As the realisation grows that inadequate pension provision is developing into a major crisis, David Begg of Ictu and Marie Daly of Ibec examine the options
The thinking behind PRSAs is good in principle but they haven't worked,writes David Begg
Many people earning a good income at work today are in for a shock when they come to retirement age. The damage inflicted on the value of pensions by the collapse in stock market values and the low interest rates of recent years means that what people may get by way of a pension could fall far short of their expectations. And for those who don't have any pension provision at all the position is infinitely worse. In practice only about one third of the workforce has a pension arrangement worthy of the name.
The whole mystique and complexity of pensions turns people off. The topic is mind numbingly boring to most people below 45 but it gets very interesting as you approach 65. Unfortunately, it is then too late to do anything much about it.
This is not uniquely an Irish problem; all industrialised countries are in the same boat, but our state pension is small by comparison to the rest of Europe and it really needs the complementarity of a separate income from an occupational pension scheme.
There is a national target to achieve pension coverage of 70 per cent for people over 30, agreed by the social partners and government. Figures published recently by the Central Statistics Office are very disappointing in as much as they seem to indicate that progress towards that objective is painfully slow. They show that just 52.4 per cent of people aged between 20 and 69 now have pension coverage of some sort compared with 51.2 per cent two years ago. The introduction of Personal Retirement Savings Accounts (PRSAs) was the main instrument intended to achieve the 70 per cent target, but it does not seem to be very effective.
Admittedly the CSO cautions that there may be some confusion on the part of respondents to its survey as between occupational pensions and PRSAs, thus understating the true position. Nevertheless the figures are not good and unless they improve by 2006, when the pensions strategy comes up for review, radical action will have to be taken.
The thinking behind PRSAs is good in principle. It is aimed at making it easy for people to save and making it compulsory for employers to facilitate them by establishing the PRSA and making deductions from wages if requested to do so. It is particularly aimed at people with modest incomes. The problem in practice is that where a conventional occupational pension plan does not exist, the PRSA alternative does not provide sufficient incentive.
People on modest incomes are not likely to have much discretionary cash and are not likely to demand the establishment of a PRSA. Moreover, in these days of high mortgages keeping a roof over your head is a higher priority for a young couple than providing for retirement.
The incentive of a tax offset is also much more of an incentive for people on higher incomes.
The bottom line is that experience in Britain and the US clearly indicates that PRSA-type pensions only work if the employer also contributes.
If the level of pensions coverage is a worry then the quality concealed by those CSO statistics is of more concern. A few years ago most occupational pension schemes were what are known as defined benefit (DB) schemes.
Basically this meant that you knew exactly what pension to expect when you retired, usually two thirds of final salary with 40 years service.
The global stock market collapse changed things utterly. Billions of euros were wiped off the valuation of pension funds in the aftermath, resulting in huge funding deficits. Many employers, some of whom had cut back in funding in the years when return on investments was good, were faced with huge liabilities on their balance sheets (exacerbated by a change in accounting standards known as F517).
Being either unwilling or unable to grapple with these deficits, employers, where possible, moved towards defined contribution (DC) schemes.
This means that a person on reaching retirement will receive only that pension which the money in the fund can sustain (usually through the purchase of an annuity). Changing from defined benefit to defined contribution schemes transfers the risk from employer to employee. That is why peoples' expectations may be shattered when they come to retire.
So what is to be done? First of all we have to wake up to the reality facing us. This demographic timebomb in the form of pensions' inadequacy is more important than many other things we in the trade union movement dispute with employers about. Last week the Irish Congress of Trade Unions published a comprehensive document on the pensions' crisis.
Among our proposals were:
- Social welfare pensions should be steadily increased to a level equivalent to 34 per cent of gross average industrial earnings;
- The current regime of tax incentives should be rebalanced by way of tax credits or other measures to incentivise people on modest to middle incomes to take out PRSAs or to convert SSIAs to pensions;
- In cases of insolvency, better protection for workers' pensions should be legislated for;
- Employers should pay a minimum of 10 per cent of salary to defined contribution (DC) schemes and employees 6 per cent;
- The State (through the National Treasury Management Agency perhaps) should get into the business of selling pension annuities in order to minimise risk and cost to persons wishing to buy pensions;
- It should be possible for people with money in a defined contribution pension fund to purchase a supplementary social welfare benefit from the State up to a certain level.
There is no magic bullet that can solve the looming pensions' crisis. Pensions have to be paid for either through tax, social insurance or private savings. But the problem has to be tackled and we think these proposals would help a lot. Congress intends to make pensions a key objective in any new round of social partnership discussion.
David Begg is general secretary of the Irish Congress of Trade Unions
Jobs will be lost if firms are burdened with more mandatory pension costs, writes Marie Daly
Séamus Brennan's recent statement that not enough people are in occupational pensions schemes is fair enough but needs serious elaboration.
Mr Brennan says "the reality is that unless urgent action is taken to significantly increase pension coverage for those at work, many of the 900,000 will probably have to rely on the basic State welfare pension as their main source of income in their retirement years". At a time when employers are struggling with their own pension costs and with funding generous public-service pensions, the intimation by Mr Brennan that employers should be doing more is failing to take account of the major problems being experienced by occupational pension schemes.
His timing could not be worse. Most people know defined benefit schemes are in trouble and that employers have had to inject millions of euro to rescue them and, in addition, increase both their own and employees' contributions to meet the overly demanding funding standard. It is unreasonable to expect a pension scheme to be capable of discharging its obligations on the basis that the company was about to go bust. The more sensible approach is that it be judged just like the firm itself: is it trading effectively as a going concern?
Investment losses are part of the problem. The value of most pension schemes dropped dramatically some years ago when the investment markets took heavy losses.
Although companies have put more money into pensions in recent years, the actual value of those schemes has still dropped significantly in many cases.
If it were just investment losses we would now be turning the corner for pensions as markets pick up. Unfortunately, it is not that simple.
Investment losses have exposed a bigger pension time bomb for defined-benefit schemes.
Liabilities are beginning to smother assets.
Longer lifespans and better health means pensions are being paid for longer, at a time when wage inflation means bigger pensions must be provided for.
Another factor is low interest rates, which make the purchase of retirement annuities (an insurance product which essentially buys the "risk" of the pension lifespan) prohibitively expensive.
To make matters worse, a few years back some schemes took contribution holidays.
This erosion of funding left schemes with little fat for the leaner times.
However, it would have required more than a little fat to meet the mushrooming pensions liabilities now looming.
The odds are stacked against Irish occupational pensions schemes at present. Many employers are having real difficulty meeting their voluntarily assumed defined-benefit pensions obligations. In many cases, both employers and employees will have to dig even deeper into their own pockets to ensure good pensions. With pressure on Irish companies to be competitive in global markets despite the extraordinary growth in business costs (average of 19 per cent growth in non-pay costs over the past two years), it is completely unrealistic to contemplate the additional cost of mandatory employer pension provision.
Smaller companies in particular, many of whom are struggling to survive against falling margins, will simply be unable to comply and jobs will be lost, especially in manufacturing.
There are a number of options for reform, such as the greater use of PRSAs - Personal Retirement Savings Accounts.
PRSAs belongs to the individual and have capped charges, thus making it an attractive consumer product.
Furthermore, employers who do not have occupational schemes already in place must give access to PRSAs and must deduct whatever amount the employee wants to contribute from salary payments, thus making them user friendly.
There is certainly room for better marketing of PRSAs and promoting a better understanding of the value of having one.
Also, there is scope to reform the PRSA product itself and remove red tape that is currently discouraging employees from signing up.
Employers could be encouraged, through incentives, to contribute voluntarily to pensions for their employees.
Redistributing available pension tax reliefs would help and in particular refocusing them to encourage pension provision among those with no retirement provision and solely reliant on a State pension.
The Government should also take steps to encourage the public to invest at least some of the windfall from SSIAs into pension provision.
Another thorny and increasingly divisive issue is that of public-service pensions, which are typically more favourable to those available to most private-sector employees.
In addition, public-service pensions continue to be pay-related for the duration of the employee's retirement.
They have also received increases linked to benchmarking, the justification for which is hard to fathom.
The value of pensions must be taken fully into account in any future public-service benchmarking exercise.
The pension bill for the State as an employer has risen significantly in recent years and should be published in full.
While some progress has been made in pre-funding public-service pensions, the potential cost in the years ahead remains worrying.
The paymaster is the beleaguered private-sector employer and employee, who on top of that, also pay for social welfare pensions. Business will continue to press for balanced reform to tackle a complex problem that won't be solved overnight.
Marie Daly is assistant director of Ibec