focus on the black

    market in this paper.



    INDUSTRYS PRODUCT OFFERINGS _____________________________________________________________________

    The low income sector has a diverse range of financial services needs, including:

? Funeral cover for immediate and extended family

    ? Life cover

    ? Health cover

    ? Disability cover

    ? Retirement provision

    ? Education finance

? Accident cover and theft cover


? Appliance finance (hire purchase)

    ? Housing bonds and car finance

? Banking services savings facilities, credit, bill payment systems

    ? Micro-lending facilities

    ? Venture capital

    ? Long term saving and investment (capital accumulation)

    ? Saving via stokvels

? Provision for cultural occasions lobola, tombstone, weddings

Some of these are dealt with in more detail below.

2.1 Funeral cover

    The need for funeral cover in the low income market is considerable, especially amongst

    blacks. Burials play a very important role in the black community lavish funerals reflect

    respect for the deceased. It is thus important that provision is made to cover the

    considerable expenses involved. However, many black clients see little need for life cover

    other than funeral cover, since very few have mortgages, and the extended family cares

    for dependants.

Most life assurers targeting the low income sector include funeral cover in their range of

    products. Although details differ from company to company, the following

    characteristics are common:

    ? Policies are simple in design.

    ? Policies cover the immediate family of the policyholder, and extended family can be

    covered if the policyholder so chooses.

    ? Policies sometimes offer small additional benefits, such as transporting the body,

    transporting the family, or providing money for a tombstone.

    ? Minimum premiums are kept as low as possible.

    ? Cover typically ranges between R2000 and R15000 for immediate family.


    ? On the death of any of the lives covered by the policy the selected sum assured

    becomes payable (as a tax-free lump sum).

    ? Many policies continue to cover others in the policy should the premium-payer die. ? Typically, underwriting on application is restricted to a few medical questions

    regarding those to be covered.

    ? There is a waiting period before cover for death due to natural causes commences. ? Insurers tend to aim for a turnaround time of less than 48 hours on a claim.

2.2 Health cover

    At present, most low cost healthcare options cover only the costs of major medical

    procedures. Given the shortcomings of the public health system, there certainly is a need for good quality, affordable cover for primary healthcare provision. However, the costs of such a package may still be beyond many in the low income market.

Emerging-market primary healthcare products may follow a model in which the scheme

    contracts at a discount with a general practitioner network or group of primary

    healthcare clinics that provide GP services, dentistry, radiology, pathology and other out-of-hospital services. Members may consult only these providers, who are paid a fixed

    monthly fee per patient rather than a fee per consultation and are incentivised not to over-service patients. The scheme then binds doctors to practise medicine according to very strict guidelines to ensure only necessary, cost-effective and appropriate care is dispensed.

2.3 Retirement provision

    Those who are employed in the formal sector generally have some form of retirement

    provision, but may desire to put aside more to supplement this if it is inadequate. Those working in the informal sector, and those without any form of pension or provident fund, are in special need of a vehicle to provide for retirement.

    In South Africa, the state old age pension is no more than a ‘survival’ benefit, and most people retire with inadequate funds. This means that many people still depend on others (especially their children) during their retirement years, consistent with the culture of the


low income market. However, this culture is changing, and thus there is greater need for

    saving toward retirement although this need is not always perceived.

Those without any form of retirement arrangement may find that a retirement annuity

    can offer significantly better value than an ordinary savings product. This is because one

    third of its value (up to R120 000) may be taken as a tax-free lump sum on retirement,

    and the remaining monthly pension may be sufficiently low so as to be untaxed, or taxed

    at a low marginal rate. However, the retirement funds tax on interest (at 25%) cuts into

    returns, while interest on ordinary savings would not be taxed in the hands of most in

    this market.

Those supplementing employer pension fund provision do not gain significant

    advantages from the tax deductibility of retirement annuity contributions the ‘tax-free’

    benefits are ‘used up’ by the pension purchased by employer contributions. The

    restrictions imposed by retirement products (for example, limitations on when payment

    is received, and the lack of a surrender value) may make a simple, flexible savings

    product allowing premium breaks and early withdrawal more attractive although this

    may not impose the disciplined saving necessary for retirement provision.

2.4 Education finance

    Many in the low income sector recognise the importance of education, both for their

    children and themselves. Education has been described by those in the emerging market

    as ‘imperative’, ‘… the best investment’, ‘… a passport to better living’, and ‘top priority’.

Because of the long term nature of facilitating saving for education, few informal

    organisations (such as stokvels) are able to provide for this need. This means that formal

    institutions are in the best position to provide suitable products.

Most vehicles aimed at providing education finance act like simple savings products,

    paying out a cash lump sum at the end of the savings term. However, unlike other

    savings plans, if the premium payer dies or becomes disabled the insurer may waive the

    outstanding contributions for a certain period.


2.5 Banking services

    A bank savings account is one of the most popular financial instruments used by the low income market. It is generally perceived as catering for short-term plans and needs, and is not considered an effective instrument for long-term plans.

    The versatility of savings accounts is seen as an advantage over insurance policies, but many recognise the difficulty of disciplining oneself to save using a savings account.

2.6 Long term investment and saving

    Many in the low income market have a need to save towards a goal, but struggle with the discipline to achieve this. Further, they need a high level of security for their savings to protect against adverse market conditions and the danger of fraud or crime.

    Although few have significant resources to invest, many aspire to investing in unit trusts or shares. There is little real understanding of the workings of these instruments, and considerable education of the market is needed.

    Most savings plans offered by insurers aim to provide a tax-free lump sum at the end of a savings term. Products often offer smoothed investment returns, but the returns are not exceptional. The value to clients lies in the disciplined saving that such a product enforces.





    It is necessary to consider the role that informal financial institutions play in the South African low income sector. This section describes the operation of stokvels and burial societies, their strengths and weaknesses, and opportunities present for life assurers.


3.1 Stokvels

    Lukhele (5, p.1) describes a stokvel as a type of credit union in which a group of people enter into an agreement to contribute a fixed amount of money to a common pool on a regular basis. This money is then kept by the treasurer or deposited into a bank account. Depending on the rules governing a particular stokvel, this money is drawn by members either in rotation or in time of need. Money is often used to fund business start-ups, or appliance purchase, or similar ‘big-ticket’ expenditure.

    The main purpose of stokvels is to allow disciplined group saving and mutual financial assistance, but they also have valuable social and entertainment functions. Groups hold regular meetings for fund-raising and other activities.

    Membership in a stokvel is voluntary, but quite strictly controlled. New members are introduced on personal recommendation honesty and reliability are thus important

    requirements for membership, as most stokvels do not have written agreements.

    Stokvels have sprung up to cater for the financial needs of the black community where formal financial institutions have not been accessible, but they also have a strong cultural aspect. Thus where the formal financial sector has contact with stokvels, the challenge is to do this without damaging their cultural fibre.

3.2 Burial societies

    Because an extravagant funeral is important as a measure of respect for the deceased, significant financial outlay for the burial is common, especially within the black community.

    The primary reason for establishing a burial society is for the members to provide each other with financial support for funeral expenses in time of bereavement. However, these informal schemes provide more than money they also provide ‘person power’

    and community support during time of bereavement.

    The most basic type of scheme is an agreement amongst the members to contribute a specific sum of money should a person in a member's immediate family die. Other burial


societies are more structured each member contributes regularly, and the proceeds are

    then placed in a bank. When there is a death in a member's family, an amount is

    withdrawn to assist with funeral expenses. It is by no means a profit-making business,

    but rather a way of helping one another.

3.3 Characteristics of informal financial societies

    Members of informal financial societies like stokvels and burial societies experience

    tangible benefits in the form of funeral expense cover and receiving a cash pay-out,

    amongst others. Intangible benefits they derive include the support and comfort they

    receive from the group during hard times, Ubuntu (belonging) and the opportunity to

    learn from more experienced people.

3.3.1 Strengths of informal financial societies

    Stokvels and burial societies are able to meet the needs of their members because of their unique strengths and characteristics:

    ? They are formed and structured in response to community needs; ? They offer products with affordable contributions and basic, standard benefits; ? Benefits are often short-term in nature and payable immediately when due; ? They have minimal administration expenses;

    ? The operations of the scheme and conditions for payment of benefits are explained

    clearly at inception, and are understood by all;

    ? They are based on trust of their members, and no formal contracts are signed; ? They help in situations where money is needed quickly, because they are flexible and


    ? Membership in stokvels makes capital available to people who would not qualify for

    loans from formal financial institutions; and

    ? Peer pressure results in exceptionally low default rates.

3.3.2 Weaknesses of informal financial societies

    Stokvels and burial societies do experience numerous constraints and weaknesses:


? Benefits are generally low;

    ? Operation of these schemes is often confined to a certain geographical area or ethnic

    group or congregation, and as such the group does not display sufficient

    heterogeneity to properly spread risk;

    ? They can only serve needs that are common to the community;

    ? They take as little investment risk as possible, and hence rates of return on their

    funds are low;

    ? The operation often constricts members' freedom, as people are expected to be

    actively involved;

    ? They are open to fraud;

    ? There is no legal recourse if anything goes wrong; and

    ? There is no actuarial reserving or setting of premium rates and hence AIDS is likely

    to have a very significant negative impact, especially on burial societies.

3.4 Opportunities for partnerships with informal

    financial societies

    Stokvels in South Africa had a total membership of approximately 900,000 people in

    1998, with only 400,000 of these members employed in the formal sector. Each stokvel

    has, on average, 26 members, although this varies greatly.

    Burial societies in South Africa had a total membership of approximately 6.5 million

    people in 1998, with only 2.1 million members employed in the formal sector. Each

    burial society has, on average, 88 members.

Because stokvels and burial societies are aimed at serving the financial needs of the

    community, they offer very good opportunities for financial services providers that can

    collaborate with them. Much of their membership is not reachable through the formal

    market, and thus they offer a valuable means of reaching this market. By contrast,

    community activity based groups (such as church groups and civic groups) are harder to

    target since their activities are not closely associated with financial matters, and often the bond between association members is not very strong.

Any interface between formal financial institutions and stokvels or burial societies will


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