a) What 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? What issues relating to the concept of the time value of money may be important in this decision-making process? Explain.
The tertiary sector comprehends enormous events alternating from trade to administration, through financial, activities related with real estate, transport, social and health services, services to business and personal services. Employees working under tertiary sector provides services and delivery of services is one of the main employment area of the tertiary sectorMangum, Catherine, and Stephen Thomson Kerr. (2012). Employees who belongs to tertiary sector have to make fund by their own for the phase of superannuation for the reason that they do not work under employer. Employees can choose a plan to contribute for the superannuation fund as per their interests. Contribution for superannuation fund can be done by any of these methods- defined benefit plan or investment choice plan. While selecting a plan for superannuation fund, it is important for the employee to consider a number of factor. Therefore, before discussing about the factors it is crucial to understand both of the plans-
Defined Benefit Plan: This plan is also known as qualified benefit plans or pension plans. This plan is characterized by the term ‘defined’ for the reason that formula to calculate the contribution of employer is well-known. Fund maintained under defined benefit plan is different as comparative to other funds, as the amount of expenses are determined by the return of the invested funds. This plan is sponsored by the employer and the benefits of employee are calculated by using a formula which considers aspects like salary history and length of employment. In the defined benefit plan there are restrictions that states by what method and at what time an employee can draw funds without fines. The amount which would be received by the employee is used to be decided at the first stage of Defined benefit plan. Requirements of employees are considered as what amount they want to get at their retirement time or at the age of their superannuation. Variables which are considered while calculating the employees’ pension under defined benefit plan are stated below:
The amount of pension received by the employees when get retire depends on service tenure of employees, amount of salary and accrual rate as well. Employees can avail benefit from the plan at the time when the plan was created. Tax incentives also exist in this plan which makes it suitable to get adopted by the employees of tertiary sector(Wilson, 2015).
Unfunded defined benefit plan: There are two types of defined benefit plan i.e. funded defined plan and unfunded defined plan and employees have to make selection from any of these plan. In the funded defined plan, investment of one or more than one asset is created and the contribution of the employee and employer shall be done in that asset only; but in the unfunded defined plan, investment is not createdMohamed Fairooz Abdul Khir. (2012). Under the funded defined benefit plan, the payment of pension will be done by selling off the asset created earlier and the amount received by selling off the asset will be transferred to superannuation fund of employee.
Investment Choice Plan
According to the investment choice plan, an investment account of individual is opened with an investment company and the amount of investment can vary. The contribution of both employer and employee, as the units earned or any gain throughout a period will be put in totally as a unique or multiple investments.Various factor facilitate or empower employees to make change in their investment(Rahman, 2016). Therefore, it deliver benefit to the employees as they can manage their fund for superannuation as the employee enjoys the right in terms of selecting fun they want to make investment. In addition to this, employee under investment choice plan, also avail benefit of managing portfolio as they have right to make investment in the contribution fund they want to. Some of the example of investment choice plan are- stable fund, shares fund, secured fund etc.
In order to make selection of plan of contribution for superannuation in between Defined Benefit Plan or the Investment Choice Plan, following factors should be considered:
Risk Profile:Tertiary sector employees should consider level of risk which they can take. Superannuation funds and contribution both are poles apart from each other. Comparing to investment choice plan, defined benefit plan is less risky. The main reason behind it is that defined benefit plan is not linked with market therefore there is not much risk in it. Looking to other side there is large number of investments as well as options in investment choice plan. Equity or market linked are some of the investment options(Prince, 2016). Thereforetertiary sector employees should consider the risk as major factor.
Inflation Rate: The cost of living depends upon rate of inflation as inflation rate increases cost of living also increases and when it decreases the cost of living also decreases in the same manner. When decision related to superannuation is taken then, the thing which should be considered is contribution. Defined benefit plan is long term [plan so inflation plays a very important role in it. Inthe case of defined benefit plan value of money decreases every year because investments are done for a long time. The conclusion comes that it require more contribution from its employees
Time Frame of Investment: in the selection of superannuation contribution plan time frame of investment plays an important role. It should be decided by the employee whether he or she wants to invest for a long time or for ashort time(Clitheroe, 2013). Better results are provided by the investment choice plan. Only higher benefits are given by defined benefit plan but the employees age should be less.so the time frame of investment and superannuation funds should be considered before deciding.
Financial Goals: Each and every individual has different financial goal .when an individual decides to invest in superannuation he or she should considers some financial considerationMohamed Fairooz Abdul Khir. (2012). An individual select investment choice plan only when the financial goal of individual or tertiary sector employees is the gain of higher profit and they should be ready to take the higher level of risk. At the other side individual needs moderate level of pension income and then only tertiary sector employees can select defined benefit plan.
Problems Concerning to the Concept of the Time Value of Money
Time Value of money is one of the imperative concept in financial management. This concept can be used for comparing alternatives of investment in addition to solve issues related to loans, leases, annuities, savings and mortgages. Time value of money is concern with the concept that the dollar which is possessed at present has more worth in comparison to the value of dollar which would be received in future(Wilson, 2015). This concept also play an important role for selecting the contribution fund of superannuation. Investment choice plan as well as the defined benefit plan has poles apart dealing and alleviationmethod in terms of treatmentfor time value of money. As the time value of money concept can be practiced for the process of decision making in relation to superannuation funds. Value of amount of superannuation contribution which would be received in the future as when the employee will attain the retirement age, that amount can be evaluated by using this concept(Wilson, 2015).
Issue of real cash flow is the main concern related with the time value of money concept. As the cash flows are adjusted with the rate of inflation and this rate can have impact upon the future value of dollar that can be issue for the superannuation contribution.
The above discussion, done about defined benefit plan and investment choice plan supports in order to reach a conclusion that in comparison to defined benefit plan, investment choice plan is extremely customised plan for superannuation( Eun, 2009). It is recommended that investment choice plan is better as it delivers extreme flexibility in relation to develop and design plan for superannuation. An additional reason to choose investment choice plan over defined benefit plan is that- in defined benefit plan, superannuation amount is certain in coming year as it cannot be increased. On the other hand, future plan in case of investment choice plan can be increased as per the prerequisites or market situation.
b) “If the efficient-market hypothesis is true, the pension fund manager might as well select a portfolio with a pin.” Explain why this is not the case.
Efficient-market hypothesis can be described as that situation of market in which value of commodity, asset or stock produce a reflection of accessible information about the business organization. In simple words, efficient-market hypothesis can be defined as the situation in entity`s shares and stocks price can be determined through analyzing the information of company available in the market.Information of the company in the market helps in assessing the value of its stock or asset; this also helps the investor to make decision for investing in the company. As a number of information available in the market help the investor in making investments. Efficient market hypothesis indicates to investor that stock price or price of asset is at fair value as investors cannot get loss or profit in the stock market(Dixon, 2012). Theory of efficient market hypothesis conflicts that there are number of factors which decides prices of asset. For that reason in this situation, in terms of investment shares or stock can be picked in easy way instead of applying skills. In the efficient market hypothesis, consideration for the past information, market condition, trend analysis etc. is not considered to value the asset or price of stock. This situation implies that stock or asset`s price does not fluctuate due to any change in market conditions.
Pension Fund Manager`s Role in Management of Portfolio
In the situation related with efficient market hypothesis, there is an easy role played by pension fund manager in terms of managing the portfolioWeil, Roman L. (2017). There are chances that portfolio manager`s need will not be required as less consideration is laid to any circumstances. In terms of managing the portfolio, role pension fund manager`s role will be hampered as in the situation of efficient –market hypothesis, consideration about past information and activities in market are not considered. As for that reason, the role of pension fund manager will get lessen as the portfolio management`s need will not be there. In the investment choice plan, pension fund manager updates the employee’s portfolio in a regular basis therefore there is no requirement of portfolio manager.
On the other hand it can be evaluated that, this type of situation do not exist in market or may not exist in the future as well;for instance there are countless factorwhich has to be kept in mind in order to make investment or to choose contribution fund for superannuation. Market forces are enormously strong that is a reason, which supports non-existence of efficient market hypothesis. In the efficient-market hypothesis, it is proposed that investors would not be able to achieve higher profit than other. Each and every investor will get same profit in the efficient market hypothesis as a result the question to hire pension fund manager for managing portfolio do not arise here. Hence it can be evaluated that efficient market hypothesis is not a situation which exist in the market as due to its imprecise and untested basis.
References
Eun, C. (2009). International Financial Management. McGraw-Hill Higher Education.
Nix, C. (2017). Data Analytics. CreateSpace Independent Publishing Platform.
Clitheroe, P. (2013). Control Your Own Super Fund. Penguin UK, 2014.
Dagwell, R., Lambert, C., & Wines, G. (2012). Corporate Accounting in Australia. Pearson.
Dixon, D. (2012). Securing Your Superannuation Future: How to Start and Run a Self Managed Super Fund. Willy.
Gemmell, R. T. (2016). Self-Managed Superannuation in Retirement: A Personal History through the Global Financial Crisis. XLIBRIS.
Greite, S. (2013). The Development of the Australian Accounting Standards After the End of the G4+1. Grin Verlag.
Mangum, Catherine, and Stephen Thomson Kerr. (2012) Centrally Planned Innovation. 1st Ed.
Mohamed Fairooz Abdul Khir. (2012) the Concept of the Time Value of Money. 1st ed. Kuala Lumpur: ISRA.
Prince, J. B. (2016). Tax for Australians For Dummies. For Dummies.
Rahman, A. R. (2016). The Australian Accounting Standards Review Board. Routledge.
Weil, Roman L. (2017) Financial Accounting. 1st ed. [Place of publication not identified]: Cengage Learning
Wilson, R. M. (2015). Researching accounting education. Routledge.
Zask, E. (2013). All About Hedge Funds. McGraw-Hill Education.
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