Second pillar role recognised at last
A few days before its dissolution, the Belgian parliament approved a new law on supplementary pensions, enabling the government to realise one of its major objectives before the end of its four year term and the national elections.
With this new legislation, the government wants deliberately – and this for the first time – to promote supplementary pensions and to widen the eligibility, as according to statistics only approximately 35% of the working population currently benefits from an occupational pension. The main objective is to reduce pressure on the state pension, that will have to be monitored in future years very closely as this is the case in all western countries. A second important objective of the government was to ensure better protection of the beneficiaries’ rights: this has to been seen in the light of the collapse of the financial markets and following the famous Enron case.
The main features of the new law could be summarised as follows :
l Development of industry-wide pensions;
l Introduction of ‘social pensions’ covering specific risks benefits;
l Opting out opportunities;
l Employee involvement in company pension plans;
l New rules regarding DB and DC plans:
- Minimum financial return on DC plans
- Cafeteria benefit plans
- Surrender, transfers of vested rights and early retirement
l Enhanced communication to employees
l Severe constraints regarding the individual pension promises
l New fiscal measures
Development of industry-wide pension schemes
Contrary to the Netherlands, only a few industry wide pension schemes exist in Belgium (eg, in the construction sector, the oil sector and the metal sector). This is due to the lack of interest from the unions in stimulating funded pensions in the private sector. They prefer to rely on the state pension to provide a decent income to retirees, but economic and demographic constraints are forcing the authorities to review pension provision.
The government did not want to impose a compulsory second pillar pension on the Belgian employers, but wanted to encourage the social partners (employers and unions) to set up pension plans at industry level, through the negotiation of collective labour agreements (CLA). Such a CLA is binding to all employers belonging to an industry sector (a CLA may also be limited to a determined group of employers in a given sector for example, who are active in specific product lines or located in a geographical area).
These industry-wide pensions will be mostly of a defined contribution nature, and will be funded through self-administered funds or group insurance contracts.
Introduction of ‘social pensions’ covering specific risks
The notion of ‘social pensions’ is new: such a social pension is different from an ‘ordinary or classical’ pension plan. The government wants to include some specific risk benefits where solidarity of a larger group of beneficiaries is required and which are normally not taken care of in a classical plan, such as continued pension accrual during an unpaid leave of absence or during a period of unemployment following bankruptcy or collective lay-off, a dependency annuity for disabled persons if they need the help from a third person, the indexation of benefits, etc.
In order to make such social pensions attractive, the premium tax of 4.4% on the pension contributions will be waived. The cost of these solidarity benefits has to be at least equal to the 4.4% premium tax. Furthermore, no amendment to such plans can be made, unless it is approved by a special majority (80% of the votes of employer and 80% of the votes of the employee representatives).
Opting out opportunities
Employers who already have a pension plan in place for their workforce, or who prefer to implement a company pension plan in lieu of joining the industry wide plan, may do so, provided the collective labour agreement of the sector they belong to, explicitly allows the opting out. The opting out must be approved by the employee representatives within the company, and the benefits of the ‘opted out plan’ have to be at least equal to those of the industry-wide plan. The employer will not be allowed to opt out for the specific solidarity benefits provided for in a social plan.
Employee involvement in company pension plans
Although an employer will still have the right to decide whether he wants to implement, amend or terminate his pension plan under the new legislation, he will have to pay much more attention to involving and consulting with his workforce in the future: if there are employee contributions involved, or if the plan is applicable to all employees of the company, he will have to conclude a collective labour agreement. If one of these conditions is not fulfilled, a CLA is not required.
However, in any circumstance, whatever plan he has – contributory or not – or if the eligibility of the plan is limited to a specific category of employees, those who are concerned, need to be consulted prior to the implementation, amendment or termination of the plan, not only regarding the plan rules with the respective rights and obligations, but also regarding the funding approach and the choice of the pension institution (eg, pension fund or insurance company). Failing to comply with such prior consultation, may result into the nullity of the decision, on request of a single employee.
New rules regarding DB and
o Non-discrimination obligations
European and national legislation already prohibits classical discrimination based on gender, nationality, full and part time workers and so on.
The new pensions law has extended non-discrimination features that would lead to certain exclusions eg, affiliation subject to a positive medical examination, or pension or contribution formulae which would not provide any benefit to the employee concerned. This means that ‘offset formulae’ in DB plans where no supplement is due if the state pension provides a higher benefit than the target of the company scheme will not be valid any more, for example, a target of 60% of final salary minus the state pension, or an ‘excess plan’, where the supplementary pension accrual only applies on the salary portion in excess of the social security cap. In DC plans, the contribution may not be defined as a percentage of salary minus the social security contribution.
A new constraint has been built in the law regarding the increments of contributions in DC plans: these are limited to 4% per year of service. If a contribution is fixed at 1% of salary at age 25, it may increase to 1.04% at age 26, to 1.216 at age 30 leading to a maximum of 3.6% at age 65.
Eligibility conditions based on employee categories (blue or white collars, professional and managerial employees, etc), or other objective criteria will still be permitted. A cautious approach regarding eligibility is highly recommended.
o Minimum financial return in DC schemes
Existing legislation on supplementary pensions already imposed a minimum return on emplo-yee contributions in both DB and DC plans.
The new law now also imposes a guaranteed re-turn on emplo-yer contributions in DC plans: this minimum return is calculated on the net savings portion of both contributions – thus after deduction of any portion of the premium related to life insurance and disability coverage – and stands at 3.75% on emplo-yee contributions and at 3.25% on the employer con-tribution, which is the maximum technical rate on insurance contracts, less 0.5% which for administration costs. This minimum interest rate will not have to be offered on an annual basis but only when the employee leaves the company, either as an early leaver or at (early) retirement. If the employee leaves the plan within five years of membership, the minimum financial return will be limited to the compounded inflation rate (CPI) over that period or the minimum imposed interest rate, whichever is the lower. This obligation will rest upon the employer or upon the pension institution, depending on what the pension rules stipulate.
o Cafeteria benefit plans
During the 1990s, several flexible benefit plans (DC plans) had been implemented, enabling the employees to make choices regarding their risk benefit coverage and to select an appropriate investment strategy for the retirement accrual portion of the contribution, whereby the retirement capital would depend on the financial return obtained by the mutual investment fund selected (in the so-called Branch 23 investment funds). Their fiscal treatment however, had always remained uncertain: the tax authorities refused to approve such plans, but had not really challenged them either.
The new law recognises these cafeteria plans and sets a framework. However, given the minimum financial return that will need to be guaranteed under the new law, the popularity of these cafeteria plans may vanish quickly: the employer or the pension institution will not take any risk, if they have no control over the investment strategy: in a worst case scenario, the employee could have opted for an aggressive investment strategy providing a negative return on the date he leaves the company, and then require the employer or the pension institution to match the minimum financial return.
o Surrender, early leaver rights and early retirement
Under the present legislation, an employee could ask for the transfer of his accrued pension rights to the plan of his new employer or have it paid to an independent recognised pension institution. He could also ask for the surrender of his accrued rights when he left his employer and terminated his membership in the plan: in this case he had to incur a 33 % tax on the amount paid to him.
The new law obviously still enables the early leaver to have his transfer value paid to the pension plan of his new employer, or to have it transferred to a recognised pension institution, but will not allow any surrender paid to the employee.
Furthermore, in the event the new employer does not offer a pension plan, the individual employee may ask him to withhold a pension contribution from his salary up to a maximum amount of E1,500 per year, and to have it paid to a recognised pension institution of his choice.
Early retirement has been quite attractive in Belgium since a favourable tax rate of 22-23 % (social security tax included) is applied to lump sum payments in lieu of a pension, if one of the following conditions were met: retirement within five years of normal retirement, or within five years of the maturity date, which could have been fixed at age 60 in a group insurance plan, or if an employee took a bridge pension (special unemployment regime for employees over age 55) in the event of a restructuring programme of the company.
The new law will prohibit not only any surrender upon leaving but also the liquidation of a pension annuity or lump sum payment before the age of 60. The aim is keep older persons in employment longer.
A transition period has been conceded: early retirement before age 60 will still be allowed to those who retire before December 31, 2009, if provided for in pension plans or collective labour agreements in existence on the implementation date of the new law.
Enhanced communication to employees
The communication process regarding the employees’ benefits statements and the management of the pension institution will have to improve significantly and will impose a large burden on the employer and/or the pension institution.
Whilst every one accepts that a beneficiary should be informed on the status of his accrued and prospective benefits on a regular basis, the employer or the pension institution will also have to report on the management of the plan (ie, provide information on the funding methods and funding status, on the cost structure and on the investment strategy and return, including considerations given to ethical, employment-related and environmental aspects).
Detailed information will have to be provided on the benefit statements, and each employee may ask to have a complete historical overview of his benefits since he joined the plan. Employees over age 45, should also receive information regarding their prospective entitlement at retirement: if the entitlement is expressed as a lump sum, the employee should be informed of the corresponding annuity.
The end of ‘individual pension promises’?
Because of the rigid fiscal and social regulations of employee benefit plans, individual pension promises became quite popular in Belgium as such individual promises enabled companies to apply a great flexibility regarding the pension promise target and the designation of beneficiaries: individual promises were offered to senior management levels, in order to enhance their retirement pension or used as a tax effective tool, through the deferral of bonuses or the conversion of redundancy payments, which are quite heavily taxed in Belgium.
In order to avoid any abuses, new pension promises will have to comply with the following rules:
o they may only be granted to senior managers if all employees in a company benefit from a pension plan;
o they may not be granted within a period of 36 months prior to retirement (if this rule is not complied with, the employer will incur an administrative fine of 35% of the final pension lump sum paid);
o the tax exemption of the annual contribution will be limited to E1,800;
o the employer will have to report the number of individual promises to the Supervisory Authority.
Furthermore, the aim of the government is also to provide a better protection to the beneficiaries of such a pension promise, by:
o enforcing external funding (group insurance or pension fund) and by disallowing ‘pay-as-you-go’ promises; this may lead to the end of the so-called key-man insurance policies
o enforcing a minimum financial return if the contribution is defined (similar to employee benefit plans).
This new regulation on individual pension promises will eliminate any flexibility companies could apply in order to take special care of ‘senior’ employees who are critical to the company, as the contribution rate of pension promises will be to restrictive, and the ‘key-man insurances’ will become idle.
The positive points left are two-fold: existing pension promises (and those offered within a period of six months after publication of the new law) have been exempted from these new rules, as well as promises that have been or will be granted to senior executives (managing directors and executive members of the board) who have the self-employed status.
New fiscal measures
As already mentioned, the premium tax of 4.4% on contributions will be waived if the pension plan responds to the criteria of a social plan.
The government would like to discourage the pay-out of lump sums in lieu of a pension at the employee’s retirement. Such lump sum payments are common practice because of the favourable tax treatment they enjoy (+/- 23 %) in comparison to the taxation of annuities (considered as ordinary income and taxed at the marginal rate - up to a maximum of +/- 55 % -, since they are paid over and above the state pensions).
In order to control long term costs of defined benefit pensions due to longer life expectations, and since lump sum payments were preferred by employees, several companies converted their pension promise into a lump sum promise and forced employees to take the lump sum payment.
This enforcement will be prohibited from now on: employees will always be able to opt for an annuity payment. As the government wants to offer them a tax neutral treatment, taxation will be as follows: the accrued lump sum will be taxed first at the rate of +/- 23%, and subsequently the employee will declare a fictitious income equal to 3% of his net (after tax) lump sum, on which he will pay a withholding tax of 15%. The government will also determine the conversion rates from lump sum into annuity that will need to be applied by pension funds or insurance companies, through an execution decree.
The pensions law and the European directive on retirement institutions
On May 13, the council of the EU finally approved the so-called pension fund directive. Belgium was the only member state that refrained from approving this directive.
The Belgian government felt that this directive brought too little to the social aspects of pension funds in Europe, since its content was limited to the financial elements of a fund, and excluded concrete measures on employee involvement in the management of the funds and measures regarding the protection of the beneficiaries. Our government is also in disagreement with the creation of pan-European pension funds, as these could be used to avoid any employee representation in funds in countries where is this common practice or imposed by law.
Implementation of the new
This law will come into force on January 1, 2004 but it abrogates the existing occupational pension law, known as the ‘Colla Law’ with immediate effect (this is on the day the new has been published May 15, this year), so that there is a gap between now and year-end: this creates an embarrassing legal vacuum. The new government will close this loophole as soon has it has been installed, and it will also promulgate the required execution decrees, which have already been drafted and approved to a great extent.
Employers and the pensions industry will have three years to amend their plans in order to bring them in line with the new legislation.
In the introduction, we stated that for the first time the government in Belgium had the political intention to create a framework that would encourage the development of private occupational pensions, with the aim to extend participation and to better protect the beneficiaries of a pension plan. Both employers and employees should welcome a comprehensive framework.
It is our feeling, however, that the new rules are too rigid and will not enable the government to achieve all objectives it wanted to realise. The autonomy of the employer will be heavily restricted de facto, so that we may expect a trend where supplementary pensions will be reviewed with the aim to cause a minimum burden on the company’s management.
There is no doubt that every employer – big or small – will have to audit its employee benefit plan in the light of the new legislation, as the pension scene will be completely reshaped within a few years. The question is whether both the employers and employees will be better off. The least we may say is that the near future does not look gloomy for pension consultants.
Jos Verlinden is managing director at M&P Consult based in Keerbergen