The Dutch pension system is widely and properly recognised abroad as sound and robust, and indeed every citizen can rely on a state pension, the AOW, which is the same for all regardless of earned income in the active period. Such state provision is referred to as the ‘first pillar’ of the system.
Additionally, more than nine out of 10 employees participate in a supplementary capital-funded pension scheme. These collective defined-benefit arrangements typify the so-called second pillar of the system. This high level of participation results not from any legal obligation on employers to create pension schemes for their employees, but is instead the consequence of pensions schemes set up on a sectoral basis.
Where this employee pension and the state pension together provide less than 70% of the final salary, the further possibility exists to deduct contributions for an annuity or private pension from income, this type of arrangement constituting the third pillar.
The fiscal framework is so arranged that a pension at the level of 70% of the final income can be built up in this way. This ensures that the three-pillar system is reasonably well-balanced as far as financing and solidarity are concerned. On average, the private pension in the third pillar constitutes only a small element of income after age 65.
From 1 January 2006, a new opportunity will exist, for employees only, to save for the future through what is called a ‘life-cycle arrangement’. A life-cycle arrangement entitles the employee to deduct up to 12% of their salary before taxation is imposed. The amount put aside may be used later for any desired objective, for example additional leave, a part-time pension or early retirement.
In order to ensure that all this is properly implemented the regulator De Nederlandse Bank(DNB) oversees the conduct of the scheme provided by pension funds and insurance companies. Employees are thereby assured of a solid and guaranteed pension.
It can be seen from recent pension reforms that the winds of change sweeping through Europe have not left the Netherlands undisturbed. The aim is that employees should continue longer in work. The government have deployed a tried and tested remedy: stopping work early is no longer encouraged by the tax system. Earlier retirement is not prohibited, but it will mean a lower pension. It appears that actual retirement ages are rising slightly.
The Dutch government received plaudits for their policies in the recent OECD ‘Ageing and Employment Policies’ report, encouraging them to take further measures. In short, it appears that the Netherlands is on the right track.
Employees form far and away the largest proportion of the working population in the country. The self-employed, however, are no less significant for the economy, but their situation is less rosy when it comes to pensions. There are three causes for this.
The first cause is that they have no employer, and are therefore unable to build up any employee pension. The self-employed must take the initiative to make pension arrangements for themselves. There are no pension funds guaranteeing a well-provided retirement for them.
The second is that fiscal rules allow the self-employed far less room to build up a solid pension provision. They are subject to obsolete regulation. The legislators have disregarded the self-employed over recent decades where pensions are concerned, devoting all their attention to employees.
Dutch fiscal rules includes two measures designed to allow the self-employed to build up pension entitlement.
The first, known as the ‘retirement reserve’, is a typically Dutch phenomenon. The name is misleading to start with, as this is not a true but only a paper reserve. The retirement reserve allows self-employed people to deduct 12% of profits annually before taxation. If this option is taken they will therefore pay less tax.
The amount deducted by the self-employed person is not required to be placed with a pension fund or an insurance company. The tax-free amount may be used for any purpose. Generally it is invested in the business, with all the risk that entails. However, tax must be paid on the deducted amount at some point, and ultimately when the self-employed person closes the business.
In truth, the retirement reserve is no more than an amount where deferred payment of tax is allowed, rather than a substantial pension provision. The self-employed person may avoid taxation by placing the accrued funds with a life insurance company or in a private pension scheme, but the money must be available in the first place! In this scenario tax will be paid on the pension paid out. The legislators have never wished or dared to do away with this rule, since it is so attractive to the business community and there is fear of opposition from the ranks of the self-employed.
The second provision available only to the self-employed is the ‘suspension annuity’. A self-employed person who sells his business is allowed an extra deduction for the purchase of an annuity. The level of this additional deduction is determined by the level of booked profit achieved through the sale of the business, combined with the age of the self-employed person. If he has already made deductions in the past for annuity premiums under the third pillar, these will be subtracted from the maximum deduction allowed for the suspension annuity. The legislator has therefore not set the same target level of 70% as was the case for employees. This may result in the self-employed person being unable to achieve a pension of 70% of their final income.
Also under this third pillar, the self-employed have an annual opportunity to build up a private pension. Premiums for this are deductible and payments are taxable. For an element of his pension build-up, the self-employed person is directed towards a private pension arrangement with an insurance company under the third pillar.
Since governmental policy aims to ensure that all persons subject to tax are able to build up the same pension entitlement, it is apparent that the possibilities of accruing employee pension rights under the second pillar are equivalent to those from a private pension under the third pillar.
The third cause is that, unlike employees, the self-employed do not have the opportunity to participate in a ‘life-cycle’ scheme.
The self-employed person in the Netherlands is therefore discriminated against by the employer when it comes to building up pension entitlement. It is of crucial societal importance that the self-employed are able, like employees, to build up a solid and guaranteed pension, the government must do away with the retirement reserve and bring the opportunities for fiscal deductions for private pensions to the same level as for employee pensions.
Gerry J B Dietvorst is professor of Future Facilities at Tilburg University and director of Interpolis Research and Development on Pensions
A comparison of the two pension pillars reveals that the self-employed person is less favoured than the employee when it comes to building up pension rights. The most significant causes are these:
o The time allowed for accrual of pension is more generous for employees than for the self-employed. In the case of employee pensions, periods of unemployment when no salary is received (including sabbaticals and study leave) can also count towards pension accrual. This is not the case for the self-employed.
o A fall in salary may be ignored when considering the pension build-up of an employee, for example if the employee goes part-time or accepts a lower position. Reduced work and lower profits on the other hand do have consequences for a self-employed person who makes use of the annuity premium deduction in building up his pension.
o Another difference between pensions and annuities lies in the notion of back service. With a higher salary an employee in a final salary scheme also sees their past history rewarded with a higher pension. If a self-employed person’s profits in any year are higher than in the previous year, he will not be able to redress this by means of pension contributions.
o The figure of 17% for the annual annuity premium deduction under the third pillar has never been clearly rationalised by the legislators. The maximum premium that may be paid for an employee in any present premium arrangement ranges from around 10% (age 25-30) to 37% (age 60-64).