Lost Opportunities With End of Service Payment
Many expats I speak to are relying on their end of service payment (EoS) also known as ‘gratuity‘ to support them in retirement. The EoS is a nice potential boost to retirement provision. However, relying on it completely will result in lost opportunities and hardship in later life. Here’s why…
What Is The End of Service Payment?
As the name suggests, the EoS is a lump sum paid at the end of an employee’s service with a company.
The amount paid depends on:
- The length of time the person worked for the company
- The nature of their departure from the company [e.g. end of contract, dismissal or resignation]
- Their basic salary as at their date of leaving
- The employee’s type of contract
Most expats in UAE are working in the private sector are on limited contracts. The UAE Government website shows all the details. Limited contracts are so-called because the maximum benefit which an employer is liable for under the End of Service rules is 2 years wages.
How Much Is Paid?
There are variations of the EoS between onshore and the various free zones. Therefore, it is best to check with your human resources officer to see what applies to you. In general:
- less than 1 year, there is no benefit
- more than 1 year but less than 5 years, the benefit is 21 days for each year
- 5 years or more is accrued at 30 days per year.
So a person earning a basic salary of AED30,000 with a housing allowance of 15,000 and travel allowance of AED5,000 per month (total package AED50,000) after 40 years of service [typical working life] would receive about AED720,000. This is a capped amount of 2 years’ basic wages.
Why Isn’t End of Service Benefit Enough?
If an expat is relying on their End of Service payment to provide for them in retirement, the money must generate an income. If a person retires at 70, they will probably live for another 10-15 years. This means that 2 years income would have to last for 10 years or more.
In the example above, the amount the expat could spend every year to support their standard of living would drop from AED600,000 (AED50,000 per month) to just AED72,000 (AED6,000 per month). That’s an 88% drop in income.
Currently, many of us are suffering from a 20-30% cut in income which we expect to be temporary. However, retirement is permanent so, the prospect of a cut almost 3 times as bad as the current situation should be cause for thought.
What Can Be Done?
As the saying goes: failure to plan is planning to fail. For information on how to plan your finances view this post.
Historically, investors have been recommended to draw up to 4% per annum of their portfolio. This would result in the portfolio lasting for at least 33 years, even accounting for downturns like the global financial crisis, dot-com bubble, and many more.
A withdrawal rate of 4% enables investors to calculate the amount they need to target at retirement. In the scenario above, if the investor wanted an income of AED50,000 a month, they will need a retirement fund of AED15,000,000, less the AED720,000 paid in End of Service Benefit.
Over a 40 year period, with a return of 6% after taxes and charges, the investor would have needed to invest AED7,200 per month to achieve their goal. This is about 14% of their income and benefits.
End of Service Payment is a useful addition to a retirement plan. However, it is not a replacement. A better description is to compare it to the UK’s Basic State Pension. Investors wanting advice on their retirement plans should contact me, or call me on 050 594 5217.