Positive reaction to proposals
1999 has been a busy year for Dutch pension legislation. Earlier in the year changes were executed to the tax laws following from the Witteveen Commission’s recommendations on flexibility. There are now also proposed changes to the primary pensions supervisory legislation.
The Dutch parliament is discussing a bill intended to change the Pensions and Savings Funds Act (Pensioen- en spaarfondsenwet or PSW). The changes involve:
q minimum funding methods;
q pension accrual may not be greater in later years of service;
q a more detailed actuarial note;
q pension funds with less than 100 active members must reinsure the benefits;
q actuaries and accountants to become whistle-blowers;
q quality standards for pension fund board members and pension fund managers;
q obligatory code of conduct for pension funds;
q enhanced supervisory instruments for the Insurance Supervisory Board (Verzekeringskamer).
The current PSW allows several funding methods. One is the so-called (65-x) method. This allows the effect of salary or other pension increases on past service benefits to be evenly funded over the remaining years of service until retirement (often age 65). Pension funds that use the (65-x) method are therefore often under-funded as measured against leaving service benefits.
Under-funding can be a problem when the sponsoring company goes bankrupt. Recent bankruptcies of large companies (such as Fokker Aircraft or DAF Trucks) with (65-x) funded pension funds, prompted the legislator to ban the (65-x) method. Indeed any funding method that re-sults in unfunded accrued pension liabilities will be banned. Unfunded past service accruals must be financed with-in 10 years after the bill becomes effective. The ban on (65-x) funding also applies to insured pension schemes.
The (65-x) method was often used to transfer pension costs into the future. To prevent evasion of the ban on this method, the Dutch legislator intends to prescribe that pension accruals must be evenly spread over the total years of service.
For instance, if a full old-age pension amounts to 70% of final pay after 40 years of service, the yearly accrual percentage must be 1.75%. It will not be permitted to have an accrual of 1.5% in the first 20 years of service and 2% in the last 20 years.
Dutch self-insured pension funds must operate on the basis of a document that describes the funding method, the premium calculation method and the actuarial assumptions and methodologies used by the fund. This document, called an actuarial note, is reviewed by the Insurance Supervisory Board. The new bill prescribes that reinsured pension funds must also submit an actuarial note. Furthermore, the actuarial note must contain more information, such as an organisation chart, a description of granted tenures and a detailed description of the fund’s investment policy.
Pension funds with less than 100 active members (pensioners and ex-members not included) will be obliged to reinsure the risks connected with the pension liabilities. This new requirement is driven in part by the fact that smaller pension funds take up a disproportionate amount of resources of the Insurance Supervisory Board. Also the Dutch deputy minister of social affairs JF Hoogervorst says that smaller pension funds often do not have pension fund boards that have sufficient expertise or are sufficiently independent from the employer.
Currently, actuaries and accountants of pension funds must submit reports to the Insurance Supervisory Board and provide any further information requested. The new bill obliges actuaries and accountants to report circumstances to the Insurance Supervisory Board that breach the PSW and could threaten the fulfilment of the pension obligations or could lead to the accountant not issuing an unqualified auditor’s report. Not only does the appointed actuary have this obligation, but also any actuary hired as a consultant. This obligation is intended to strengthen the independent position of actuaries and accountants, especially those that are employed by the pension fund itself.
Pension fund board members and pension fund managers will in future, be tested by the Insurance Supervisory Board for suitability. This will be done by means of a questionnaire, rather than an examination. The Insurance Supervisory Board will publish a policy on quality standards within one year of the bill becoming effective.
All Dutch pension funds must have a code of conduct that applies to the board, the fund managers and all other persons that work for the pension fund.
The code of conduct must promote professional conduct and transparency. Business and personal actions must not be mixed, which is especially important for those involved in the investment process.
The content of the code of conduct will be left to the pension funds themselves to determine. The Insurance Supervisory Board shall only publish minimum requirements.
The Insurance Supervisory Board will be even better equipped in future. New legal instruments that are created by the new bill are:
q the Insurance Supervisory Board can issue directives to a pension fund’s board;
q it can give notice of the appointment of a guardian, it can issue a penalty in case of non-compliance, and administrative fines. All the Insurance Supervisory Boards decisions will be subject to objection and appeal.
The market has generally reacted positively towards most parts of the new bill. In recent workshops we held to discuss the new bill, it was noted that pension fund board members were a bit wary about the proposed testing by the Insurance Supervisory Boards of new candidates. Those involved with pension funds do however recognise the need for greater professionalism within pension funds. Furthermore, the extensive new array of supervisory instruments is regarded by many as overkill.
With regard to the ban on the (65-x) funding system the Dutch organisations of employers and employees, united in the Labour Organisation (Stichting van de Arbeid) have asked for a 15-year period to deal with unfunded past service accrual. This request was rejected by Hoogervorst.
The obligatory reinsurance for small pension funds however has raised many eyebrows. Obligatory reinsurance for funds with less than 100 active members would mean that 260 now self-insured pension funds, with total assets of Dfl4.3bn (E2.19bn), would have to seek reinsurance.
Critics of the ban say that the numerical strength of a pension fund is not logical condition to decide whether or not a fund can be self-insured. In the first place there should be a distinction between actuarial risks and investment risks. A small fund that should reinsure actuarial risks, such as death and disability, could very well be capable of covering investment risks by itself. A fund with 150 active members can have fewer assets than a fund with 99 active members.
Furthermore, the ban can be judged as unnecessary as udders on a bull, since the Actuarial Principles for Pension Funds, as issued by the Insurance Supervisory Board, work as well for small funds as for large ones.
Also, as a result of the ban, the freedom of choice for pension insurance will be limited to insurance companies. This development is contradictory to the Dutch government's drive for freely operating pension markets.
The main argument against obligatory reinsurance is that this will lead to an increase in pension costs. It is known that relatively small group insurance contracts do not contain a system of full profit sharing. Profit sharing is in most cases limited to a system based on the yield on government bonds. This could mean an increase in pension costs up to 15%. This is not in line with the Dutch cabinet’s policy to limit increasing pension costs.
Hoogervorst reacted to this criticism by stating that insurance companies, because of their large size, can safely invest in equities, thus generating a better performance than a small pension fund can alone. Surely, insurance companies as a whole will be able to have better investment performance than small pension funds. What Hoogervorst does not seem to understand is that what matters for the pension fund is the sharing of those profits. Insurance companies’ shares on the stock market wouldn’t be worth much if all profits on investments were transferred to policyholders, or would they? A State Actuary would be very helpful in cases like these, however in the Netherlands such an institution in non-existent.
We have suggested altering the bill in such a way that well organised small pension funds can keep their self-insured status. The above criticism and the idea of measuring quality rather than size was picked up virtually all political parties in parliament. Also the employers organisation VNO-NCW and the Dutch Foundation for Company Pension Funds (Stichting Opf) still have strong objections. I expect that in parliamentary discussions still to come, the Secretary of State will be forced to alter the bill on this point.
Arjan van de Griend is a pensions lawyer and a partner of Watson Wyatt Brans & Co in Amsterdam