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Spain: Pensions go off the radar

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Spain's ageing population means problems ahead for the pensions system, but proposals to deal with them are not expected until next year, reports Nina Röhrbein

The backbone of Spain's first-pillar pension system is the Toledo pact, which was agreed by all political parties and unions in 1995.

A social security pension in Spain currently means around 85% of final salary. But this rate will be difficult to maintain, even though Spain's salaries remain lower than in most of the EU. "Spain has a rapidly growing ageing population and therefore is likely to have a 60% dependency ratio in 40 years' time," says Diego Valero Carreras, CEO and chairman of pension consultancy Novaster. However, this has yet to enter the public consciousness. Less than 10% of employees - and only those employed by large Spanish companies or multinationals - have complementary occupational pension plans, while 80% of Spain's employment is provided by small and medium companies, which do not have pension plans.

A parliamentary commission manages the Toledo agreement. The latest one was set up in 2008 to analyse the future sustainability of the PAYG system and is working on the future of the social security law.

"Due to unemployment, contributions to social security are decreasing, making it more difficult to maintain the balance in social security," says Valero. "We have a reserve fund with close to €60bn assets but it is only there to cover shortfalls in cash. Some meetings have already taken place and more are scheduled for this year, which might lead to proposals for change. The experts advise three main changes: raising retirement age beyond the current 65, increasing the link between contributions and payouts and improving complementary pension plans. But I am not optimistic on any of these."

A report is expected to be published at the beginning of next year but as of today there is no idea which measures could be proposed, although some parametric reforms are likely, according to Angel Martínez-Aldama, director general at Spanish Investment and Pension Funds Association, Inverco.

However, after the introduction of GAAP accounting rules in 2008 and the ceiling on tax incentives in 2006 no new regulations concerning the second or third pillar are expected to be introduced in the short to medium term.

The 2006 tax regulations - which created a ceiling on contributions for private pensions - had a big impact on Spanish pension funds. "Members used to be allowed to contribute €8,000 per year until 52 years of age and €1,250 for every year thereafter until they turned 65," says Andrés Martín, senior consultant at Watson Wyatt. "Now the maximum amount you can contribute is €10,000 until 50 years of age and a maximum of €12,500 annually thereafter."

But private pension plans are worse off now than before the tax changes of 2006, says Valero.

"Pension plans used to be the best financial product in Spain in terms of tax treatment," he says. "But as pension plans did not develop at the speed the government had hoped for, it decided to cut the tax relief, especially as occupational and individual pension plans had two different ways of achieving the tax relief. As a result, less than a handful of occupational pension funds have sprung up over the last two years."

Pension fund trustees, promoters and the government have also been analysing the need for change in the second and third pillar system.

"They have been discussing how to incentivise the third pillar as the second pillar is becoming less of an option due to falling contributions to occupational pension plans on the back of growing unemployment," says Martín.

He believes that the government's focus in the future will be on the second and third pillar but does not expect any news on these until late 2010.

"There is a lack of confidence in everything now - banks, pension funds, government - and the main worry is unemployment," says Valero.

And with an unemployment rate of 19%, a struggling real estate and tourism industry and a state deficit of 9%, the government may be forgiven for letting pensions slip off the radar.

The regulatory response to the financial crisis has focused on supervising the valuation of the more illiquid assets, while at the same time pension fund management companies have introduced more internal controls. Legislation established some investment limits - or diversification coefficients - to reduce the risks.

But 2008 also saw a new regulation come into force which allows pension funds to invest in some fixed income structures and other special investment vehicles, which were previously restricted, according to Martín.

Spain's occupational pension funds generally did not lose as much as the ones in Ireland or the UK due to their conservative asset allocation of roughly 70% fixed income and 30% equities at the start of the crisis. And with 99% of all occupational pension funds being DC plans, funding has also never been an issue.

But, while pension funds may only return to the spotlight in 2010, in the background the wheels have kept on turning.

Inverco, for example, has proposed several measures to introduce changes such as the removal of the double registration system (mercantile and supervision) for pension funds and schemes, less stringent capital requirements for pension management companies as well as a reduction of taxes for benefits and more flexible rules for occupational pension schemes promotion by small and medium-sized enterprises.

"When the last regulation was approved in 2007 there was a possibility to invest the assets of occupational pension funds in two different portfolios according to age," says Valero. "But no pension plan decided to apply this."

A proposal to decrease social security contributions by 2% failed in the summer, putting a temporary stop to negotiations between the trade unions, the government and company representatives on this topic. But Spain's next general election is in 2011, which could leave just about enough space for an agreement on social security.
 

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