UAE pension plans aim to ease end-of-service headaches

February 20, 2025, 7:50 AM

Pension funds managed by third parties are pillars of many stock markets – and could be in the UAE too

2023 law paved way for ‘defined contribution’
Markets and asset managers could benefit
Reduces companies’ balance sheet risks

Pensions are a headache for governments, companies and employees alike. How to provide staff with a comfortable retirement that could last for decades?

Historically, staff leaving UAE companies receive a substantial one-off payout from their employer, the amount increasing significantly the longer the period of service.

But this “defined benefit” system can cause financial difficulties for companies, which must in theory put aside sizeable sums of money to fund the payouts.

For their part, employees in small businesses, particularly those from overseas who may be planning to return home, often fear their boss may not be able to meet obligations to them.

In 2023 the government approved an alternative framework in which employers invest the end-of-service entitlements that employees are accruing into funds approved by the Securities and Commodities Authority.

The SCA subsequently granted licences to Dubai’s Daman Investments, Abu Dhabi’s Lunate Capital, First Abu Dhabi Bank and the federal government-owned National Bonds to launch so-called defined contribution schemes.

Consultancy WTW conducted a survey of 76 UAE businesses with workforces ranging from 200 to more than 5,000 people. It found that nearly 80 percent of the companies had yet to ringfence their end-of-service liabilities. In other words, they have persisted with the old defined benefit way of doing things.

“Policymakers understand that as foreign workers stay in the UAE for longer and longer and assuming salaries rise quickly, these defined benefit obligations are becoming ever larger on company balance sheets,” says Michael Brough, a senior director at WTW in Dubai.

“Governments across the GCC want to ensure blue-collar workers, especially, are protected.”

Brough adds that under the new defined contribution schemes, were there an economic downturn akin to the global crisis of 2008, there is unlikely to be a repeat of the squeeze when many companies across the UAE and the Gulf were not able to meet their defined benefit obligations.

“Failure to pay end-of-service benefits can result in substantial financial and operational fines, as well as reputational damage that could impact upon staff recruitment and retention,” says a September report by retirement planner Sovereign Group.

“Businesses should consider maintaining a dedicated end-of-service reserve fund. By setting aside a portion of funds regularly, businesses can gradually build a buffer to cover future payments. This reduces the risk of cashflow issues if multiple employees leave the business,” it adds.

The new system may also benefit local capital markets. Pension funds managed by third parties, such as the 401k in the US, are pillars of many stock and bond markets. So pivotal is the “buy side” that tampering with it can bring down a prime minister – see Liz Truss in the UK.

“It’s a great opportunity,” says Mohamed Hussain Al Nowais, managing director of Abu Dhabi’s Waha Capital, which has $3.2 billion of assets under management.

“It’s a significant space with a huge amount of unfunded off-balance sheet positions that will be coming onto balance sheets over the next few years. It’s something we may look at.”

Unfunded means companies have not accounted for their pension responsibilities fully. When they do, the funds come “on balance sheet” and businesses are likely to farm out the management to the likes of Waha.

Retirement can last for decades so careful planning is required to make sure families can manage

Daman’s funds invest primarily in “money market” products, which are low-risk investments such as short-term government bonds and interest-bearing deposit certificates.

Lunate offers low, medium and higher-risk funds. Low-risk or capital-preservation funds invest in products such as term deposits so employees’ money remains in cash form.

Lunate and Daman did not respond when asked by AGBI how many companies and employees had signed up to their end-of-service schemes.

“The first products have minimal assets and will be expensive and will therefore grow slowly,” adds Brough. “Large employers will likely continue with the current defined benefit [schemes] due to their more paternalistic nature and only move to the new defined contribution products once these become mandatory.”

Defined contribution plans may become compulsory in the next few years. Ahead of such requirements, Sovereign recommends companies conduct regular audits to quantify their liabilities.

These “provide insights into how changes in the workforce, such as salary changes, promotions or employee turnover rates, could impact their future liabilities”, the report adds.