What the new UAE end of service gratuity regulation will mean for you
The majority of companies in the UAE are aware of their end of service liabilities and have some funding in place to cover it. The problem is a company’s liability changes over time. And only “a very small proportion” of companies carry out an evaluation to top up their liability accordingly each year. However, this has changed with a new regulations coming into place on the 1st of July 2016. What does it mean for employers and employees?
What is the new Regulation?
The new regulation obliges companies to have an evaluation of their liability for their end of service and then they have to match the accrual that they have on their balance sheet to say here’s what we owe our employees and here’s how much money we have set aside.
Will this be a problem?
The problem will be two-fold. One, a number of companies don’t set anything aside and they fund it as an expense as and when people leave because they are using what should be the employees’ money as working capital. The second problem is because of the way the system is set up. For your first five years you get paid 21 days of pay and for your next five years you get paid 31 days of pay. Somebody who starts on AED10,000 a month and gets paid 5 to 6 per cent increases every year in terms of their salary, is due more gratuity as it is based on their final salary; so the money set aside needs to grow with each increase. But if the company only accrues the final payment based on the original salary without doing a top-up for what they are owed, even for one employee, then you have a gap by the end of 10 years of AED40,000. This doesn’t sound much but if you employ, let’s say 100 people, then that suddenly becomes a big hole of AED4 million! So what this new legislation is saying is as an employer, you need to make sure that the gap between what you have saved up and what you owe is constantly topped up so there is no gap.
What’s the solution?
Companies need to bring in a defined contribution pension scheme. What that would do is every month instead of putting your money onto the company’s balance sheet, your money would be paid into a fund that you would control held by a third party.
What if companies can’t fill the gap?
That’s a very good question. If you look at the financial press, BHS (in the UK) went bust recently and the reason it went into liquidation is because its accountants said it was no longer a going concern because it didn’t have enough money to fulfil its Pension liabilities. So what it owes its pensioners has effectively closed that company down. This is an accounting regulation, so what they should have done is take a hit on their profit and loss accounts over a number of years to fund the gap.
What does the new regulation mean for employees?
Firstly it takes away the risk of them having all their eggs in the one basket with their jobs, Pensions and savings all with one company. Secondly, under the current UAE end of service rules if you are a long-serving employee, at the end of your service you cannot be paid more than two years’ salary. Now it doesn’t take that long for your money to get up there, let’s say 20 years? But what happens under that regime is that your money can’t grow. And actuaries will tell you if you are hoping to retire at 65 and live to the age of your early 80s, you need to have more than 12 years of your final salary saved up in assets to fund your retirement. Companies need to set up “defined contribution pensions” urgently to replace the end of service payment. For Free Zone companies, each free zone has its own employment law and allows companies to opt out of the end of service arrangements, on the condition that they give the employees something of equal or greater value.
Now that the dust has settled a bit on this topic, does YOUR employer have a SEPARATE fund?
Or if you are an employer, do YOU? If not, let me know if you need help/advice before you get fined and/or jail time………….