Gail Moss reviews pension regulation and law changes under discussion in seven European countries
A new government was elected in September 2011. In December, it enacted three major pieces of pensions legislation.
The tax payable on pension returns (PAL-tax) has been raised from 15% (applicable to end-December 2011) to 15.3% (from 1 January 2012).
The annual ceiling for payments to pension schemes with less than life-long coverage (ie, which make either term payments or pay annuities for a fixed period, rather than for the recipient’s lifetime) has been reduced to DKK50,000 (€6,726) from 2012 onwards (previously it was DKK100,000).
Under the voluntary early retirement pension (VERP) scheme, people born after 31 December 1962 can now only start drawing their state pension up to three years before retirement age (previously, this was five years).
Meanwhile, the government still has to implement the Solvency II regulation. But there are no indications of any time scale for legislation.
The Danish government is preparing reforms to reduce taxes on earned income. This will have to be funded from elsewhere, and some experts are predicting further restrictions on pension savings, as well as higher taxation of pension returns (PAL-tax).
Legislation is expected to be published later this year.
The first phase of solvency regulation is now in force. The main effect is to use a more accurate risk classification for bonds and loans when applying Finland’s risk-based solvency requirement formula.
Proposals for the second phase rules are to be submitted to Parliament this spring. The main aim is to create a common buffer (solvency capital) for pension funds against investment and insurance risks. At present, there are separate buffers for the two types of risk.
The law is intended to come into force on 1 January 2013, when the period of temporary regulation expires.
The third and final phase of the regulation process - will deal with all the risks recognised in Solvency II in a national framework. This should take effect in, or after, 2014.
The rules on pensionable age are now the subject of the biggest pensions debate in Finland. The statutory retirement age is flexible, from 63 to 68 years. Individuals can, however, retire at 62 by taking an actuarial deduction from their monthly benefit.
Employers’ associations are in favour of raising the lower age limit, while trades unions are against. The Social Democratic Party is also against raising the lower age limit, while the other political parties will not take a stance until negotiations between the social partners have concluded; this was expected in March 2012. Meanwhile, the government working parties have yet to report.
For those retiring after age 63, the accrual rate is high (4.5% of their annual salary). However, a cohort-specific adjustment is also made to the monthly benefit. This is related to the change in life expectancy at age 62 for successive cohorts, compared with those born in 1947, for whom the coefficient was defined as one. As life expectancy rises, the coefficient for more recent cohorts is reduced.
Since the 2005 major pension reform came into force, the average retirement age has increased by 1.4 years to 60.5 years as at 2011. Both government and social partners are aiming for an average retirement age of 62.4 years by 2025.
But actuaries have calculated that the incentive of high accrual rates and life expectancy adjustment after 63, together with the continuing decrease in the incidence of disability,
will not be enough to enable the target to be reached.
The law on Family Care Time (Familienpflegezeitgesetz) came into force on 1 January 2012. It allows employees to reduce their working time by up to 15 hours per week, in order to care for close relatives or dependants, up to a limit of 24 months. However, employees do not have an automatic right to claim this arrangement but must agree it with their employer.
The new law contains detailed regulations on financing and insolvency protection for companies to cover these absences - for example, in financing the gap between the employee’s reduced working time and the disproportionate reduction in their salary. Time-value accounts (Wertguthaben), which can be used to pay out salaries when an employee takes early retirement, must be used as the system for paying out salaries to employees who are caring for relatives. However, a separate scheme can be set up exclusively for this purpose.
Solvency II is currently being incorporated into German law via the tenth amendment to the Insurance Supervisory Authority Act (Versicherungsaufsichtsgesetz, or VAG).
Key provisions to reduce insolvency risk include the introduction of enhanced solvency requirements for insurance companies, and the setting of new valuation regulations for assets and liabilities.
“However, the amendment does not integrate the new principle of Solvency II into pension funds and occupational pension schemes,” says Michael Karst, director, legal/tax, Towers Watson. “This issue is to be clarified in further discussions at European level.”
The Federal government has also launched a consultation process with the pensions industry to decide what further legal measures need to be introduced for public pensions.
Pension reform is still in limbo; several studies commissioned by social affairs minister Henk Kamp are nearing completion but the results are yet to be published. Kamp is to present an outline of the new Pension Act, including details of the new solvency framework, to Parliament in April.
Plans to simplify the supervision of funds are still being thrashed out, but legislation is expected this summer, with the new framework in place by 2014.
“The simplification of the governance structure is easy because everyone is in agreement,” says Tim Burggraaf, principal, Mercer. “But not everyone is in agreement about the details of the new FTK structure, so even if draft legislation is published in May, it will take two years to get enacted.”
The FTK debate has also affected the new pensions contract signed last year between unions, employers and government. FNV, the biggest union, has still not agreed and the future of the agreement is in doubt.
The agreement introduces the FTK1 and FTK2 supervisory structures.
“The general feeling is that FTK1 will still guarantee payments but will need drastically increased buffers,” says Burggraaf. “That is also where Solvency II comes in. However, the bulk of the market is expected to go into FTK2 schemes, which are DC plans with collective elements, and which don’t need high buffers.”
The indexation label for pension funds has now been abolished, pending further decisions about its future.
Parliament has voted to raise the state retirement age to 66 in 2020 and to 67 in 2025. Attention has now shifted to the second pillar system. Kamp has said the age for receiving second pillar entitlements will rise to 67 by 2014.
At present, members of occupational schemes expect to receive around 70% of their income (state and occupational together) when they retire. Kamp believes a better alternative would be to raise the state pension to €20,000, abolish the second pillar and encourage employees to save for additional benefits either through a branch of an industry-wide fund or as individuals.
Meanwhile, legislation allowing pension funds to cut the future pension entitlement of active members by up to 7% has been enacted.
A looming political problem is annuity purchase by members of certain long-established DC plans. Unlike more modern plans, these funds were not rebalanced into lower-risk securities as active membership ended. So members will get lower annuities than they expected.
“This will be an issue during 2012 and for some years to come,” says Burggraaf. “The situation has been building up for a while but it is only now that members will complain to their insurance company or employer that they weren’t told about it.”
One solution (which could apply more generally) might be to allow retirees to buy annuities over time instead of cashing in their pension pot once-and-for-all at a low rate. Another option might be to remove the requirement to buy an annuity at all.
However, in January, the senate voted for a new law giving pensioners representation on pension fund boards in line with their numbers within the total population of participants.
Regulations published under the new insurance business act and setting up a new legal framework for friendly societies were passed last year and are now in force.
The risk-based calculation of solvency will now have to be implemented for undertakings covered by the Act, including the Swedish IORPs. The government committee responsible has suggested this is done by updating the act to comply with Solvency II. It is planned to do so by 2014.
Consultation on these proposals has ended and the government is now preparing a bill for the Swedish Parliament (Riksdag).
One suggested feature, that has widespread support, is to introduce new legislation specifically for occupational pension schemes (Lag om Tjänstepensionsrörelse).
This will be compliant both with the current and forthcoming IORP directives and will therefore allow life insurance companies handling occupational pensions to be split into two companies, separating life insurance from pension products.
Occupational pensions (products sold, plus related assets and liabilities) would be transferred to a new company (Company B), while the corresponding elements for life insurance (including private pensions and annuities) would remain in the original Company A. Company B would then not have to comply with the Solvency II regulation but would, instead, be an IORP, whereas Company A would have to comply with Solvency II.
Future rules for the demutualisation of life companies and the principles of handling bonus capital, along with transfer rules for pensions, are still under scrutiny by another government committee. The aim is to ensure fair treatment for existing policyholders on demutualisation, especially the right to transfer DC pension savings (which make up most of the Swedish pensions market) on an individual basis, both private and occupational.
No recommendations have yet been published, and the deadline for proposals has been extended until June this year.
On 1 January 2012, the provisions of the structural reform of occupational pension schemes became fully effective.
However, following criticism of the high level of detail and the lack of a legal basis for some of the provisions, the Federal Council amended the preliminary draft of the regulations.
“The final version addressed a significant number of these issues but there are still some concerns, such as the expected increase in administration costs related to the new provisions,” says Simon Heim, consultant, Towers Watson.
Also taking effect in January were changes to the law on disability insurance, intended to re-integrate disabled persons into the workforce.
In December last year, the Federal Department of Home Affairs published the first draft of its report on the future of the second pillar. Key aspects include the minimum conversion rate (for converting the member’s account balance to a pension at retirement), the ratio for surplus participation of insurance companies, and administration and asset management costs. The report also considered the solvency and organisation of occupational pension schemes.
The consultation period ends on 30 April 2012. The Federal Council will then publish an updated report with specific proposals, to be submitted to Parliament before the summer break.
New provisions on the funding of public sector pension funds took effect on 1 January 2012. These require public sector pension schemes to improve their funding level to at least 80% over the next 40 years. They also require public pension funds to be legally, organisationally and financially independent of the public administration by end-2013, ie, they must exist as separate entities, such as foundations.
The legislative process to amend the law on vesting in pension plans (FZG/LFLP) has moved forward with the publication of a draft bill, currently undergoing consultation. The changes would waive certain minimum benefit guarantees given by the pension fund if plan members individually choose their investment strategy. The public consultation procedure on the draft bill, originally planned to start in February, has been postponed. Enactment before 2014 seems unlikely.
The Pensions Act, passed last summer, takes full effect from October this year, with the introduction of auto-enrolment. Starting with the largest organisations first, all employers will have to provide workplace-based pensions for their employees.
The second major development concerns reform of the state pension. The government published a Green Paper last year setting out plans for a simpler, more generous state pension of around £140 per week, funded by merging the basic state pension with the state second pension (SERPS). Once introduced, this should reduce the need for means-testing benefits. The government is currently consulting industry groups and is expected to publish a White Paper during 2012.
The government continues to work on its plans for the ‘reinvigoration’ of occupational pensions, contained in the coalition agreement. One of the aims is to slow down the trend towards DC schemes by making DB schemes less onerous and more flexible for employers.
One proposal is to abolish the requirement for defined benefit (DB) schemes to provide extra benefits such as inflation increases, spouse’s pensions, and so on, instead requiring them only for future accruals. The pensions minister, Steve Webb, has talked about a new form of pension provision - ‘defined aspiration’ or ‘DA’ - that would fall between the two existing models of DB and defined contribution (DC).
The coalition government has decided that the Employer Debt Regulations, brought in by the previous government, do not go far enough. The rules were intended to avoid saddling sponsor companies with a massive debt to the pension fund if the company is restructured, but had been widely criticised for their complexity. New regulations were therefore passed before Christmas.
The Pensions Regulator published its review of DC plan regulation last year, before conducting a major consultation exercise. A further statement is expected shortly. This should include a statement on the strengths and weaknesses of DC plans, and problem areas to be tackled.
The decumulation debate continues over how retirees can get the best value from their pension pot in the light of reduced annuity rates. The government is concerned that too many people fail to shop around for annuities because they are unaware of their open-market option (OMO).
Mark Hoban, financial secretary to the Treasury, has asked the OMO Review Group to create proposals for a default OMO. Policymakers are also considering how to make it easier for individuals to combine several small pension pots into one large pot, which can give better value.