Capitalising on progress
France’s system of universal retirement provision dates back to the years immediately following the second world war. The role of the compulsory pay-as-you go (répartition) element has long been significant and is in line with the strong Gallic preference for the social model.
This preference dates back even further – to the years before the first world war, when a system of funded pension provision was introduced for certain sectors. However France’s first experience of ‘la capitalisation’ (funded retirement) as a means to provide for retirement ended in disaster when the system went bankrupt in the 1930s.
Hence the sensitivity of the French to the term ‘pension fund’. While the term ‘fonds de pension’ is understood by France’s pensions industry, it remains unofficial; France’s official side - and its influence in the EU - has resulted in the coining of the term ‘institute of retirement provision’ (IORP).
French civil servants are covered by a pay-as-you-go system known as Préfonds. Traditionally their retirement scheme has been superior to that of private sector employees although it is now being gradually aligned thanks to legislation passed in 2003. Previous attempts had succeeded only in bringing almost the entire French civil service on to the streets, but a change in the economic climate brought employers and employees to an agreement.
Private sector employees are covered by a compulsory pay-as-you-go regime which is divided into four tranches covering the different bands of annual earnings. The basic social security covers the tranche of earnings up to the social security ceiling (SSC) which is set currently at around €30,000.
On account of the worsening demographic balance the Fillon Law of 2003 extended the length of time required to accumulate a full pension from 40 to 41 years. Employees that contribute for 41 years will get a pension of around 50% the average of their 25 best earning years.
At the time of its introduction in 1946 the basic social security system excluded management workers so management functions quickly introduced their own scheme a year later in 1947. This is known as AGIRC, the general association of institutions for white collar retirement provision. Today the social security covers all professions up to the SSC.
There are two AGIRC schemes: one covers the second band of earnings from €30,000 to €120,000; the second covers the third band from €120,000 to €240,000. The increase in the number of years of contributions required for a full pension from the social security system has delayed the age of retirement allowed under the AGIRC system.
Another similarity which AGIRC shares with the social security system is that it is also based on the average career of earnings. “If the manager experiences a rapid increase in earnings his replacement ratio will not be very high – up to 60% but as low as 40%,” says Denis Campana, director of retirement benefits at Mercer in Paris.
The first AGIRC scheme requires a contribution that is 25% greater than the amount that is invested in the retirement account in order to balance the deficit which the system faces at present.
The second AGIRC scheme was originally a separate scheme set up for company directors but was absorbed into the general AGIRC system in the 1990s. It retains a small anomalous difference in that while the first scheme allows retirement from the age of 60 if the full quota of contributions has been made in line with the basic social security system, the second scheme stipulates a retirement age of 65 even if the full quota of contributions has been reached before that time.
Contributions are tax deductible up to a maximum of 8% of salary. In the past this was limited to annual earnings of €150,000 but the Fillon Law increased the limit to €240,000.
Because of the relatively low level of salary replacement offered by the social security system, ARRCO - the association of complementary retirement schemes - was introduced in 1961 to provide additional pension provision to cover the salaries of all classes of employee up to €30,000.
Here too the length of time required to accumulate a full pension is has been increased to 41 years. Together the social security and ARRCO provide a replacement ratio of 60-70%. “So the need for any additional provision for those earning up to the SSC is not very great,” says Campana.
But he adds: “The relatively low replacement ratio offered by the AGIRC system, especially in cases of rapid salary progression, means that additional forms of pension provision are needed.”
Many companies use the defined contribution (DC) model to provide additional pension benefits to their management, while the defined benefit (DB) system is the form chosen for those in the fourth band with salaries exceeding the AGIRC system’s limit of €240,000.
DC schemes also benefit from the extension to the tax break on contributions.
“There will be a move to DC pension plans by those earning between €150,000 and €240,000,” says Campana. “In fact the move is already taking place and is coming at the expense of DB schemes.”
In spite of France’s strong social traditions, all levels of French society have realised that the pay-as-you-go system cannot cover all, or even most of the retirement needs of all its retirees for ever. Jacqueline Massieux, retirement and benefits consultant at Hewitt’s Paris office cites the official figures from the National Retirement Committee that the total system may be in deficit to the tune of €43bn a year by 2020, and by 2040 this figure may be as high as €100bn.
“Furthermore the level of pension benefit will decrease gradually over time, while the number of years required for the full pension may increase to 43 or even to 44 years,” she says. “Part of the problem is France’s enduring unemployment rate at around 10% which clearly has a significant bearing on the system’s receipts.”
The government responded with a new system of company retirement savings where contributions would be held until retirement. There is an individual plan which can be purchased from a bank or insurance company as well as a corporate option set up by the employer.
Thanks to its incentive to employers to match employee contributions up to a maximum of €4,600 a year, double the limit for the basic company savings schemes, hopes for the new system are high, with some 88% of companies in the CAC40 are in a PERCO (corporate) scheme or planning to set one up within the next two years.
While companies have responded enthusiastically, not everyone is entirely happy with the new system.
“The fiscal incentive is correct,” says Hewitt’s Massieux. “But the problem with the PERCO is that you have to offer it to everyone; you cannot target a category of employee. Such a financial burden may be a disincentive.”
Companies wishing to target specific groups of employees on grounds of cost and/or the need to distinguish the reward package for its more senior staff are likely to resort to DC schemes.
Another issue with the new retirement savings schemes is the contradictory signals that the government is sending on the subject. Christel Delaunay, responsible for communications at Hewitt in Paris refers to the measure introduced last year by finance minister Sarkozy allowing participants to make withdrawals from these supposed long term schemes. “The reason was a need to boost consumption,” she notes.
“However, companies reacted strongly, complaining that they were being asked to promote long term retirement provision on the one hand while on the other their employees were being encouraged to spend their ‘long term’ savings.”
To the further consternation of employers the government proposed a scheme via the Breton Law whereby employees would be able to draw down amounts from their savings schemes each year. However, the opposition of the employers eventually made the government commute this measure to a one-off withdrawal.
So how far is the market able to absorb the additional cost of retirement savings schemes? “The French economy is not in a period of strong growth,” says Campana. “The challenge will be to incentivise companies to set up schemes in the framework of a low growth economy. It will be difficult for both companies and their employees to find room to fund new pension contributions.”
While the economic outlook is not particularly encouraging, necessity has driven progress to a more balanced system.