Within the scope of the German pension reform (the “Riester-Rente”, named after labour minister Walter Riester) there will be a reduction of the state pension from 70% to 67% of the last net income after a complete career. The gap will be filled by additional tax relief for private savings and company pension plans. Mandatory company pension schemes sponsored by the employee against salary sacrifice are part of the package.
But how can an employee gain a state pension of 67% of his last net income? He has to work 45 years and earn average income over the period.
The concept is the following: one “pension point” (e25.31 monthly pension) is credited every year to the employee’s pension account when he has earned the average of the whole workforce (e2,290 monthly gross income). The result is then: e25.31 x 45 years = e1,139 monthly pension, or about 70% of last net income (state pension is more or less income tax free). Higher/lower pension points are credited for higher/lower incomes in relation to the average. However, the highest creditable income is the contribution ceiling (e4,500 monthly gross income). This looks like a pretty good replacement ratio.
But what does reality look like? At 20 the pupil graduates from high school, followed by five to eight years at university and two to three years of ‘orientation’ or army. Certainly, during this period state pension credits some pension points. But people make careers and do not earn ‘the average’ over the whole period.
Another point is the age of retirement. The average retiree is 58 years old. Although this age will increase to 60 or 62, the individual is missing three to five contribution years (and pension points). In addition, the accumulated state pension is reduced by 3.6% per year of early retirement (which will be 65 in future). The replacement ratio will be about 40–50%! For employees with a final income over the contribution ceiling the gap between the last net income and the state pension is much bigger.
What is the outlook, especially for highly qualified people with income in excess of the contribution ceiling? They have a dramatic need for additional pension schemes. The demand for company pension schemes will increase significantly. They will become aware of the pension gap. Employees recognise the pension scheme more and more as a part of the total remuneration package.
Also, for the rest of the workforce pension schemes will become more important. Unions take out collective agreements with the employer associations to found sector-wide Pensionsfonds to provide cost-optimised products. The first collective agreements for company-sponsored sector wide pension schemes have been taken out. In wage negotiations between unions and employers company sponsored pension will become an important issue.
Marcus Mueller is an international benefits consultant at Gerling Institute in Cologne, a member of the International Benefits Network (IBN)