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Business Development Global Pensions 2005.

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Presentation on theme: "Business Development Global Pensions 2005."— Presentation transcript:

1 Business Development Global Pensions 2005

2 Pension models around the world
Global pensions is proud to present you a summary of various pension models around the world. The document is split into three parts: I The World Bank pension model that is a framework to discuss the different pension systems in the world II A detailed overview of pension systems of countries that are considered to be role models across the world. These systems can provide best practices for countries that are considering reforming their pension system. III Main characteristics of pension systems in countries that reforms have been recently launched, currently under reform or where changes are expected. This overview is based on the World Bank model. We realize the study is not yet comprehensive and would appreciate any additional comments or remarks. It will be further improved, however it can be used as a working document.

3 Table of contents I II III The World Bank model
Leading role pension models compared to the World Bank model: Chile US Poland** Netherlands UK Sweden * Australia Main characteristics of other country’s pension systems II Country pension system summary System characteristics Investment guideline Regulation and supervision Macro economic impact * System pros and cons** III Asia China Korea Europe Hungary Czech Republic Slovak Republic Romania Greece Ukraine Russia Latin America Mexico Brazil Peru * Only applicable to countries recently reformed **Only applicable to *marked countries

4 The World Bank model (classic definition)
Publicly funded schemes, social security schemes Employer sponsored schemes or private mandatory programs Additional voluntary arrangements I II III STATE MANDATORY VOLUNTARY Government is responsible for adequate safety net via Pillar I Private sector plays key role in building Pillars II and III Growth will mainly be in Pillars II and III Public/private partnership is essential What actions are needed? Most important are macro-economic measures such as increase in labor market participation and increase in retirement ages; would help a lot, as numerous studies show. Still, pension reforms unavoidable; allow for sustainable financing. Governments can no longer bear the burden alone. Recommended by many respected institutions (world bank, European Commission, etc) is 3-pillar system. Proper balance between basic state security (pillar I), occupational company pensions (pillar II) and individual commercial solutions (pillar III) As part of 3 pillar system, important to reduce depency on 1st pillar Extension of 2nd pillar key in creating balanced pension system In EU, state still dominant source of pension provision (88%) Occupational pensions still relatively new concept in Europe NL the exception: 2nd pillar pension = 36% pension benefits (vs. 7% for rest EU) Dutch 2nd pillar fully funded.

5 Pensions as economic growth engine
Advantages of multi pillar-system: Proper financing of old age provision Boosts economic growth Contributions are invested back into the economy Accelerated development of local capital markets Shared responsibility by government, employers and individuals Strongly recommended World Bank / OECD European Union / ILO Tax support EET I II III STATE MANDATORY VOLUNTARY The advantages of a 3 pillar system: shared responsibility. Not everything is totaly depending on the state The EU Commission argues : a pension system should reflect a sustainable mix of mutually supporting pension pillars based on: legislation, collective labour agreements and private contracts in a way that the state, social partners and individuals can share the reponsibility for retirement income. The support by the state can be different for each pillar State support can depend on: economic situation (public debt) need to reform tax system or subsidies improve the development of cpital markets Also the ILO and World Bank recommend strongly to develop a three pillar system.

6 A new perspective on World Bank pension model
New definition on pension model, by World Bank (according to the study in February 2005 Social pension functions as basic income re-distribution, extremely important for lifetime poor individuals as well as informal sector (income is not taxed) Role of private companies Only active in Pillar I, II & III Pillar I: institutional asset management (potentially) Pillar II: pension fund management Pillar III: same as pillar II Pillars Zero I II III IV Social pension State Occupational or personal (Mandatory) (Voluntary) Individual, informal financial and non-financial Characteristics Basic social assistance, universal or means tested Also called “demogrant” Public pension plan, defined benefit or notional defined contribution Occupational or personal pension plans (fully funded defined benefit or defined contribution) Occupational or personal pension plans (partially or fully funded defined benefit or fully funded defined contribution) Informal support (family), other formal social program (health care), other individual financial or non-financial assets (homeowner) What actions are needed? Most important are macro-economic measures such as increase in labor market participation and increase in retirement ages; would help a lot, as numerous studies show. Still, pension reforms unavoidable; allow for sustainable financing. Governments can no longer bear the burden alone. Recommended by many respected institutions (world bank, European Commission, etc) is 3-pillar system. Proper balance between basic state security (pillar I), occupational company pensions (pillar II) and individual commercial solutions (pillar III) As part of 3 pillar system, important to reduce depency on 1st pillar Extension of 2nd pillar key in creating balanced pension system In EU, state still dominant source of pension provision (88%) Occupational pensions still relatively new concept in Europe NL the exception: 2nd pillar pension = 36% pension benefits (vs. 7% for rest EU) Dutch 2nd pillar fully funded. Please note this new pension model is for reference only. In the remaining of the document, only the classic 3 pillars pension model will be discussed

7 Table of contents I II III The World Bank model
Leading role pension models compared to the World Bank model: Chile US Poland** Netherlands UK Sweden Australia Main characteristics of other country’s pension systems II Country pension system summary System characteristics Investment guideline Regulation and supervision Macro economic impact * System pros and cons** III Asia China Korea Europe Hungary Czech Republic Slovak Republic Romania Greece Ukraine Russia Latin America Mexico Brazil Peru * Only applicable to countries recently reformed **Only applicable to *marked countries

8 I. Chile Pension System compared to World Bank (summary)
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) CHILE I II III STATE MANDATORY VOLUNTARY Pension System Old State System (PAYG) Compulsory for the Armed Forces and old labor force without Past Service Bonus. Contribution levels higher than new private system Private Pension System (AFPs) Compulsory for new labor force (since ): DC plan, employee’s contribute 10%, Past Service Bonus paid by the government at retirement age (if applicable since PSB being phased out) Optional for self-employed and old labor force: Past Service Bonus is still paid to the old labor force at retirement age Self employed and other groups Voluntary retirement savings plans/products (APVs) Government subsidizes through tax reduction Major Issues Not applicable, pillar phasing out Although fully funded, not sufficient mandatory coverage ‘Unnatural fit”: private companies with profit incentive managing system that is mandatory by gov’t (public interest) Mandatory disability coverage burdens AFP profitability Lack of savings culture / high cash culture Lack of tax incentives Recommenda tions Not applicable, pillar phasing out Increase the coverage and the investment range abroad Mandatory contributions for self-employed Separate disability and pensions coverage Introduce savings alternatives (401Ks, APVs) Increase awareness and information available regarding the private system

9 II. System characteristics: reform in Chile
On November 13th, 1980 the New Pension System was established by law. The New Pension System was launched in May 1981, replacing the old one (PAYG). Main features of the new system: Compulsory for the new labor force and optional change for the old labor force. The government assumes capitalization of contributions made in the old system through the issuance of “Recognition Bonds”. Many institutions, all private, manage pension funds, and compete on price, service levels and investment performance. Contribution-based funding of pensions, but complemented by a pay-as-you-go funding for disability and survival pensions. Freedom of choice. Freedom to change institutions. Same requirements for everyone. Benefits according to contributions paid and fund yield. Government sets rules, enforces, guarantees minimum pension and return on funds. During the first month, 11 competitors joined the industry At the end of 1981, there were 12 competitors There are 3 types of competitors: National equity National - Foreign equity Trade union equity

10 II. System characteristics: reform in Chile
Simultaneously, other legal reforms were required for the success of the pension system reform: 1. Capital Market - new legal framework for: Securities and financial market Stock companies Superintendence of Securities and Insurance Custody of titles and securities Introduction of fixed income securities able to compensate for inflation 2. Investment Alternatives: State-issued securities for pension funds & insurance companies Pension funds were entitled to purchase fixed income instruments issued by banks and financial institutions and other private issuers Pension funds were authorized to invest in stocks (1986) Pension funds were authorized to invest abroad (1994) 3. Level of risk - prohibit investment in certain stocks and enforce diversification: Issuer Types of instruments Terms Risk level and categories A Risk Assessment Commission was established

11 II. System characteristics
CHILE Pillar I Old State System (PAYG) Compulsory for the Armed Forces and old labor force without Past Service Bonus. Contribution levels higher than new private system Key issues Not applicable, pillar phasing out

12 II. System characteristics
CHILE Pillar II Mandatory pension funds (substituting Pillar I), which are privately managed and invested. AFPs in charge of underwriting and investing. Compulsory for new labor force (from ): DC plan, employee’s contribute 10%, Past Service Bonus paid by the government at retirement age (if applicable since PSB being phased out) Optional for self-employed and old labor force: Past Service Bonus is still paid to old labor force at retirement age Also coverage for Disability and Survivors Pensions LEGAL RETIREMENT: 65 years for men and 60 years for women The pension amount is calculated based on: Accumulated Savings: Pension Fund + Past Service Bonus + Voluntary Savings Acc’t Life expectancy of the worker and of his family group EARLY RETIREMENT: 110% Legal Minimum Pension 50% Inflation-adjusted income of last 10 years (August 2004, > 70%) Key issues Although fully funded, not sufficient mandatory coverage ‘Unnatural fit”: private companies with profit incentive managing system that is mandatory by government (public interest) Mandatory disability coverage burdens AFP profitability

13 II. System characteristics
CHILE Pillar III Self employed and other groups Voluntary retirement savings plans/products (APVs). Government subsidizes through tax reduction Key issues Lack of savings culture / high cash culture Lack of tax incentives

14 III. Investment guidelines for the Pension Funds (AFPs)
CHILE III. Investment guidelines for the Pension Funds (AFPs) The AFPs must invest the pension funds’ resources as established by law (type of instruments and investment margins are regulated), and guarantee a minimum profitability and security for the participants AFPs are stock companies with a target to manage 5 pension funds with different risk-return combinations (table 1) In order to invest their obligatory savings, affiliates can freely choose among the different five funds, except: (table 2) Participants with less than 10 years until retirement (at legal age) can not invest in Fund A Pensioners can not choose Funds A and B Default allocation (when no choice made by the participant) will be as in table 3 table 1 Men: till 35 Women: till 35 Men: Women: 36-50 Men: from 56 Women:from 51 Pensioners A B C D E AFP’s can not: Buy low liquidity assets Manage other portfolios Act or fail to act in a manner required by law In general they cannot use, for themselves or on a third party’s behalf, information about investments of the pension funds managed by them, nor can they provide such information to people other than those who participate in the investment decision-making process table 2 Men: till 35 Women: till 35 Men: Women: 36-50 Men: from 56 Women:from 51 Pensioners A B C D E table 3

15 IV. Regulation and Supervision (1/2)
CHILE REGULATION: Requirements of the pension funds: Minimum capital amounting to US $123,200 must be funded, subscribed and paid at the moment pension fund is granted a public deed of company formation Shareholders’ equity must match some minimum capital requirement. This requirement depends on the number of members and ranges between US $123,200 to US $492,800. In practice, the capital and shareholders’ equity are much higher than the minimum amounts required. Governmental authority to operate, which is granted by the AFP Superintendence (Supervisory body) Responsibilities Enroll new workers and accept members transferred from other AFP’s Collect monthly contributions from employers Legally enforce payment of unpaid contributions Identify/keep record of contributions of each member Credit contributions to each member’s individual investment-based account Invest pension fund assets Inform members every four months - and upon request- about their individual account status and about commissions charged

16 IV. Regulation and Supervision (2/2)
CHILE SUPERVISION: The AFP Superintendence supervises and controls the Fund Administration Companies (AFPs) as established by law Functions: Authorize AFP formation and keep record of them Oversee AFP’s operations and the granting of benefits and services given to its members Oversee pension funds’ investment of assets Set and provide interpretation of rules and regulations for the pension system Advise the executive power (via the Labor and Social Security Ministry) on pension-related issues and propose legal reforms leading to system enhancement Apply sanctions upon AFP’s which may range from: Censure (reprimand) Fines amounting up to UF 15,000 (US $ 370,000) Repeal of the AFP’s authorization to exist Settlement of the AFP and its funds, when applicable

17 V. Macro-economic impact
CHILE V. Macro-economic impact Impact on the economy: Impact on the capital market: Initial estimates from industry said that in the mid-term, approx. US $3.5 billion would be transferred from fixed income to equity. (As of December 2003, the real increase in equity was US $11.8 billion ) Higher amount invested in equity abroad. Local market receives investments depending on market conditions, liquidity and stock exchange performance. (ACD) Decrease in time deposit position (today 15% from pension funds) THE TOTAL ASSETS MANAGED BY PENSION FUNDS EQUALS: 52% OF GDP 100% OF TOTAL EXTERNAL DEBT 2 TIMES TOTAL ANNUAL EXPORTS

18 I. US Pension System compared to World Bank (summary)
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) US I STATE II MANDATORY III VOLUNTARY Pension System State System (PAYG) First and current law: 1935 (with numerous amendments).Type of program: Social insurance system No mandatory system Employer related: DB and hybrid plans DC: 401K, 403B,457, SEP, Simple, Sarsep Personal savings: IRA – traditional, roth Annuties Mutual Funds Brokerage Major Issues Funding issues under debate. New proposal under Bush reform looking at Individual Pension Accounts (similar to Chile/Lat Am) n/a DB: Declining due to move to individual funding, regulatory complexity and cost DC: Continued expansion in competitive environment, with strong “takeover” element Exploding IRA market Improving tax incentives for long term savings and investments

19 System characteristics: Pillar I
US System characteristics: Pillar I Coverage Gainfully occupied persons, including self-employed persons. Exclusions: Casual agricultural and domestic employment, and limited self-employment (when annual net income below $400), and some Federal employees hired before Voluntary coverage for employees of State and local governments, and clergy (mandatory coverage for employees of State and local governments not covered under a retirement system, effective July 1, 1991). Applies in U.S., Puerto Rico, Northern Mariana Islands, Virgin Islands, Guam, and American Samoa, and to citizens and residents employed abroad by U.S. employers. Special systems for railroad employees, Federal employees, and many employees of State and local governments. Source of Funds Insured person: 6.2% of earnings. Self-employed, 12.4%. Employer: 6.2% of payroll. Government: Cost of special monthly old-age benefit for persons aged 72 before 1968; whole cost of means-tested allowance. Maximum earnings for contribution and benefit purposes: $72,600 a year, automatically adjusted to wage levels. Qualifying Conditions Age 65 (62-64 with reduction); gradually increasing to 67 over period Old-Age Benefits Based on covered earnings averaged over period after 1950 (or age 21, if later), and indexed for past wage inflation, up to age 62 (or death, if earlier) excluding 5 years with the lowest earnings. (Earnings in years outside this period may be substituted, if higher.) Available at age 62, but reduced for each month of receipt prior to age 65. No minimum benefit for workers reaching age 62 after Maximum $1,373 a month for workers retiring at age 65 in Increment for each month worker delays retirement at ages Increment amount depends on the year the worker reached age 62, and is 5.5% per year for those age 62 in Adjustment: Automatic cost-of-living adjustment.

20 System characteristics: Pillar I – Reform proposal
US System characteristics: Pillar I – Reform proposal Current US system is not sustainable, i.e. the guarantee fund (PBGC) going into a deficit (September 30, 2004 growing from $11,2 bio to 23,3 bio). As of 2004 the cost of doing nothing to fix the US Social Security system had hit an estimated $10,4 trillion, according to the Social Security Trustees. The proposal of President Bush to reform pension focuses on 2 main areas: Individual investment accounts: Participation: benefits of anyone age 55 and older will not be changed. The accounts are voluntary. But participation would be phased in over three years according to age: the first year workers born from 1950 to 1965; the second year, workers born from 1950 to 1978; the third year, anyone born after 1950 could opt for an account. Contribution: workers would be permitted to invest up to 1/3 of the 12.4 percent payroll tax that they and their employers pay on their wages, into the individual investment accounts (Workers pay 6.2 percent and employers the other 6.2 percent.) Annual contributions would be capped at $1,000 in 2009 and thereafter rise slightly more than $100 per year. Investments: Workers would have a choice of five broadly diversified index funds and a lifecycle fund, in which the portfolio grows more conservative as the investor nears retirement. (i.e. when a worker turns 47 the account will automatically be invested in the lifecycle fund unless the worker and his or her spouse sign a waiver opting out) Pay out: Money in the accounts could not be taken out before retirement. At retirement, it's likely workers would have to annuitize a portion and only take out a lump sum if doing so would not result in the worker moving below the poverty line. Any unused portion of the account could be left to heirs. Administration: The accounts would be modelled on the Thrift Savings Plan - a 401-k type program already available to government employees - and centrally administered by the government. The accounts should not be eaten by Wall Street fees; low costs. It is estimated that the administrative cost per account will be 0.3 percentage points. Funding rules for defined pension plans will be strengthened. Funding targets will be based on meaningful measures of liabilities Market values will be used for assets 7 year amortization period for funding shortfalls Employer can make additional deductible contributions in good years Disclosure to participants will be improved Premiums will better reflect plans risks and restore the health of PBGC Main concerns: Transitional Cost: Payroll taxes are used to pay current retirees, so diverting a portion of them creates a shortfall in the ability to pay full benefits. The transition costs of diverting a third of payroll taxes to individual investment accounts have been estimated at around $2 trillion over the next 10 years. That assumes, though, that a third of payroll tax is diverted for each of the 10 years.

21 System characteristics: Pillar II
US System characteristics: Pillar II Currently no mandatory system in place

22 System characteristics: Pillar III
US System characteristics: Pillar III 14% Annuity 7% Contributory IRA 16% Defined Benefit 20% Defined Contribution 18% Rollover IRA 17% State/Local Govt 8% Federal Government 1Estimates from Flow of Funds Accounts of the US Distribution of Retirement-Oriented Assets¹ Employment Based: DB DC: 401 (k) 403 (b) 457 Non Employment based: IRA

23 System characteristics: Pillar III - DC
US System characteristics: Pillar III - DC 401(k) plan (as 403(b) and 457) allows employees to save for their own retirement. This type of plan was named for that section of the Internal Revenue Code, which permits employees of qualifying companies to set aside tax-deferred vehicle that offers a variety of investment options. $ $ $ Pillar III - DC Fixed Investments, Mutual Funds, Employer Stock, Stocks/Bonds, Cash Sponsors Deductibility of contributions as an expense Competitive advantage Attracts quality employees Cost savings - retention tool (vesting schedules) Stimulate economic growth - promotes long term savings Socially responsible to encourage retirement saving Shifts responsibility for retirement to the employee Participants Pre-tax contributions - lowers current taxable load Tax deferred earnings Diversification of assets Ease investing and long-term savings Potential matching employer contributions Not taxable until distributed (normally at retirement when at a lower tax bracket) Portability Ownership of their retirement savings Catch up contributions

24 System characteristics: Pillar III - IRA
US System characteristics: Pillar III - IRA IRAs are tax-favoured retirement vehicles that individuals or workers can establish themselves. Unlike DC or DB, which can only be sponsored by er’s, IRAs provide tax –advantaged retirement savings plans for many ordinary wage earners without an employment-based retirement plan; self-employed, part-time workers; or even some individuals who are not in the labour force (such as nonworking spouses). The growth of IRAs in recent years has not been drive by regular annual contributions by IRA owners; rather, stock market gains and rollovers from other plans have accounted for the lion’s share of IRA growth. The experience so far shows that stock market gins/losses have a larger impact on total IRA assets than rollovers. Today, IRAs are used primarily as a vehicle to store retirement wealth that has been accumulated elsewhere in the retirement system, and not as a vehicle through which current retirement saving occurs.

25 III. Investment guidelines
US III. Investment guidelines US Regulation of pension fund assets Minimun diversification requirements Self-investment/ conflict of interest Other quantitative rules Ownwership concentration limits Currency matching Direct limits on foreign investments General requirements for diversification Limited to 10% for DB plans None No info available No explicit rule

26 IV. Regulation and Supervision
US The United States has several agencies in charge of the supervision of private pension occupational schemes: The US Department of Labor, Pension and Welfare Benefits Administration (PWBA) primarily supervises the protection of employee benefit rights and fiduciary obligations for corporate and multi-employer voluntary pension plans. The Pension Benefit Guaranty Corporation (PBGC) provides protection for the termination of defined benefit schemes. The Internal Revenue Service (IRS), overseen by the United States Department of Treasury, operates and supervises the tax treatment related to pensions and, in that role, is responsible for the registration (tax qualification) of pension plans. NASD SEC State Insurance Department State Attornies General Due to the large number of pension plans in the US, the voluntary nature of the pension plan system, the great variety of plans, and the limited amount of resources allocated to the governmental agencies charged with supervising pension plans, a significant emphasis on the part of government has been on voluntary compliance, through educational outreach programs and voluntary compliance programs for plan sponsors and plan fiduciaries who have discovered violations and want to correct them. Both the Department of Labor and the IRS have sophisticated programs for identifying likely areas of non-compliance with the law and targeting examinations at those areas. Through these programs, the agencies have made significant recoveries of money for plans and have imposed plans to correct deficiencies in their operations.

27 I. Poland Pension System compared to World Bank (summary)
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) POLAND I II III STATE MANDATORY VOLUNTARY Pension System PAYG scheme However, benefit consists of 2 components: a. Notional accumulation of contributions in individual accounts b. The accrued DB pension right (at the time of reform) is converted into a notional lump sum value and “credited” to the individual Contribution is 19.52%, equally split by employers and employees Only 12.22% is contributed to Pillar I, if individual is eligible and elects to join a pillar II fund Remaining 7.3% is contributed to pillar II Mandatory, open end pension funds Managed by private pension fund companies At retirement, accumulated benefit will be transferred to annuity First benefit payout is expected to be in 2009 Members have free choice of pension fund provider Transfer between funds are permitted, but only one pension fund at a time A custodian bank has to be used, for which 10 – 12 bps is paid For self employed, a minimum contribution required and can be split between pillar I and II Voluntary, additional employer contribution to corporate pension fund Limited take up rate as employers view this is an extra labour cost 7% payroll tax deduction Market perception that tax incentive too low Individual retirement account (IKE) Tax qualified long term savings products Early withdraw tax penalty applied Life insurers, mutual fund managers, banks and brokerage firms Major Issues ZUS, an effective, centralised administration system, however, room for improvement Delayed customer data retrieval as a result of slow and unorganised system (member data delay up to 2 months) System introduced in 2004 and initial sign up for IKE successful, but long term success still remains to be seen

28 II. System characteristics: from mono to multi pillar systems in 1999
POLAND II. System characteristics: from mono to multi pillar systems in 1999 Mandatory, reformed PAYG, DC system PAYG: current pensions are financed by current contributions paid by employees and employers Individual account, DC system: previously accrued defined benefit pension rights “credited” to a notional individual defined contribution account Contribution is paid by employee Old age pension contribution is part of the social security contribution, of which 19.52% of earnings paid to old age pensions – equal contribution from employer and employees 13% for disability – equal contribution from employer and employees 1.93% work injury, 100% paid by employer 2.45% sickness, 100% paid by employee Old age pension contribution is split into 2 parts 12.22% is paid to finance the current retirees 7.3% is for individual account (II Pillar) Benefit 2 components Pillar I: accrued DB benefits before reform + accrued DC benefits on 12.22% contribution, both are notional Pillar II: accrued assets from individual account, DC Pension reform bill passed by parliament in 1998, scheduled for implementation in January 1999 Actual implementation started 1 March 1999 Before pension reform, state pension liability is 462% of GDP 2004, pension liability is 194% of GDP 2010, system is projected to be in surplus Pension reform does not bring additional cost to employers nor to employees (Government made the social security system transparent) Employers aggregated contribution was reduced and employees, in the mean time, receive additional salary that equals the employer contribution reduction

29 II. System characteristics - general
POLAND II. System characteristics - general Mandatory, funded system Eligibility: Compulsory to all employees born after 1969 Born before 1949 had to remain in the old system Born between 1949 – 1969, have a choice of joining pillar I or II Free member choice of fund Employers were not allowed to influence the choice of fund (Partially the reason Tied Agents were a successful distribution model) Fund managers and agents are not allowed to offer inducement to customers to join a fund Effectively only 7.3% is contributed to the individual account Open-ended pension funds, managed by private pension fund managers 16 private pension funds, top 3 has over 65% market share (PZU, ING, Commercial Unions) 11.7 million members, however, approximately 2 million members are effectively non-contributory accounts Total assets: +€ 11 billion, end June 2004 Insurance companies, banks, security / brokerage firms can apply licence to set up pension fund entity Pension fund manages the assets, but needs a custodian bank to handle the asset administration (10 – 15bps commission fee) Insurance companies hold 88% of total assets (too concentrated)

30 II. System characteristics - Administration
POLAND II. System characteristics - Administration One centralised administration body – ZUS Employer pays both employee and employers contribution to ZUS Individual account: ZUS allocates employee(er) contributions to Pillar I, Pillar II, it matches contributions with employee fund choices and distributes the money to the funds’ custodians and advises the funds Collect information / money  reconciliations  a. pass money to custodians; b. information to fund managers Key issues Too short preparation time: legislation passed in 1998, actual implementation 1 March 1999 Inaccurate form completion by employers resulted in unmatched contributions Education for employers took over a year

31 III. Investment guidelines (1/2)
POLAND III. Investment guidelines (1/2) Majority of investments to domestic capital market Regulation sets maximum 5% limit on off shore investment In practice, only 1% assets invested off shore, due to many hidden “obstacles”, ie., waiver on custodian service fee, stamp duties etc. Maximum asset management fees: < 0.6% Market players set the fee (ING, being 1 of top 3 players with approx. 20% market share, has strong influence in fees) Asset management fees: upfront fees + management fees Upfront fee – maximum for contribution based fees is 5.8% of annual contribution, includes administration fees (0.8% to ZUS), supervision, custodian etc. Average 50 bps per annum, if assets above Zloty 8 bln, management fees will be reduced (sliding scale) An open pension fund can only offer one fund For customer & agent, restriction simplified the choice and education process However, from fund managers’ point of view, this restriction limits the investment return Fund managers keep record of accounts for each member, member information access through: Internet, call center, ATM or SMS

32 III. Investment guidelines (2/2)
POLAND III. Investment guidelines (2/2) Investment restrictions (to protect the members’ rights): Up to 95% of assets in bonds or shares on domestic capital markets < =5% off shore investment (limited to OECD countries) Restriction applies to open end pension fund 40% in quoted stocks 10% in secondary stock 10% in treasury bills 10% in NIFs 15% in municipality bonds 10% in close ended investment funds 15% in open ended investment funds 20% in banks and bank groups An industry guaranteed fund to recover losses from fund managers, in the event of bankruptcy Effectively, the fund managers are paying for the industry losses No investment in real estate Numerous diversification requirements, ie., no more than 10% of assets to be invested in a single kind of securities Investment in bonds, or stocks should be <=5% of assets in one issuer Asset allocation (June 31, 2004) Bonds: 60% Equity: 31% Treasury bills: 4% Bank, securities and deposits: 3% Others: < 1% Key issues: Pension funds hold about 25% domestic capital market Increasing demand for IPO to increase the size of the market

33 IV. Regulation and supervision
POLAND IV. Regulation and supervision Insurance and Pension Funds Supervisory Commission supervise: Open pension funds Employee pension fund (non-profit) The commission consists of 5 members: Chairman of the commission appointed by Prime Minister Deputy Chairman appointed by Ministry of Finance and Ministry of Labour Member of the commission: chairman of the security and exchange commission or his deputy Member of the commission: chairman of the competition office or his deputy Government intended to amend the law in following aspects: Cost of system development (remove limitation) Competition (intensify) Investment (increase effectiveness) Finance burdens of funds and of members (liquidation) (Reduce) power of big 3 pension funds New draft law yet to be sent to parliament

34 IV. Regulation and supervision
POLAND Clear division of rules Custodian, administration and pension fund managers Member information clear and easy accessible published regularly in the newspapers as net of fees Pension fund manager is regulated to protect members: If market average return is 8%, underperforming fund managers have to make up the difference in order to equal half of the average (i.e. at least provide 4%) Effectively, it resulted in fund managers all investing in a similar way

35 V. Macro economic impact
POLAND V. Macro economic impact Reduced pension liabilities Until 2005: before reform, 462% of GDP vs. after reform, 150% of GDP 2050, pension expenditure will drop from one of the highest in Europe to one of the lowest Transfer of a portion of contributions to funded pension scheme is not a cost It reveals a portion of the implicit debt It reduces future public finance obligations Increased funding requirements can be offset by higher debt, purchased by pension funds Pension funds assets invested into equities stimulate investment and economic growth It is better to turn a portion of pension liabilities into savings now than to have much greater problems with redeeming such obligations in the future Expenditure and revenue of the pension system 2049, pension system surplus Dependency ratio (d) GDPR/GDP Primary surplus needed to keep pension debt at 2000 level 2000 2050 change France 27.2 50.8 23.6 12.1 15.8 3.7 5.9 Germany 26.6 53.2 11.8 16.9 5.1 4.3 Spain 27.1 65.7 38.6 9.4 17.4 8.0 4.8 Sweden 29.4 46.3 25.9 9.2 10.8 1.6 1.0 Poland 20.4 55.2 34.8 8.3 -2.5 -1.0

36 VI. Polish pension reform pro’s and con’s
POLAND VI. Polish pension reform pro’s and con’s Pro’s Con’s Mandatory, big bang pension reform Simple & transparent: Individual account makes it easier to understand– amount an retiree receives equals to accumulated contribution value, enhances personal interest and accountability Separate old age pension from other social security contribution – transparent and easy to understand for individual Defined contribution system makes it easier for people to understand  increase the confidence level One investment fund per pension fund makes it easier to understand Few, but smart regulations to protect member rights Maximum asset based fees, no contribution fee Industry average investment return as a benchmark, low performer has to pay penalty Dis-encouraged to take high risk investment One centralised administration system allows efficient collection and administration, also saves cost Media attention and support helped people to understand Lack of investment options to sustain a long term high rate of return Limited solutions to channel pension fund assets into long term investment Pension fund investment over reliance on domestic capital market Limited investment option when the capital market is small (limited supply of financial instruments and resources) and illiquid Over complicated regulations and international charges limited pension fund overseas investment

37 I. Dutch Pension System compared to World Bank (summary 1/2)
Netherlands I. Dutch Pension System compared to World Bank (summary 1/2) WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) Holland I II III STATE MANDATORY VOLUNTARY Pension System Basic old age pension (AOW) PAYG Universal: system applicable to all residents and flat rate benefit Minimum guarantee to prevent poverty (70% of minimum wage) Build up phase: 15 – 65 years In case of a person who resides outside Netherlands during the accumulation phase and the total retirement income is less than 70& of minimum wage, this person is entitled to receive social assistance Employer sponsor, occupational pension schemes, voluntary However, +90% employed participated in an occupational pension scheme Including AOW benefit, the total replacement ratio is aimed at 70% of individual final, or average salary) Pension payout Early retirement is possible 4 types of pension funds Industry-wide Company Insurance contract Pension funds for self employed professionals DB (88%) and DC plans Major Issues Ageing population created future pension deficit in Pillar I An AOW savings fund created to finance part of the (AOW) expenditure in future Government deposits tax revenue to the fund on annual basis Over funding requirements (strict solvency) by regulatory commission puts pressure on industry players Current solvency margin still healthy (at 110%), however, is historically low compared to before crisis (at 150%) Recommendations Allow pension funds time for recovery – short term underfunding, long term financial sustainability

38 I. Dutch Pension System compared to World Bank (summary 2/2)
Netherlands I. Dutch Pension System compared to World Bank (summary 2/2) WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) Holland I STATE II III MANDATORY VOLUNTARY Pension System Basic old age pension (AOW) PAYG Universal: system applicable to all residents and flat rate benefit Minimum guarantee to prevent poverty (70% of minimum wage) Build up phase: 15 – 65 years In case of a person who resides outside Netherlands during the accumulation phase and the total retirement income is less than 70& of minimum wage, this person is entitled to receive social assistance Individual pension arrangement Annuity and endowment insurance Premium contribution tax deductible Annuity benefit tax incentive is caped at 70% of a person’s final pay (incl. benefits from AOW and Pillar II occupational scheme); contribution deduct from taxable income (€ 1,036 per annum) Endowment with 15+ years policy duration: interest tax free, principal tax free up to a ceiling Major Issues Ageing population created future pension deficit in Pillar I An AOW savings fund created to finance part of the (AOW) expenditure in future Government deposits tax revenue to the fund on annual basis Tax legislation is very influential Both Pillar II & III applies EET Recommendations

39 II. System characteristics
Netherlands Holland II. System characteristics Source: OECD, Please note: OECD definition is used in this table: 2 pillar reflects employer sponsored pension schemes

40 II. System characteristics: Pillar I old age pension (AOW)
Netherlands Holland II. System characteristics: Pillar I old age pension (AOW) Funding: Statutory pension contribution is set at 18.25%, in 2003, however, is set at 17.9% or up to €28,850 per annum Contribution are collected through tax bureau for which the tax bureau will automatically transfer the money to SVB In case of funding deficits, government will grant tax revenue (to which pensioners contribute as well) An AOW savings fund established. Funding source is government tax money. Expected to reach €135 billion in 2020 & share 12% AOW expenditure in 2030 Administration: Social Verzekerings Bank (SVB) An central administrative body set by the government Non-profit organisation Day-to-day operation independent from the government Board of Directors manages SVB, in consultation with board of advisors SVB responsibility: collect premiums and distribute to individual (amongst others, old age pension benefits) Supervisory body and process Ministry of Social Affairs and Employment (SZW) appoints members of SVB Board of Directors & Board of Advisors SZW supervises SVB through regular inspections Investment: Currently, minimum capital surplus, hence NO investment management However, AOW savings fund is managed by Ministry of Finance

41 II. System characteristics: Pillar III Occupational pension scheme
Netherlands Holland II. System characteristics: Pillar III Occupational pension scheme At this moment pension funds in the Netherlands are managing close to five million employees, the immense amount of around 390 billion euros. This means 120% of the yearly Dutch GNP. In 2040 the pension fund assets will be risen to 195% of GNP. 3 types of pension schemes: Branch pension funds (Industry wide) 81 out of 103 funds are made mandatory 14% of all the branch funds are fully re-insured Usually insurance companies or large specific sector based pension funds provide administration Sector based pension funds refer to, for instance, civil servants pension funds (ABP) or health sector (PGGM) Company pension funds Larger enterprises usually administer own company pension fund The company pension fund is not allowed to invest more than 5% of the assets in the employer’s company Presently, 44% of these funds are fully reinsured Insurance companies (direct insurance) Through group or individual contract Administered by life insurance companies The Dutch pension market Number of funds/schemes Number of active participants Total assents (billions of euro’s Branch pension funds 103 300 Company funds 876 80.000 90 Directly insured schemes +/ 30

42 Netherlands Holland III. Investment Follow prudent man rule – pension fund investment has to according to prudent pension principal Pension regulator (PVK) judges each pension individually on its investment policy In case reserve shortage, PVK sets the rule to repair the shortage, See regulation slide for further explanation No quantitative regulations on investment Worries that it will penalise the providers’ profit However, Financial Testing Framework applied to each pension fund to achieve required security both affordably and efficiently Each fund being judged on individual basis Free to invest in any asset class Free to invest off shore Traditionally very strict solvency rule (150%) However, due to recent stock market developments, the solvency ratio has been reduced to 119%

43 Netherlands Holland IV. Regulation and supervision: applicable laws & main issues addressed by law (1/2) Regulation and supervision framework: Ensure all employees have access to a supplementary pension scheme +91% of all employees are covered Government safeguards accrual of supplementary pension entitlements and offer tax relief in both Pillar II and Pillar III pension schemes Regulatory framework Pension and Savings Fund Act (PSW) Act on Mandatory Participation in a branch pension fund 2000 (Act Bpf 2000) PSW: Pension contributions must be placed outside the employer’s company by either joining a branch pension fund, or establishing a company pension fund, or concluding an agreement with an insurance company Laid down institutional framework for pension schemes Act Bpf 2000 A branch pension fund may request the government to impose an obligation to its employers and employees to participate in the branch fund A branch pension fund is set up through employers’ organisations and trade unions

44 IV. Regulation and supervision (2/2)
Netherlands Holland IV. Regulation and supervision (2/2) One super-regulatory power Recently merged supervision activities of banking, insurance and pension fund Former Pensions & Insurance Supervisory Board (PVK), currently a division under super-regulator, supervises / regulates pension funds and direct insurance Regulatory principal Pension reserve adequacy level (Solvency) to ensure long term financial sustainability Minimum reserve required by law: 100% assets divided by value of pension commitments discounted by a factor of 4% However, regulatory requirement and industry standards: 119% Stock market shock wave 2001 – promoted new regulation: Minimum level of guarantee for equity - at 40% below the highest point in the last 48 months Minimum level of guarantee for bond - at 10% below the lowest in the last 10 months Should a pension fund capital reserve is below the benchmark, the pension fund has 2 – 8 years to recover

45 I. UK Pension System compared to World Bank (summary 1/2)
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) UK I STATE II III MANDATORY VOLUNTARY Pension System 3 components: basic state pension, State Second Pension (S2P)* & pension Credit Employees (not self-employed) may chose “contracted-out” SSP into private occupational pension scheme, or “opt out” into Approved Personal Pensions Minimum income guarantee, gross replacement only 37% of average earnings Pension age man: 65, woman 60. Equalise at 65 from 2010 Employer sponsored pension plan Occupational pension schemes, non mandatory for both employer and employee. However, it is very common, especially so in the larger companies Major issue 44 years in workforce needed for full basic pension Provide least income to prevent poverty at age of retirement Gross replacement rate very low: 37% at average earning in UK (same as the US), NL: 70%, Sweden: 76%, France: 71% In a shift towards international accounting standard, more pension plans move from DB to DC, likely result in a reduced level of premium contribution Earning related pension on top of being 20% of revaluated average earnings Contracted out because of occupational pensions * S2P previously is called State Earnings Related pension Scheme (SERPS)

46 I. UK Pension System compared to World Bank (summary 1/2)
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) UK I III STATE II MANDATORY VOLUNTARY Pension System Individual pension plans Traditional personal pensions, defined contribution schemes 25% can be taken as a lump sum on retirement, rest as an annuity Maximum contribution is € 5,450 a year Voluntary contributions to private pensions based on occupational schemes (stakeholder pensions scheme) Huge tax relief on voluntary pensions Very large privately funded pension sector is available so difference between different income groups is very big. Mostly DB Major issue * S2P previously is called State Earnings Related pension Scheme (SERPS)

47 II. System characteristics: general
UK II. System characteristics: general Four tiers pension systems: State social security benefits for pensioners, which consist of a basic flat rate state retirement pension and a state earnings related pension scheme (SERPS) Occupational pension schemes, offered by employers Third pillar pension schemes established by private insurance companies Underpinning all the above, a state minimum guarantee, which any pensioner will be topped up to by the state if his or her pension income falls below the minimum. Challenge: Growth in income inequality among pensioners, due to Too many people have difficulty adding on to their flat rate basic state old age pension SERPS does not fundamentally solve the problems that low wage earners ending up with small pensions Occupational and private pensions have tended to benefit the better off most Government solution: To making savings during the career more desirable and possible, and to protect those who cannot save because of low earnings or other circumstances with a "State Second Pension" (S2P) The S2P will provide more generous additional pensions for low and moderate earners, certain careers and people with a long-term illness or disability. 2003 the existing Minimum Income Guarantee (MIG) for pensioners, available to those whose total income falls below a level set each year by Parliament, will be replaced by the "pension credit" which should provide extra help to the poorest pensioners and reward those with low or modest incomes (for example from occupational pension schemes). The cost associated with the new measures will have minimum increase on pension spendings Taxation of pensioners: A progressive income tax structure applies to all pensioners. A single person under 65 has an income tax allowance of GBP 4,615 per year in 2002 – 03 Age 65 – 74 years old, GBP 6,100 income tax allowance per year Age 75 plus, GBP 6,370 income tax allowance per year If total income exceeds GBP 17,900, additional allowances are withdrawn at 50% of the expenses

48 II. System characteristics – pillar I, state pension
UK II. System characteristics – pillar I, state pension 3 components: Basic State Pension: Flat rate payment Full benefits only applicable for 44 years contribution Basic pension for a single person is GBP79.60 per week in The amount is set annually and consumer price indexed. State Second Pension (S2P): Introduced in 2002, to replace the old state earnings related pension scheme Aim is to provide a more generous scheme for low and moderate income group S2P is for employee only, a quasi-occupational system Ability to contract out 87% scheme were contract out If opt for contract out, employee national insurance contribution drop by 1.6%, for employer the rate drop by 3.5% Lower contribution to the national insurance means lower PAYG payment Pension credit: Means tested benefit for pensioners , only meant for pensioners without other adequate sources of income or assets. Guaranteed minimum level is GBP per week for a single person Key issue: State pension become less generous: 1998 / 1999, replacement ratio for man is 34% for a full social security contributions and 37% for worman It declined to 25 – 28% in 2030 “Savings gap” is rising

49 UK II. System characteristics: pillar III – occupational private sector pension (1/4) Four type of schemes Occupational salary related (employer sponsored DB scheme) Occupational money purchase (employer sponsored DC scheme) Group personal pension Individual personal pension Low participation 11.3 million employees out of 25.6 million population in work did not contribute to any private pension scheme (See following slide for reference) Shift from DB to DC Active membership of DB scheme has fallen by 60% since 1995 In addition, a small but increasing % of scheme are now closed to benefit accruals for existing members (DB) Average level of pension provision on a continuous decline Contribution level at DB: 16 – 20% vs DC: 7 – 11% Pension protection fund established to provide guarantees retirement payment in an event of bankruptcy Legal contract is in between individual and insurance pension providers

50 UK II. System characteristics: pillar III – occupational private sector pension (2/4) Characteristics of occupational pension schemes Non-mandatory contribution However, most large companies have pension schemes Membership in mid-2000 is: 10.1 million, 5.7 million in private sector 4.5 million in public sector The fall in private sector has been significant due to number of employees working in the private sector has been increasing, but the membership has been declined from 6.2 million in 1995 to 5.7 million in 2002 Since 2001, mandatory for employers with 5 or more employees to offer stakeholder pension scheme Employer contribution is not required Take-up has been slow till now Traditional schemes have been DB, guaranteed level related to final pensionable salary 90%, or 4.6 million out of 5.7 million members are in DB scheme in 2000 However, a strong tendency shifting from DB to DC since 2000, as an effort from employer to: Contain costs and risks Funding difficulties after the downturn of the equity market Accounting issues Longevity risk no longer bearable To date, 36% DB plans are closed for new entrants, DC plans instead If DC, contribution is much lowered (from 16% - 20% to 7% - 11%)

51 UK II. System characteristics: pillar III – occupational private sector pension (3/4) Tax rules (to be implemented in April 2006) A universal lifetime allowance on aggregate value of tax favourable benefits, Plus a universal maximum accrual contribution in any year The lifetime allowance at GBP 1.5 million and annual allowance at GBP 215,000 Any excess will be levied with 40% income tax No limit on tax relief on employer contribution Personal contributions will get tax relief up to 100% of earnings or on a gross contribution of up to GBP 3,600 per year Also, early withdraw can begin between age 50 and 75 Fund must be externally funded to gain maximum tax advantage Insurance or pension fund can administered the fund

52 UK II. System characteristics: pillar III – occupational private sector pension (4/4) Pension funds and insurance schemes are set up under trust law as separate legal entity and the legislation for both is similar Most large companies sponsor their own pension plans Industry wide pension plans not common Small employers favour insurance schemes Large companies generally use self administered funds without using insurance, although lump sum death in service benefits are usually insured Pension funds (self- administered plan) Obligatory to appoint investment manager and a custodian Investment manager is restricted that has to be authorised under the Financial Services Act 1986 Formally appointed by trustees 6% manages pension fund fully in-house Tax treatment Tax relief for employees are 15% of income, if the plan is tax qualified Insurance schemes An employee can establish individually with an external providers a pension plan, in the form of annuity or other type of insurance products It can also be a vehicle to contract out S2P Group contact is on the rise due to flexibility and cost effectiveness

53 II. System characteristics – pillar III, individual private pensions
UK II. System characteristics – pillar III, individual private pensions Personal pension plans, introduced in 1988 Majority sold by insurance companies Bank, building societies and other financial institutions can also provide the plans, but remain small More investment choice with personal pension plans 25% male and 17% female fully time employees have personal pension plans Benefits is based on DC principal Upon retirement, 25% lump sum tax free withdraw, remaining balance is used to purchase an annuity Benefits are taxed as income Stakeholder pensions Cheap, flexible and can be held as a company pension or personal pension Charges are caped at 1% per annum of the value of each members’ fund Member are able to transfer into and out of the scheme at any time and to stop and restart contribution payments without additional costs or penalties No guaranteed minimum benefits, entirely DC approach Withdraw as of age 50 25% tax free lump sum withdraw, the balance is to purchase annuity The scheme is run by trustees or scheme managers who are responsible for determining the investment options and are authorised by Financial Services Authority

54 III. Investment guidelines
UK III. Investment guidelines Trustee responsible for pension fund investment Trustee allow prudent man rule “A fiduciary must discharge his / her duties with the care, skill, prudence and diligence that a prudent person acting in a like capacity would use in the conduct of an enterprise of like character and aims” Implication to the pension fund investment “Trust” function separates pension fund assets from “other monies” Provide legal obligation to seek to minimize potential divergence of interest in relationships where one party is particularly vulnerably to another Prudent man rule is based on the UK common law Trust is to perform due diligence when it comes to pension fund selection No restrictions on asset allocation or off shore investment As a result, the traditional equity exposure close to 70% of total pension fund assets Minimum funding required for occupational DB plan, largely follow European Pension Fund Directive – statutory funding objective to cover technical provisions A pension bill is expected to pass: Requires trustees and employers to agree on a funding strategy appropriate for their circumstance However, this will subject to satisfying the European Pension Fund Directive

55 IV. Regulation and supervision
UK IV. Regulation and supervision Pension regulator formed on April 6, 2005, former regulatory body is Occupational Pension Regulatory Authority Statutory objectives: To protect member benefits To promote good administration To reduce risk of situations that may lead to claims of compensation from pension protection fund Responsibility: Trustee, administrators, employers, Investing schemes through data collection schemes, including details of membership, sponsoring employers, trustees, advisers, administration, funding and investment. provide practical guidelines for trustees, employers, administrators and others on complying with the requirements of pensions law; and set out the standards of conduct and practice that we expect. Proactive approach on risk management: inadequate funding; incomplete or inaccurate record-keeping; lack of knowledge or understanding on the part of trustees about their role and duties; or possible dishonesty or fraud.

56 I. Sweden Pension System compared to World Bank (summary 1/2)
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) Sweden I III STATE II MANDATORY VOLUNTARY Pension System Pension reform introduced in 1999, applies to people aged 45 or under at the time of reform 2 components: PAYG elements and pre-funded elements Total 18.5% contribution, mandatory. 16% contribution to notional account 2.5% to individual DC Notional account is indexed every year. Contribution is used to pay current retirees benefit (PAYG elements) Annuity payout is required upon retirement Guarantee pension is provided by the government at rate of 33% of average earnings. Voluntary contribution, but has universe coverage - pension plan based on collective agreement between employers and Unions. Two different schemes: White collar workers (ITP), mostly DB schemes Complementary occupational pension (ITPK) – DC plans above certain ceiling Part that is DC plan: 13,4% of salary Blue collar workers (AMF), DC scheme and offers employees some degree of investment choice DC plan: 3.5% of salary Managed by banks and insurance companies Administered by AMF central Major Issues Payout is depending on years active in working force. Over 700 type of funds available for individual to chose for the investment of 2.5% contribution – too complicated Notional DC fund 16% of earnings, the concept of notional accounts means that the PAYGO character is retained, however the size of contributions is registered on individual account

57 I. Sweden Pension System compared to World Bank (summary 2/2)
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) Sweden I III STATE II MANDATORY VOLUNTARY Pension System Pension reform introduced in 1999, applies to people aged 45 or under at the time of reform 2 components: PAYG elements and pre-funded elements Total 18.5% contribution, mandatory. 16% contribution to notional account 2.5% to individual DC Notional account is indexed every year. Contribution is used to pay current retirees benefit (PAYG elements) Annuity payout is required upon retirement Guarantee pension is provided by the government at rate of 33% of average earnings. Private pension plan is provided by insurance, bank or a similar institution Tax incentive provided for pension contribution €2,178 per annum Higher income group may able to contribute up to 5% of salary, max €4,356 per annum Age 55 withdraw is possible Salary reduction schemes gain importance over the last years Tax effective as no tax is payable on contribution – regardless of the amount Major Issues Payout is depending on years active in working force. Over 700 type of funds available for individual to chose for the investment of 2.5% contribution – too complicated Notional DC fund 16% of earnings, the concept of notional accounts means that the PAYGO character is retained, however the size of contributions is registered on individual account

58 II. System characteristics: the reform
Sweden II. System characteristics: the reform Faced by largely the same demographic challenges as other OECD countries, Sweden opted in 1992/1994 for a radical reform of its national old-age pension system, a process supported by five parties and some 85% of members of Parliament. In effect, Sweden moved from a traditional income related defined-benefit system, to two types of defined-contribution systems. The old system was financed more or less on a pay-as you-go basis. In the new system, an individual will put 2.5% contribution into an individual financial account under the financial defined-contribution system (FDC), another 16% of pensionable income is on a notional account and the real money will be channelled into the new pay-as-you-go system. Financial accounts are managed by a variety of private funds chosen by the individual. The equivalent of 16% of each individual’s annual pensionable income will be credited yearly to his or her notional account under the Notional Defined Contribution System (NIC). The corresponding amount is transferred on monthly installments to the system’s Buffer Fund, similar to the Trust Fund of the United States’ federal pension system, which finances pension payments. Recently significant liberalisation has been introduced in the investment rules for the funds, 70% of which can now be invested in equities. The new system has no formal age of retirement. Pension credits will always be earned and added to the notional (as well as financial) accounts if the individual has pensionable income, regardless of age. Pension credits are given for all social insurance benefits in the nature of income replacement, such as sickness, unemployment, disability, and maternity/paternity benefits. In addition pension credits will also be given for some "activities" such as childcare years, university studies and compulsory national service. Pensions from the pay-as-you go-system are calculated at the time of retirement by dividing the notional-account balance by a life expectancy at retirement. Those with insufficient contributions throughout their careers will be entitled to a minimum guaranteed pension, paid for by general taxes. The guaranteed-pension is indexed by the change in the Consumer Price Index. Because of the commitment to keep the contribution rate fixed, the new system will accommodate demographic and economic developments by adjusting the value of the pensions. The automatic balance mechanism legislation, the final piece of pension reform legislation adopted in May 2001, ensures this. The mechanism provides for a switch in indexation basis for pensions from growth in the average income to the internal rate of return of the NDC system if liabilities in the system should exceed assets. The pension level is automatically re-established, as is the growth in average income as the basis of indexation, as soon as this is possible without undermining the financial balance of the system.

59 II. System characteristics: pillar III – occupational pension system
Sweden II. System characteristics: pillar III – occupational pension system Occupational pension covers almost all employees in the country Conditions are determined by nation wide collective labour agreement 4 pension schemes ITP – white collar workers, 1.5 million employees, DB mainly, managed by insurance company Alecta SAF-LO – blue collar workers, 1.8 million employees, DC mainly (established in 1996), managed by AMF Civil servants plan: 700,000 employees, DB Employees from municipalities: 1 million employees, DC mainly 3 funding methods: Pension fund: DB, although risk benefits are fully insured (majority of ITP plans are using pension fund) Book – reserves: DB, same as pension fund, risk benefits are insured Pension insurance: mostly DC, common in small enterprises and dominating occupational pension plans for blue collar workers Company segmentation: Small enterprises uses pension insurance, hence DC scheme Large companies participate in ITP plans, usually use book reserve in combination with credit insurance for securing pension liabilities Pension foundations are increasingly popular among large companies Tax Employer contribution tax deductible up to 35% of the plan member’s salary A ceiling of 10 times the price base amount applies - € 43,556 in 2005 Employer contribution are not considered taxable income to the employee Benefits paid from occupational pension schemes are taxed as ordinary income Investment income is taxed – average interest on government loans in the preceding year to determine the investment income

60 II. System characteristics: pillar III - administration
Sweden II. System characteristics: pillar III - administration Pension funds – commonly used in ITP plans and other DB plans Set up as a separate legal entity but are affiliated with the company Pension funds have to participate in credit insurance which guarantees the pension payments Pension insurance – group insurance contracts Insurance contracts can be used for all types of plans ITP, SAF-LO and voluntary plans However, ITP and SAF-LO can only be administered by Alecta and AMF respectively Alecta responsible for the administration, collection, distribution and investment of the ITP plans AMF administers, collects and distributes premium to investment vehicle like bank or insurance company, chosen by the employees (if no decision made by employees, assets remain in AMF) Endowment insurance contracts - can be used, seen as a legal form for securing a pension promise if the contract is pledged to the employee. Pension insurance is the most common form for small enterprises and is dominate form for blue-collar workers Book reserves – only applicable to DB scheme In case pension scheme under ITP plan is using book reserve method: - Mandatory to participate in credit insurance system - FPG (re-insurance) Pension payment and calculation of pension liabilities is done by a special institution - PRI Insurance companies hold up to 60% of pension assets

61 III. Investment guidelines
Sweden III. Investment guidelines NOT required by law to appoint investment manager External asset managers become increasingly a market practice No specific investment restrictions besides the Prudent Person Rule and solvency margin in case no re-insurance (FPG) Funds can invest up to 80% of assets in equities

62 IV. Regulation and supervision
Sweden IV. Regulation and supervision Finansinspektionen (FI) is the primary supervisory agency for all financial institutions, including friendly societies, but excluding the pension foundations Objective of Finansinspektionen is “promotion of financial stability and efficiency in the financial sector and promotion of consumer protection goals.” Pension foundations are monitored by the parties to the agreements. Counties’ administrative boards may supervise pension foundations according to the region where they are located. Since there are twenty four counties in Sweden, the supervision rules and practices can be significantly different. A general legal framework is the Act: safeguarding of pension obligations Legal framework to require the pension funds to buy credit insurance system Credit insurance is provided by FPG FPG guarantees pension payment in case an employer become insolvent 0.2% of pension liabilities is paid to FPG for insurance premium No legal requirements regarding minimum funding (solvency margin) Pension liabilities are re-insured through FPG

63 V. Macro economic impact - the reform helped the economy
Sweden V. Macro economic impact - the reform helped the economy Budgetary savings. Partial privatization, combined with reform of the government-run, pay-as-you-go portion of the retirement system, is expected to result in a fiscally sustainable system. Future expenditures will be significantly lower, protecting Swedes from higher taxes, higher spending, and large deficits. Higher retirement income. The ability to invest privately over a working lifetime will allow Swedish workers to benefit from compounding returns. The average blue-collar worker, for instance, should enjoy 40 percent more old-age income. Swedish retirees will have a safer and more comfortable retirement. Economic growth. By reducing the payroll tax rate and creating a direct link between lifetime income and pension benefits, Swedish pension reform will increase incentives to work. Moreover, the shift to a funded system will boost national savings, thus providing capital for future growth.

64 V. Macro economic impact: benefits of the new system
Sweden V. Macro economic impact: benefits of the new system Greater incentive to work. In the new system, pensions are determined by lifetime income, which means that each year of gainful employment will have a positive impact on future pension benefits. Because pension rights will be recorded in real and notional individual accounts, workers will have much less reason to hide, shelter, and underreport their income. The new system will also discourage workers from dropping out of the labor force. Increased national savings. Replacing a tax-and-transfer entitlement system with a partially funded pension system will increase national savings, particularly as the new system matures. Some recent empirical evidence from Swedish household sector data, for instance, indicates that reform will result in a net increase in savings. Flexible retirement age. The new system neither penalizes nor rewards early retirement. Workers can retire as early as age 61 or stay in the workforce as long as they choose. Early retirement no longer burdens taxpayers since workers who choose to retire early do so in exchange for a smaller pension. Moreover, the new system does not penalize workers who remain in the workforce since they receive a larger pension or, if they so choose, earn income and collect a smaller pension at the same time. These benefits are possible because a worker’s notional account becomes an annuity based on life expectancy at the time of retirement. Since the annuities do not reflect differences in life expectancies for men and women, however, women receive more from the new system than men. Lower taxes and less government spending. The new pension system will yield large fiscal benefits over time. The Swedish government calculated that the payroll tax rate necessary in order to perpetuate the old system would have reached 36 percent by This tax rate— and the level of government spending implied by such a tax burden—would have been an enormous weight on the Swedish economy. Even the 16 percent tax in the new system is too high, though the creation of notional accounts minimizes the adverse impact on labor supply.

65 I. Australia Pension System compared to World Bank (summary)
WB Publicly financed schemes, social security schemes Employer sponsored schemes or private mandatory programs Additional voluntary arrangements + individual retirement income Australia I III STATE II MANDATORY VOLUNTARY Pension System PAYG - “Age pension”, universal, means test benefit payment Means tested: in accordance with income or assets, whichever determines the lower pension rate Benefit payment from general revenue (government tax income) Retirement age: man – 65 years of age, woman – 61.5 Compulsory, earnings related Superannuation guarantee Established since 1992 As of July 2002, minimum contribution level 9%, paid by employer (phased approach from 1992 – 2002) Contribution tax deductible Fully funded individual account, defined contribution Few investment restrictions No early withdraw Retirement age: 55 (60 by 2025) Choice of lump sum, pension, annuity with tax transfer incentive All employees aged 18 – 65 Self employed not covered Voluntary member superannuation contributions Tax preferred Contribution usually made by members of superannuation funds, above the compulsory superannuation contribution or, a person is not eligible for compulsory superannuation Key characteristics All superannuation funds accept both mandatory and voluntary contributions Fund income (contribution and earnings) and benefits taxed at concessionary rates Tax: employer contribution tax deductible, superannuation funds taxed at 15%, benefits are taxed depend on type of benefit and its size

66 II. System characteristics: introduction of superannuation guarantee
Australia II. System characteristics: introduction of superannuation guarantee Before reform 2 pillars: Age pension, means tested Voluntary retirement savings 1990: Superannuation guarantee introduced Mandatory, employment related

67 II. System characteristics: Australia superannuation industry
Superannuation funds operate as trusts and managed by boards of trustees Corporate funds Sponsored by a single or group of related employers Membership is restricted to employees of the employer If fund rules allowed, contribution may also be made on behalf of the employee’s spouse or partner Represent 6% individual members Approximately 13% of the assets in the market Industry funds Members from a large number of employers across a single industry Represent 30% of individual members 10% of total assets Public sector fund Employer sponsor is a government agency Or, business enterprise that is majority government owned Represent 12% individual members Approx. 20% of total assets Retail funds Public offered superannuation funds, include master trust* Members are either self employed or additional voluntary contribution by members of other employment based superannuation arrangements Represent 50% of individual members 34% of total assets Small funds < 5 members, mostly family owned company with family members as trustee Represent 2% of individual members * Non related individuals or companies to operate superannuation under a single trust deed

68 II. System characteristics: Role of trusteeship and service providers
Australia II. System characteristics: Role of trusteeship and service providers All plan assets must be held in trust “Trust” ensures pension scheme assets are separated from employer Trustee can be a person or superannuation fund but are separated from the pension scheme Trustee may engage or authorise service providers to act on their behalf Service providers include: external fund administrator, actuaries, lawyers and investment managers Bank, life insurance and investment management companies may be appointed as service providers offering investment service, custodianship of assets, administration of records etc. Universal licensing will be issued in 2 – 3 years Current trustee licensing procedure expected to be changed

69 III. Investment guidelines
Australia III. Investment guidelines Investment strategy follows “prudent man” principal No limit on asset category / quantitative rules Ie., asset allocation in bonds, deposits or equity No limit on minimum diversification requirement No limit on foreign investments No limit on ownership concentration Only restriction: loans or financial assistance to members not permitted Asset allocation, as % of total assets, reference Sep. 2004 Cash & deposits: 8% Loans: 4% Interest bearing securities: 16% Equities and units in trusts: 49% Land and buildings: 5% Overseas: 17% Other: 2%

70 IV. Regulation and supervision
Australia IV. Regulation and supervision Regulation principal: prudent man No rate of return or asset requirements Australian Prudential Regulation Authority (APRA) Integrated financial sector regulatory body Primary responsibility: prudential regulation of superannuation, insurance and banking Administers superannuation industry supervision act (SIS Act) SIS Act is principal legislation relating to prudent management of superannuation entities Supervisory approach: Risk based (through internal risk rating), consultative and in line with international practices Recognize management and boards are primary responsible for financial solutions Australian Securities and Investment Commission (ASIC) Responsible for market integrity and consumer protection Responsibility across the financial system, including areas of superannuation Australian Tax Office (ATO) Responsible for regulation of self-managed superannuation funds General: Information sharing among the parties APRA, ASIC and ATO is regulated through Memoranda of Understanding (MOU) Objective of the MOU is to reduce duplication and compliance costs for industry

71 Table of contents I II III The World Bank model
Leading role pension models compared to the World Bank model: Chile US Poland** Netherlands UK Sweden Australia Main characteristics of other country’s pension systems II Country pension system summary System characteristics Investment guideline Regulation and supervision Macro economic impact * System pros and cons** III Asia China Korea Europe Hungary Czech Republic Slovak Republic Romania Greece Ukraine Russia Latin America Mexico Brazil Peru * Only applicable to countries recently reformed **Only applicable to *marked countries

72 Hungary Pension System compared to World Bank
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) HUNGARY I II III STATE MANDATORY VOLUNTARY Pension System PAYG Covers the entire labour force 18% employer contribution to PAYG 8.5% employee contribution to PAYG (However, in certain circumstance, 0.5% ee contribution to PAYG; 8% to Pillar II) Benefit: replacement ratio: first pension/final pay may vary between 25%-80% Mandatory occupational pension, individual account. Free choice of the employee Half of the workforce is covered. Career starters are obliged to join Remark: Single investment portfolio per fund; Not really 2nd pillar, a recent study of Pragma Consulting called this (along with the Polish system) 1st pillar bis. Voluntary pension funds, individual retirement savings Tax incentive paid either by the employee or the employee Employer should treat employees equal by providing equal amounts or equal percentage of the pay as a contribution. Employees are free to chose between funds, employer can not restrict, however informally does. One pension fund can offer different investment portfolios Major Issues Strong degression in the system, including a cap on income forming basis of the pension rights (This will disapper until 2012 or 2020) Further decline of the average replacement ratio II AND III Alliance of major funds is lobbying for change: Funds legal structure (self governance) is not appropriate for funds with several hundred thousands members. Multinationals run reputation risk without formal controll and ownership. Clients can switch fund too frequently (6 months) following short term yield changes, supported by a very low cap on exit fees. We would prefer being able to tie the client to the fund (on a voluntary basis) e.g. by offerring lower fees. Recommenda tions Lobby for legislation, supervision change: MPF investment portfolios, administration ease, ownership – on going along with the competitors Lobby for more public / private partnership: expect a raise in 8%/18.5% in favour of MPF. MPF is a more important market than VPF (faster growth, more stable income) Investment regime – not prohibiting at this stage

73 Czech Pension System compared to World Bank
WB Publicly financed schemes, social security schemes Employer sponsored schemes or private mandatory programs Additional voluntary arrangements + individual retirement income Czech I STATE II III MANDATORY VOLUNTARY Pension System Two part system: Flat rate basic amount for all Earnings related portion related to employment PAYGO mechanism Contribution 21,0% by employer 7,0% by employee Non – existence in our definition Voluntary DC pension funds by employer / ee and state (minimum sponsoring). AuM: € 3 bln Also voluntary pension arranged by insurance companies. AuM € 1.5 bln >50% workforce participated 25% employee have additional contribution by employer Tax incentive Major Issues No political consensus on future pension system Low fertility rate Funding for transitional period uncertain Government election ahead, no major decision to be made prior election Highly consolidated market: 12 pension fund owned by 10 groups Too low contribution: benefit is less than3% of avg. gross wage Recommenda tions Advice government to establish mandatory pillar II business with meaningful tax incentive Increase contribution rate, possibly introduce mandatory scheme Acquire extra planholders (grow from 25% to40%) for additional contribution by employer Increase tax incentives for employers and direct subsidies for individuals Product / investment solution

74 Slovak Pension System compared to World Bank
WB Publicly financed schemes, social security schemes Employer sponsored schemes or private mandatory programs Additional voluntary arrangements + individual retirement income Slovak I III STATE II MANDATORY VOLUNTARY Pension System PAYG, DB 28.5% mandatory contribution After reform, individual can chose contribution rate to be reduced to 19.5% Current pension expenditure: 7% of GDP Replacement ratio 45.2% (net pension / gross wage) Mandatory contribution for all new employees entering work force; Voluntary for people in current workforce Individual account with 9% contribution, with minimum 10 years commitment Voluntary pension plan (DDP) AuM < 1% GDP Major Issues Ageing population Sustainability of quite generous benefits of I. pillar after reform Good participation rate To be transformed to align with second pillar Recommenda tions Develop the third pillar more extensively

75 Romania Pension System compared to World Bank
WB Publicly financed schemes, social security schemes Employer sponsored schemes or private mandatory programs Additional voluntary arrangements + individual retirement income Romania I STATE II III MANDATORY VOLUNTARY Pension System PAYG state pension Currently already 10% of GDP Non existent in practice Current new law approved in 2004 not sufficiently worked out yet; changes expected to be made by the new government Occupational pension law was issued in 2004, but not implemented yet Law in process of ammendment, to be implemented in 2006 with tax benefits; Very small at the moment, only pension products labeled like this and offered by life insurance co. Major Issues Pensions unfundable Looking into pension reform Current drafts very unclear High inflation and pension not indexed according to the cost of living – retired persons most affected Following Polish model but contributions are too low from 2% to 6% in 8 years The categories of eligible persons and the low contribution make it unattractive for business; changes expected Increase incentives, currently there are not deductible for the individuals and dis-incentivised for the employer; State sector institutions and companies not allowed to have pension schemes Recommenda tions Use copies of other pension reforms Use co operation between public and private sector to arrange a optimal system Set fees at a rate that is acceptable for private parties to invest in Romania Increase the contribution, increase the potential eligible persons for the private system Tax incentives are key Review the eligible companies that can create occupational pension schemes; Leave it to the market forces the level of fees

76 Greece Pension System compared to World Bank
WB Publicly financed schemes, social security schemes Employer sponsored schemes or private mandatory programs Additional voluntary arrangements + individual retirement income Greece I STATE II III MANDATORY VOLUNTARY Pension System Very diffuse first pillar, very fragmented and financially unbalanced Based on occupational lines Three tiers all based on PAYGO Total spending already 12,5% of GDP Very high replacement ratio of 107% Non existing Very low number of AUM Most payouts are in lump sum Major Issues Totally unaffordable and unsustainable system Unclear system No big tax relief Recommenda tions Huge reform needed Inefficient systems should be improved Improve benefits Payout in annuities

77 Russian Pension System compared to World Bank
WB Publicly financed schemes, social security schemes Employer sponsored schemes or private mandatory programs Additional voluntary arrangements + individual retirement income Russia I STATE II III MANDATORY VOLUNTARY Pension System PAYGO system Large coverage Labor pensions Social pensions 1996: individual personified accounts introduced in State PF 2003: Choice of opting out to Asset Management Company 2004: Choice of opting out to Non-state Pension Fund Non state pension funds; life insurance NSPF through employer, with possibility of joint financing and additional individual contributions Major Issues Non sustainable Very low pensions; non indexed Flawed introduction of monetization of pension benefits led to up rise amongst population Reforms needed Still relatively new concept and as a result lack of awareness So far only about 8-10% of eligible population has opted out No awareness campaign; practical difficulties for opting out Rules of the game constantly changing Recommenda tions Higher pension age Unambiguous political support for pension reforms Awareness campaign for population Create level playing field for all providers Abolish social security tax on pension contributions Introduce further tax incentives for individuals More stable legal and fiscal environment; more predictable and professional supervision

78 Ukraine Pension System compared to World Bank
WB Publicly financed schemes, social security schemes Employer sponsored schemes or private mandatory programs Additional voluntary arrangements + individual retirement income Ukraine I STATE II III MANDATORY VOLUNTARY Pension System PAYGO system effective since 2004 Principles of solidarity and subsidization -everyone has to contribute to Pension Fund of Ukraine (PFU) 34% of wage fund Old age pensions, disability pensions, survivor’s pensions Active from January 1, 2007 Personal accounts 7% of wage contribution Payout lump sums or annuities Between 2007/2018 managed by PFU and asset management companies. In 2018 pension funds get access to management Effective since January 1, 2004 Open funds, corporate funds, professional funds; voluntary participation - employers/ employees Tax benefits The banks participation declared via accumulation accounts Major Issues The pension level remains inadequate even after increase A lot of privileges in contributions payment to the PFU from different economy sectors PFU is non sustainable Reforms needed The issue of privileged pension is not resolved Criteria for the asset management companies is the focus for legislative controversy Totally new concept: market just started up Legislative contradictions exist Problems with investments of pension assets Recommenda tions Make it attractive for private parties with international experience to enter the market Bring related effective laws in the line with current pension legislation Higher pension age Reduce privileges in payment of contributions to PFU; set up allocations within State Budget expenditures to compensate for privileges; ensure complete separation of sources for funds Resolve legislative problems/contradictions Launch ad-hoc propaganda of Non State Pension System Develop reliable investment options for pension assets * Laws still have to be implemented by bylaws

79 Table of contents I II III The World Bank model
Leading role pension models compared to the World Bank model: Chile US Poland** Netherlands UK Sweden Australia Main characteristics of other country’s pension systems II Country pension system summary System characteristics Investment guideline Regulation and supervision Macro economic impact * System pros and cons** III Asia China Korea Europe Hungary Czech Republic Slovak Republic Romania Greece Ukraine Russia Latin America Mexico Brazil Peru * Only applicable to countries recently reformed **Only applicable to *marked countries

80 Mexico Pension System compared to World Bank
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) MEXICO I II III STATE MANDATORY VOLUNTARY Pension System PAYG Facing out: Employees before ‘92 who did not change to new individualized system (SAR & AFORE) Civil servants (ISSTE) -- although currently issuing law to transfer them to Afore (estimation 2 mln civil servants) AFORES & SAR System Mandatory contribution of 6.5% salary and possibility of voluntary contributions Offered via large agent network AuM: 46 bln Euro Participants: 32 mln Private sector employees: DB driver = Termination Indemnity (11,6 bln Euro*) Some additional DC plans (mainly multinationals and corporate 500+). Mostly as hybrid system (1,45 bln E) Individuals: Voluntary contribution to AFORE Other individually acquired plans / savings Major Issues Un-funded If ISSTE civil servants are transferred, PAYG will be completely facing out in due time Although fully funded, not sufficient mandatory coverage. ‘Unnatural fit” between privately run system (high profit), mandatory by Gov. (lowering costs) >overregulated Informal economy Providers fee structure Transfers war Private sector employees Lack of regulation enforcing retirement age (DB driver = Termination Indemnity) Lump sum at pay out Individuals Low awareness and information No tax incentives Recommenda tions Finally transfer of ISSTE employees to Afore system Enlarge the coverage and increase the investment range abroad Incentivise formal economy Set retirement age Mandatory contributions for independent workers Private sector employees Termination indemnity should not be retirement-termination Incentivise via taxes Individuals Tax incentives Product and investment options

81 Brazil Pension System compared to World Bank
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) BRAZIL I STATE II III MANDATORY VOLUNTARY Pension System PAYG Mandatory, minimum benefit defined by constitution Large deficit caused by imbalance and ageing of population Civil servants’ pension unified with private sector employees and so capped recently Private sector employees Non-existing, government not interested in discussion so far Closed corporate pension funds, open corp. pension plans & individual plans Short-term saving so far (change to long-term products; recently proposed new product family should be in place as of 2005) Tax incentives available Dominated by banks Major Issues In-transparent system mixing different social&health payments together Informal economy Not a feeling for acute changes at the moment Not in place Crucial for overall pension reform Brings substantial assets for boosting national economy Short-term products only Heavily regulated including ban on penalties for early withdrawal Transformation of the closed pension funds to the open plans Outsource plans to professional providers Recommenda tions Step-by-step change to be started Differentiate clearly the obligation (now mixed in one social system) Increase of transparency and move to fully funded system in the long-term Incentivise formal economy Make the system less generous for the state civil servants Introduce this pillar ! The Vision: “Mandatory scheme ran by professional pension providers and asset mangers with long term commitment” Active participation in formulation of the second pillar Individual & Corporate Introduce truly long-term products while keeping tax incentives for individuals as well as for corporate sponsors Product options Investment options

82 Peru Pension System compared to World Bank
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) PERU I II III STATE MANDATORY VOLUNTARY Pension System National System competes with Private System Public system: PAYGO, mandatory (if you don’t enter to private system), 13% employees contribution, lump sum payment at retirement age. State guarantee minimum pension: S/ 415 Private sector (AFP): new industry of pension fund managers, strictly regulated by State, mandatory (if don´t enter public system), 11.19% monthly fees contribution. Not maximum top-cap for contributions increase final pension for affiliate Fully funded Only 3.5mln of the 12mln economically active population is affiliated to an AFP Other voluntary pension arrangements Could be added as voluntary contributions to the AFP, although will imply restrictions on withdrawals Very small No tax incentives Lacks to complement benefits from the mandatory pillars Major Issues Un-funded In Peru exist an elderly population which misses social assistance benefits. (In 2003 only 26% of elderly were receiving pensions, WB recommends the establishment of a “Zero Pillar” Broken system Unfair and bias pensions High proportion of National Budget used in pension payments Not sufficient coverage Political pressure to reduce prices Multiple Pensions Funds New transfer regulation Not tax benefits for employers and employees New player in system. Low awareness and information No tax benefits Recommenda tions In the short run, reduce gap between different pension regimes (20530 and ) In the short run, reduce resources directed to pensions In the long run, close public system for < 45 years in order to switch from pay-as-you-go to define contribution and stop entrance of new labour force In the long run, commission should be based as percentage of AUM Tax incentives in order to increase contributions rates Tax incentives for companies Tax incentives for individuals Spread private pension system benefits to all the labour force Increase awareness and information Product options Investment options Tax benefits (EET)

83 Table of contents I II III The World Bank model
Leading role pension models compared to the World Bank model: Chile US Poland** Netherlands UK Sweden Australia Main characteristics of other country’s pension systems II Country pension system summary System characteristics Investment guideline Regulation and supervision Macro economic impact * System pros and cons** III Asia China Korea Europe Hungary Czech Republic Slovak Republic Romania Greece Ukraine Russia Latin America Mexico Brazil Peru * Only applicable to countries recently reformed **Only applicable to *marked countries

84 China Pension System compared to World Bank
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) CHINA STATE I III II MANDATORY VOLUNTARY Pension System Basic old age pension consists of 2 components: Ia. Social pool pension – Employer contributes 15% (in some cases 17%) to finance current retirees. Defined benefit at 20% of (local) average wage 1b. Individual account – Employer contributes 5% (in some cases 3%) and employee contributes another 6% - 8% (8% applicable if employer contribution is 3%). Benefit based on 11% contribution Corporate annuity is voluntary, but perceived as 2 pillar corporate pension. Legislation announced, implementation is scheduled in 2006 4 types of players: trustee, custodian, plan administrator and asset manager Employer receives 4% (up to 10%, depend on the region and provincial / municipality decision) tax benefit on pension contribution Individual receives no tax benefit Voluntary Personal savings (life annuity) small Major Issues Rapid aging population created a bigger pension gap as 15% of employer contribution was not enough to pay 20% at retirement Life expectancy increased from 49 years in 1949 to 71 years now. In urban area, the rate is even higher One child policy Due to insufficient funding, some of the 1b individual account asse.ts being used to pay off the social pool benefit. As a result, individual account is more of a notional account. Economic inequality (between the rural and urban, or costal and inland) resulted in differences in some regions have better pension funding than other. Hence, pension problem has to be dealt with on regional basis Lack of tax incentives (tax system is not yet in place) Voluntary contribution in a market where pension is still a new concept, this effectively lead to limited subscription Lack of long-term investment instruments complicates participation of commercial life companies (Bank deposit = 2%, max. 10-year duration bonds available, no international investments are allowed) Individual voluntary savings is almost non-existent Low individual awareness

85 Korea 1.) Current Pension System compared to World Bank
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) KOREA I III STATE II MANDATORY VOLUNTARY Pension System National pension scheme, compulsory for all employees (Civil servants, teachers and armed force arranged separately) 9% wage contribution, equally divided er/ee Benefits related to number of years employment and also earnings. Relative generous benefit with currently 60% replacement ratio Retirement age : 60, to be raised to 65 Current NPS funded with a surplus of 140 trillion won, approx. 15% of GDP Retirement allowance system equals to severance pay (ESP) Retirement insurance contract (RI) or trust structure (RT) used to externalise liabilities under ESP Insurance companies have over 90% market share in RI RI do not grow in recent years due to unfavourable accounting standards to employer and weak economic conditions Employer pays all contribution, contribution tax deductible Lump sum or pension benefit at age 55 All financial institutions provide personal pension plans High tax incentive, plan can withdrawal as early as 5th year Major Issues However, demographic developments as well as low return lead to structural imbalance of the funds Unfavourable performance of the fund due to tight investment restrictions - currently part of funds outsourced to int’l fund managers (ING - Kookmin is one of the fund managers) Public lack of confidence in NPS Self employed, account for a quarter of working population, NOT covered by NPS Retirement allowance covers all employees work in companies with 4+ people. However, it represents only 30% of economically active population Benefits used as annual bonus or lump sum payment to meet cash flow needs -> insufficient income for retirement. Benefits NOT meaningful even for members with 35 years contribution and no early withdrawal before age of 55 System severely under funded Companies under funding lead to slow shift to new RPS Premature withdrawal by many people as too favourable tax structure for individuals Fierce competition among financial institutions which erodes margins for service providers Recommendations Structured loan arrangements can help transition (from RAS to RPS)

86 Korea 2.) reformed Pension System compared to World Bank
WB Publicly financed plans, social security plans Employer sponsored plans or private mandatory programs Additional voluntary arrangements (possibly sponsored by Employer) KOREA I III STATE II MANDATORY VOLUNTARY Pension System Same as previous slide 3 different sub-markets exist after ERISA Retirement allowance system Retirement pension system IRA (for job switchers and companies with < 10 employees) Contribution: 8.3% annual salary Benefit: pension payout or lump sum payout (only applicable if member has <10 years contribution) Early withdrawal possible if meets certain criteria, ie., first time house purchasing Tax benefit unclear Same as previous slide Major Issues Too many options (old system remain) Members (employers too) obliged to join a system, but it is up to the member to choose from new or old system Not clear incentive for individual and employer to switch to new retirement pension system


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