It is a consequence of the world we live in today that private savings and investments will be needed for the vast majority to enhance the standard of living in retirement. It is also likely that people will be working longer due to increases in state retirement ages and the lack of adequate savings and pensions
We examine how the international community is dealing with similar developments and how they have developed solutions to their problems or are looking to put in place solutions to address these problems.
It is clear that the current fiscal difficulties (and IMF strangle hold on national finances) have lead to more pressing government issues being dealt with e.g. jobs, IMF loans, quick government revenue opportunities being three areas which need immediate attention.
As a result of our research, the serious fiscal difficulties which we as a country face in providing for our ageing population post 2030, will place a huge strain on the government finances, particularly if no action is taken to plan for what we now know. Namely, there will be an income in retirement crisis post 2030. This will lead to social unrest, resentment and increased pensioner poverty. This situation can only be eased (unlikely to be eliminated) by taking early decisive action.
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It is true the State Pension today in Ireland is relatively good and most people particularly with a private pension supplement are reasonably well off in retirement. We as a group however believe future generations will not have the same standard of living as our current elders unless the government and industry work together to create an attractive pensions proposition that substantially increases pensions coverage in this country. We will examine the current situation critical situation in detail.
We also put forward the issues that need to be addressed based on current international best practice. This we believe will place private pension provision to the forefront of providing a reasonable minimum income in retirement. This will not be achieved by the private pensions industry alone. But with the aid of a forward thinking government bereft of short-termism and electioneering.
Does private pension provision have a future?.....it is the future to a decent, sustainable and equitable pension income in retirement.
The Irish State Pension
As we have been told from a young age "Life is Precious". Thankfully, we are enjoying a lot more of it. Today, an Irish Woman who makes it to the traditional retirement age of 65 can, on average, look forward to 21 years more of life. Her male counterpart, statisticians say, has more than 18 years of living to do before he takes his final breathÂ¹.
This increased life expectancy is an overwhelmingly positive development and attributed to many factors - including better healthcare, drugs and diet.
Where is the money going to come from to fund all these extra years of life? The extra golf rounds and family occasions, not to mention fuel bills, health care and day to day living expenses.
The funding shortfall coupled with, dare we say, the longevity problem are putting extreme downward pressure on an already overburdened state. The population of the 65 and over age group recorded in Census 2011 was 535,393Â², an increase of 14.4 per cent from 467,926 in Census 2006Â³.The over 65 age group is expected to increase by 380,000 by 2026 and 1.068m by 2056.
Improvement in life expectancy is now seen as one of the main problems in the context of pension provision.
Also the current HSE expenditure on health has doubled to â‚¬13.6bn in 2011 from â‚¬6.8bn in 2001âµ.The HSE attributes this to an ageing and dependent population with a significant growth in chronic illnesses. Thus there will be increase pressure on government revenues as our population ages.
Changing Demographics (The Pensions Board)
No's at Work
Aged over 65
No's at Work per person over 65
The changing world we live in
We are living longer
More contract work
Always on Time
Marked to Standard
More mobility in careers
Changing Work Patterns
More Part Time Working
Single Parent Households
Women working outside the home
So apparently, there are only three things certain in life - death, taxes and the Pensions Time Bomb!!!
There are two parts to this, the contributory state pension and the non-contributory pension. The state pension contributory is â‚¬230 per week with full qualifying social insurance contributions. This currently represents 37% of gross average industrial earningsâ¶. This provides a relatively low level of replacement income in retirement however it is the primary source of income for this age bracket , representing two thirds of the gross income for the over 65's in Irelandâ·.
The basic rate of non-contributory state pension is â‚¬219 per week, this is means tested.
Future viability of Irish State Pension
The state pension in transition is abolished from 2014, the qualifying age for state pension is increased to 67 from 2021 and 68 from 2028.
The gap between future pension and social welfare liabilities and revenues to fund them stands at â‚¬324 billion in 2066â¸. The national pensions reserve fund while a welcome idea has been raided to recapitalise the banks. The notion that "PRSI of â‚¬4.86 each week can fund a retirement pot worth â‚¬12,000 a year is somewhat over ambitiousâ´. The idea that one size fits all, millionaires and people on the bread line should receive the same state pension entitlement screams REFORM. Change is inevitable and our growing aging population must take action. The high dependency experienced by the current retirees will have to be turned on its head. The upcoming newer generation of retirees will have to start making their own retirement provision. An entitlement to state pension is often viewed as a foregone conclusion and is vastly seen as the hallmark of a civilized society. The idea that the state can provide for old age is no longer feasible.
Private Pension Coverage in Ireland
Occupational pension schemes are set up by the employer and the employer typically pays the costs of running the scheme. These pension schemes are broken down into three major sectors, namely;-
Defined Benefit Schemes
Defined Contribution Schemes
We shall look at each of these in turn, examining their importance to private pension provision in the past and look at recent trends in each both in Ireland and internationally. This will assist us in determining their future likely contributions to private pension provision in Ireland.
No. of Pension Schemes and Scheme membership as at April 2012â¹
Subject to the Funding
Not Subject to the
No. Of Schemes
No. Of Schemes
No. Of Schemes
No. Of Schemes
Change Since 2009
Defined Benefit Schemes:-
Subject to the funding standard
Defined Benefit schemes are also known as "Final Salary" schemes. As you can see from the above table and graph defined benefit schemes have reduced in numbers by 18% in the two years since 2009. They have also seen a reduction in members of 22% or over 57,000 employees. (The reduction in members since 1991 is 49%â¹). The main reasons for this reduction are as follows;-
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Wind up of schemes due to affordability and sustainability particularly as a result of;
Rise in liabilities due to increases in longevity(in 1981 average life expectancy of a male ages 65 was 14 years, in 2011 it was 21 years!), reduction in Bond yields (German bond yields are at historic lows with a fall of almost 2% in yields), rising salaries (due to benchmarking in the early 2000's). A survey by Mercer in 2011 of the FTSE100 pension funds found that in 2011 alone, life expectancy assumptions for pensioners increased by around three to six months adding an estimated 1% to schemes liabilities.Â¹°
Investment risk and returns
Changes in regulation and legislation (e.g. IORP Directive- Article 17-requiring an additional permanent risk reserve-Funding Standard Reserve (by 2016) also Solvency II)
According to the Society of Actuaries Survey in 2010Â¹Â¹, 71% of schemes failed the MFS. However, given the fall in yields used in the calculations, expectations are that the % of schemes failing the MFS is close to 80% again. To address this issue companies and trustees are taking the following steps;-
Improving the scheme funding by increasing the contribution from employers and employees where possible
Changing past benefits (Sections 50 or 50(A))
Moving to hybrid schemes/DC schemes or others (e.g PRSA's)
Reduce future accrual
Freeze/restrict pensionable salary
Changing investment strategies by de-risking and LDIs
Reducing liability risks by offering enhanced transfer values or pension increase exchanges
Transferring risk to insurers
Looking at the use of Sovereign annuities
Cost of Pension levy
Examining the retirement age of the scheme in line with the increase in age before entitlement to the state pension
Future developments which will affect DB schemes;-
On-going ability of companies to continue to fund
Pension buyouts and longevity hedging
Ros Altman- a leading pension's expert in the UK called the IORP directive 17 a major factor, along with the dramatic fall in government bond yields in the UK, contributing to the "Death Spiral" of DB schemesÂ¹Â². We have similar issues here in Ireland.
State Street Global Advisors and Economist Intelligence Unit (January 2013)Â¹Â³ published a report predicting that DB schemes will be phased out in favour of DC schemes.
Not Subject to the Funding Standard
These schemes are government sponsored schemes. You will note that these have increased in no. and coverage over the same period. These are paid for on a pay as you go basis by the government and have significant implications for government spending into the future. State expenditure on pensions will increase from 5.5% of GDP to 15.5% of GDP by 2050Â¹â´.
To ease this burden, the government has taken steps to move to a career average basis for calculating pensions in retirement for new entrants. It has also increased pension contributions from current civil servants and reduced pensions in payment to current pensioners in line with reductions in salaries. Croke Park II should also see further reductions in future pensions to current public servants. Unlike in the private sector there have been no compulsory redundancies. And those who have left employment have done so voluntarily and on an attractive cost neutral early retirement basis.
These changes will reduce the increase in future pension bills for the government. As of yet, it is too early to calculate the savings to the exchequer.
2) Defined Contribution Schemes
The closure of defined benefit schemes and the migration to defined contribution schemes has meant that the number of active members in these schemes has only fallen by 10% from 2009 to 2012. In total the number of members has increased since 1991 by over 200%. This you would expect given the rise in employment since then and the significant increase in the number of companies in Ireland who were using a pension as a means of attracting and keeping key staff. A major difficulty with DC schemes is the on-going closure of schemes due to company failure and affordability. The major issues for DC schemes which remain are as follows;-
Inadequate contribution rates- which will lead to uncertainty over future value of fund and future benefits
High risk nature of available funds and insufficient knowledge to manage this
Role of the trustees in selecting appropriate funds
Available options at retirement- these have now changed to give employees the ARF/AMRF option at retirement, however is this the correct move?
Should the retirement age be increased in line with the state pension age?
Going forward, given that DC schemes may become the cornerstone of occupational private pension provision in the future there are attempts to address their shortcomings;-
Devise new investment strategies- examining underlying asset allocation, individual risk tolerance, and personal life-styling (which are favoured by the IAPF-50% of DC schemes offering a lifestyle fund). No one size fits all
Planning for future options
Quality of coverage-examine contribution rates particularly with emphasis on the age of the employee
The Pensions Board has set up a DC working group to address their future
Pan European DC schemes
The overriding goal should be to improve the confidence in DC schemes and sustain this confidence and to improve this.
3) Hybrid Pension Schemes
These schemes combine elements of the DB schemes with elements of DC schemes. A typical example would be where the DB scheme benefits are capped up to a certain pensionable salary. Above this level benefits are provided by means of a DC scheme with the employer contributing a certain % of salary above this level and with a matching contribution from the employee. Thus the employee will receive a DB pension benefit at retirement plus a DC scheme value which he can use in a number of ways depending on his/her circumstances.
From an employee's point of view these are probably the next best option to the DB scheme. However, the issue for employees remains the employer's commitment to the DB scheme and the promise of the pension expectation at retirement age. These schemes are affected by the same issues as listed above for DB and DC schemes albeit to a different extent.
Why save for retirement? Particular issues for women to address- maternity leave, part-time work, breaks in employment, women live longer, etc.
4) Personal Retirement Savings Accounts/Retirement Annuity Contracts
Below is a synopsis of PRSA provision since 2003
Personal Retirement Savings Accounts (PRSAs)Â¹
Total No. of Contracts
Employers with PRSA designations
Contributing Employers PRSAs
% Non- Contributing Employers PRSAs
The take up of PRSAs has been very disappointing since inception in 2003. As can be seen from the above table, there are 81% of employers who have chosen a PRSA provider but have not seen any contributions from their employees (or employers) into them. This seems to have been just a box ticking exercise by employers. The dilemma for these employees is how to get them to make provision for retirement income.
5) Employees with no Pension Benefits
The probability that an individual in Ireland will reach the retirement age of 65 is at 71% (Source MCCP Trendstream 2012)Â¹â¹. Yet many do not make any pension provision and will rely almost solely on the state pension for their income.
Total Pension coverage is 50% thus leaving a very large gapâ¹. There are circa 850,000 people in Ireland with no pension provision. Those people who are making advanced provisions for retirement are arguably not doing so voluntarily. The lack of pension coverage amongst the self- employed and employees is a genuine concern. Most are covered by Occupational Pensions Schemes.
The following information was gathered during a survey by Irish Life Assurance PlcÂ¹âµ, looking at self-employed company directors or shareholders in companies with less than 10% employees. 150 interviews were completed. This produced a very interesting insight into people's views on private pensions, barriers, general feelings and attitudes towards having a private pension.
The biggest concern for those who are self-employed or company directors is keeping the business going followed by paying family and personal bills. Unfortunately people are now more than ever concerned about living for today rather than worrying about retirement. This has a lot to do with the current state of the economy which is okay in the short term but is not going to help with the income shortfall which these individuals will face in retirement. Another statistic which came out of the survey was 7/10 said they have reduced their pension contributions because they cannot afford it, with 6/10 saying they feel the contributions they made were not enough to maintain the standard of living they would want in retirement anyway. People are now resigned to the fact that they will have to work longer as they cannot afford to retire.
1 in 2 would be willing to pay their pension provider more if the fund did better than expected whilst 1 in 2 claim they will have more faith in pensions if provider was more accountable. However most people agreed they are put off of pensions by negative media comment and this once again illustrates the power of media. Probably one of the most striking findings of the survey was 38% feel they will have to makes sacrifices in retirement. What we really need to do is devise a scheme which is attractive, giving a carrot, such as the SSIA scheme which the country really bought into. There is no doubt also that we need to look at individuals getting access to certain portions of the fund at different stages of life.
As can be seen from the above graph, the rise in the numbers unemployed has been significant. The unemployment rate is listed as 14% but when those working part-time are added this brings the total to 23%. The IMF has described this as "Staggering". This is a serious issue which the Irish government needs to address urgently. In the context of pension provision, those unemployed will be a significant burden on the state in retirement as they only have the state pension to rely on. And they will also have significantly lower pension funds at retirement than both they and the government would have expected.
Recent researchÂ¹âµ on pensions and funding for them has shown that paying bills is the first priority for most respondents. They understand the need to make pension provision but not now as they can't afford it. The median income in retirement is expected to by circa â‚¬40k including the social welfare pension. Most people expect to supplement their income in retirement by working part-time at least. Volatility and uncertainty of returns is cited strongly as a reason also for not contributing.
It can be seen from the foregoing analysis of the current private pension provision in Ireland that;-
The quantity of employees with active benefits are falling
The quality of employee benefits are falling across all platforms and in most cases significantly
The number of employees with no benefits are increasing
This means that future generations of taxpayers will have a greater financial burden than the present generation at a time when there are significantly fewer of them to foot the bill.
The International Perspective
Globally, as in Ireland, each country's social systems are at risk of becoming overwhelmed by a retiring workforce who are financially ill-prepared for retirement coupled with an increasing life expectancy.
To confront these risks, several key questions need to be addressed when considering the long term prospect of pension provision globally. From the perspective of multinational companies, European pensions are at a crossroads impacted by some key considerations below:
Increasing governance requirements
Strong focus on de-risking and the quest for predictability are all driving companies to examine and restructure their pension provision.
Global financial and economic crisis has acted as a catalyst as pensions management has moved from being a matter for local businesses to becoming a major concern for corporate finance headquarters
Increasing focus on centralized governance and cost containment (IAS19 change & Solvency II type regime potentially impacting DB Plans) as global employers seek alternative solutions from the current pensions landscapeÂ¹â¸
In an effort to achieve more cohesive pension management cross border pensions have stimulated considerable interest over the past few years however developments in this area have been slow, with less than 84 cross border schemes (Source EIOPA) July 1011Â¹â¶ which is why the European Commission is reviewing again how it can stimulate and facilitate the provision of occupational pensions.
The biggest challenge within Europe for implementation of cross border schemes stems from differing pension systems within each European state as different multi-pillar systems have been constructed over decades dictated by particular choices and cultures. European pension funds hold over â‚¬4 trillion in assets whilst industry analysts believe the market could double within the next ten to fifteen yearsÂ¹â·.
Pan-European pension funds got off to a very promising start. Various member states - such as Belgium, Luxembourg, Switzerland, the Netherlands & the UK - have introduced institutional frameworks for cross-border pension vehiclesÂ¹â¸. Recently, the firstÂ actualÂ pan-European pension fundsÂ have beenÂ established by multinational companies with the clear emphasis being to achieve efficiency, which benefits employers and plan members in terms of lower contributions and higher retirement benefits. The IORP Directive in 2003 was a first step towards harmonising pensions within the EU which was adopted by the majority of member states. However the new EU White Paper on Pensions and the proposed IORP II Directive may temporarily have slowed progress whilst many companies cautiously await the EU recommendations in the hope that the future approach to pensions will be more simple leading to stimulus for cross border activity.
The most preferable workable solution for the future would be a single low cost Defined Contribution Plan for all European countries which would enable multi-national companies to achieve a consistent level of quality, centralize control and to achieve maximum efficiency on a phased approach along the same concept as a 401(k) plan in the US. The biggest challenge in achieving this is varying social and employment laws and localized pensions legislation. The US 401(k) plan itself shares the same downfalls as all other DC plans. On 19 February 2011, the Wall Street Journal, on the basis of a study conducted by the Center for Retirement Research at Boston College, reported that "the median household headed by a person aged 60 to 62 with a 401(k) account has less than one quarter of what is needed in that account to maintain its standard of living in retirement" Â¹â¸.
As with many of the DC structures around the world, auto-enrolled 401(k) plans allow members to take hardship loans, a provision which was examined and rejected by the UK. A similar approach will be seen in Ireland this month now that the Finance Act has been signed into law allowing members of AVC schemes to gain early access to 30% of their AVC funds subject to tax at marginal rate. Allowing easy access to draw down funds surely defeats the goal of long term saving for retirement.
Private pension provision will be critical to avoid adequacy gaps and in many instances the coverage of funded private pensions as measured by enrolment rates is highly uneven across countries between individuals, especially in voluntary systems. Some countries have made fund pensions compulsory (e.g. Australia, Chile and Sweden) or quasimandatory (e.g Denmark, the Netherlands)Â¹â¸ to ensure that most workers share the responsibility in saving for a sufficient level of additional income combined with the state benefit. Chile introduced a three pillar system in 1981 (state, occupational & private) with core, mandatory defined contribution - now the World Bank's preferred pension model.
The introduction in 2007 of auto enrolment to a subsidized retirement saving plan in New Zealand (Kiwi Saver) have been effective in raising coverage to significant levels in the voluntary pension arena. In 2012, close to 90% of employers and 60% of employees contributed at the minimum rate which demonstrates the success of this type of subsidized retirement savings plan as a supplement to the flat rate universal Superannuation arrangementâ¹. As an added incentive to starting this type of regular saving the contributor after 5 years, can also qualify for a house deposit subsidy and an initial incentive of NZ$1000 tax free kick start. However it should be noted that a third of workers have opted out since it was established with cost being the most cited reason between 2007-2010.
In an OECD Private Pensions Outlook Report in 2008 which examined the Private & Public Pension expenditure of selected European countries in 2006 the percentage spend of GDP showed Germany, Italy and Spain at far lower levels of expenditure than longer established private pension markets like Ireland, UK and the NetherlandsÂ¹â¸.
The UK is the most highly developed system of private provision within the EU due to a low rate of state pension. Auto-enrolment will be the biggest shake-up of pension provision in the UK for a generation and will set the course of retirement savings for decades to come. While the largest employers have started to rollout auto-enrolment from October 2012, small employers with fewer than 50 employees have been granted a 12 month reprieve due to the poor economy and have seen their staging dates shifted back from April 2014 to May 2015. All employers will be on stream by the end of 2016 with a review of the contribution rates.
Snapshot of global change impacting international private pension provisionÂ¹â¹
Dramatic closure of DB Plans and cessation of future service accrual with a swing towards DC Contribution Plans
Early access to 30% of AVC Holding over next three years
Automatic enrolment for DC Plans - Support from UK regulator to help providers, trustees & employers to deliver good results from DC Plans
54% of companies in UK now provide DC only pensions with a further 41% in transition
Source: Ass. of Consulting Actuaries 2011 Pensions Trends Report
Draft reform for second pillar pension plans for 2015 - consolidation of DB Plans move towards new type of plan -Defined AmbitionÂ¹
Proposal for Hybrid Plan with predictable cost (DB/DC mix) driven by changes to state benefits impacting retirement patterns
Increased Taxation on pension plans and early retirement programmes
Changes to local balance sheets following change to accounting standards
Move away from DB Plans
USA - Two large employers Ford & General Motors settle pension liabilities in buy out of DB plansÂ²
Proposal to allow employees to make a higher contribution than employers
Plans to pilot tax deferred pension plan for individuals
Legislation amending Individual Pension Savings and Investment System
Cap on annual management fees of DC Pension providers
Life Cycle investment strategy for DC Plans
Introduces Voluntary Retirement Savings Plan and proposed auto-enrolment for Pooled Registered Pension Plans
Employees will have access to private retirement schemes by Sept 2012
Review of auto-enrolment system - global implementation
Opt Out Rates
Employee Contribution Rate
Employer Contribution Rate
Compulsory Employee funded DC
10% gross up to £22,000 plus admin fees
Voluntary, company level auto enrolment
No legal minimum on company service or age
Flat rate 3% or 100% match on first 1% of salary plus 50% up to 6% of salary
Compulsory additional DC
3 mth opt out window
Automatic re-enrol after 3 years
Age 22 to 65 earning above £7,475
Mandatory employer earnings above A$5,400 pa
Kiwi saver- government regulated DC
Age 18 to 64
3%, 4%, 8%
3% minimum matching from 2013
We have examined the critical issues of current and future pension provision. We have looked to international best practices to get some sense of direction for the future of the Irish pension's model. All the studies done to date have arrived at the same conclusion. The future of the Irish Pensioner is not secure, however very little decisive action has been taken to date. Whilst PRSA's were an innovative concept they did not solve the problem.
We feel the solution lies in open debate between the Government, the Public, the Pensions Board and the Industry itself. The essence of this debate should be on reconciling the current funding deficit which exists for future pension generations against their need for income in retirement.
Listed below are key areas we believe should be paramount to all discussions:
Brand Name: The term "Pension" should be struck from our vocabulary and in its place a modern retirement savings account should emerge. A savings account for the LIVING, for those that enjoy a long retirement e.g. Kiwi Saver, ISA, 401K.
Accessibility: The Government in time of crisis dipped into the National Pension Reserve Fund, the lay person should also be permitted to dip into his Personal Pension Reserve Fund in time of a personal crisis e.g. to secure his home or feed his family.
Retirement Age: Normal Retirement Age linked to longevity, State and OPS.
Product Innovation: The success of the SSIA's in 2001/2002 should be a lesson learned. Why were SSIA's such a success? The answer has to be people saw a benefit and they were simplistic. They could see on their statements "Free Money" being added to their growing balance. They were also given the choice to access their savings although this was discouraged by severe penalties. However, to the Irish psyche the saver retained control of their money. From our study to date we have seen that this has been successful in New Zealand for example.
The areas of capital guarantees should also be explored. It has been estimated that this may not be expensive to provide.
Education: Should there be a programme in secondary schools in relation retirement provision. Explore the aspect of social media, e.g. Facebook, Twitter to get message across.
Fees & Charges: Need to be transparent and minimalised. Credit Suisse Global Investment Returns Yearbook 2013 states that if the fee for a retail savings or personal pension product is 1% then it may be eating up as much as half the gross real return (maybe we are lucky PRSA's didn't take off!)
Age Related Thresholds: Review the age related restrictions on contributions to pensions in the context of their personal lifecycle. We feel the current age related contribution limits are too restrictive.
Participation: PRSA's attempted this by requesting employers to designate a PRSA provider without making it obligatory to contribute themselves. This needs to be taken a step further with mandatory contributions. Items to be debated here should be minimum salary levels for inclusion (we as a group are not in favour of the opt-out facility prevalent internationally, except in extreme circumstances), employer/ employee/ government contribution rates (as recommended by EU Parliaments quantitative impact study on IORPs )
Investment Strategies: The pensions industry can contribute to the economic well being of this country e.g. can we create infrastructural funds? If capital is required by the NRA (National Roads Authority) can direct investment be permitted? Joseph Stiglitz an esteemed economist in his book 'Freefall' advocated how long term strategic needs such as retirement planning could be balanced against the states current need for revenue for capital projects. This could be a way to reduce the numbers on the live register and also be seen as the pension industry's contribution to the recovery of the state.
It's an exciting time to be involved in the pensions industry but we are at a crossroads in our strategic decision making. The above issues considered are very relevant to the current working population. Decisive action needs to be undertaken. It's incumbent on all of us to lobby the relevant stakeholders to develop urgently a cohesive roadmap for future retirement planning in this Country.
The private pensions industry has a lot to offer to help solve the current issues. The government needs to recognize this and embrace the above recommendations immediately. Time is not on our side. For a life in retirement with dignity, quality and respect, a changed private pension offering is the future.