Headlines Worldwide Pay and Benefits

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1 Worldwide Pay and Benefits Compiled and written by Towers Perrin Austria Government cuts state pension benefits Employers with operations in Austria may need to review the design of their pensions benefits programmes, following the Austrian government s reforms to its state pensions system. The changes took effect on 1st January, The two key elements of the reforms are listed below. Early retirement will no longer be allowed, except for men born before 1st October, 1952, and women born before 1st October, For this group, the early retirement age will be gradually increased (from age 61.5 for men and 56.5 for women) over the period to 2013, when pensions will be available only at the state retirement age of 65 for men and 60 for women. In addition the reduction for early payment will be increased to 4.2 per cent for each year of early retirement. The amount of pension will be gradually reduced, with the accrual rate going down from 2 per cent to 1.78 per cent by 2009 and the highest 480 months of earnings being used instead of the highest 182 months by Employers whose pension plan takes account of the state retirement benefits will need to consider the impact of the reforms on the design of the plan benefits and may need to make adjustments. Government eases investment targets for pension funds The Austrian government has taken precautionary steps to ensure sponsors of Austrian pension funds, Pensionskassen, do not have to make good shortfalls in investment performance and to help funds continue adhering to an appropriate long-term investment strategy. Pensionskassen are structured as companies and can be formed by insurance companies, banks and company sponsors themselves. Existing legislation requires these pension funds to meet investment performance targets, based on the interest rate of government bonds, over a rolling five-year period. If a fund fails to achieve its target, then the parent company is legally obliged to meet any shortfall. Due to the continuing depressed state of the markets, it was becoming increasing likely that some pension funds would not reach their target. The Finance Ministry amended the Pensionskassen Act 1990 to make the following changes, effective from 26th August, Henry Stewart Publications (2004) Vol. 9, 3, Pensions 275

2 A pension fund does not have to make good the shortfall, provided it has sufficient funds to enable it to continue to make payments in full to retirees. (This replaces the requirement to make additional payments to the insurance reserves in the event of a shortfall.) Pension funds must create a performance guarantee reserve, to provide additional security for beneficiaries. This reserve has to be built up until it reaches 3 per cent of technical provisions (the value of plan liabilities). France Reforms point to changes in employer benefit programmes While the changes to the state pension system in France grabbed the headlines, the legislation passed by the French government in July 2003 contained a number of other important reforms that affect employees benefit packages. The legislation offers a new occupational retirement savings vehicle, discourages company pre-retirement plans and clarifies the social tax treatment of defined benefit plans. The government s intention is to encourage people to work later into life and save for retirement so that the pension system is sustainable for the future. Key elements of the reform package are outlined below. State pension system Employees will have to work longer to be entitled to the full pension. The required social security contribution period will be raised from 40 to 41 years by 2012 and to 41 and three-quarter years by Therefore although the pension will still be available from age 60, a reduction will be applied if the person s contribution record is short of the new contribution period. From 2008, employees entitled to a full pension are guaranteed a pension of at least 85 per cent of the minimum wage. Also by 2008, the rules for public sector workers will be brought into line with those of the private sector. The reforms do not directly affect the compulsory supplementary pension funds, AGIRC and ARRCO, although discussions are being held on reforms of these systems. New retirement savings vehicles A new occupational savings plan, Plan Partenarial d Epargne Salariale Volontaire pour la Retraite (PPESVR) will replace the existing PPESV, which was introduced in It has similar features to the PPESV, but it is essentially different in that it is a retirement savings plan with savings accessible only on retirement, while the PPESV was locked in only for ten years. Accumulated PPESV funds will need to be redirected to the workplace savings plan, Plan d Epargne d Enterprise (PEE) or to the new PPESVR. In addition, a new tax-effective insurance-based savings plan, Plan d Epargne Individuel pour la Retraite (PEIR) is also available for individuals and is targeted at those who do not have access to workplace savings plans. The savings are accessible only at retirement and must be taken in annuity form. Pre-retirement plans To discourage employers from introducing pre-retirement plans (whereby the employer pays a benefit to the employee until retirement age), a new tax of per cent will be levied on contributions to plans established after 27th May, Pensions Vol. 9, 3, Henry Stewart Publications (2004)

3 Retirement indemnities Currently, an employer can force an employee to retire at age 60 if the employee is entitled to a full retirement pension. The employer would then only be required to pay a retirement indemnity instead of the higher termination indemnity. The reform pushes this limit to age 65. Tax on defined benefit plans Beginning 1st April, 2004, employers must pay a new tax on contributions to their defined benefit plans. For book reserve plans, the tax is 6 per cent of pension expense and 12 per cent after With insured plans, the employer must choose by the end of 2003 whether to pay the 6 per cent rate on insurance premiums or 8 per cent on pensions in payment over the annual social security ceiling. Employers will need to consider how these changes affect their benefit programmes and whether to incorporate the new PPESVR to replace any existing PPESV. In addition, the reforms to the government pension system caused national strikes and demonstrations, and employers in France regard it as their obligation to inform and help their employees understand the government s objectives. European Union European Commission presses four countries to end tax discrimination in pensions The EC has taken further action against France,Spain,BelgiumandPortugalin its campaign to stamp out tax discrimination against European-based non-domestic pension funds. The EC considers the practice a violation of EU law guaranteeing freedom to provide services and free movement of workers and capital. The commission has sent formal requests to the four countries to change their legislation, which it considers to be tax-discriminatory. The requests were sent in the form of a reasoned opinion, which is the second stage of EC infringement proceedings. This action follows replies to the EC s earlier requests for information. Although the Spanish government has stated that it intends to change its legislation before the EU pensions directive comes into force in 2005, the EC does not consider this to be sufficient. Likewise, it will not accept the French government s stated intentions to change its legislation because there is no commitment to a timetable. The Belgian government has not provided a definitive reply as to its intentions, and Portugal has asserted a national tax cohesion argument for not changing its position. If the commission does not get satisfactory responses, it could take the countries to the European Court of Justice, as it has already done in the case of Denmark. Japan Government takes steps to spur defined contribution retirement plans Employers in Japan are keeping an eye on moves underway by the government to increase the annual contribution limits applicable to Japanese defined contribution (DC) plans. The scheduled increases and the likely abolition of the cap on money transferred from a defined benefit (DB) plan to form an initial DC plan opening balance are expected to make DC plans more viable for the future. This in turn will provide employers with further additional plan design options to help better meet their employee retirement needs and objectives in Japan. Henry Stewart Publications (2004) Vol. 9, 3, Pensions 277

4 The Tax Committee of the government ruling coalition (the Liberal Democratic Party and the Komei Party) recently approved a 28 per cent increase in the monthly contribution limits to Japanese DC plans. The monthly contribution limit for employers that do not sponsor another funded DB plan will increase to 46,000 from the current limit of 36,000. For employers that do sponsor another funded DB plan, the new limit will increase to 23,000 from the current limit of 18,000. Tied to social security legislation The effective date of the increase is tied to the pending social security reform legislation scheduled to be discussed by the Diet. The legislation, and thus the scheduled increases in DC contribution limits, will not be finalised before 1st October, However, there is some possibility that prolonged debate will delay final government approval until 1st January, 2005, or 1st April, In addition to the increases in contribution limits, it is also very likely that the limits applicable on opening balances when an existing DB plan is converted into a DC plan will be abolished. This is clearly good news because the limits are difficult to communicate and administer, and often resulted in employees having to receive part of their retirement benefit incash (which is taxable as income) at the conversion date. Although the magnitude of the increases in DC contribution limits approved by lawmakers was somewhat disappointing and considerably below the level previously requested by the Ministry of Health, Labour and Welfare, it does represent the first such increase since Japanese DC plans were initiated several years ago. Netherlands Government to scrap early retirement tax breaks In its 2004 budget plans, the Dutch government proposes to scrap tax breaks for early retirement in a bid to encourage older employees to remain in the labour force. While the proposal is part of the strategic policy statement on employee benefits ( Participation, more jobs and less regulation ) adopted in May 2003, it has met a storm of criticism that has forced the government to promise changes. The current proposals take away the current tax deduction that employers receive on their contributions and changes the way that employees are taxed on the benefits. All types of early retirement plans are hit by the proposals. Non-funded voluntary early withdrawal (VUT) plans are widely used to pay a monthly benefit to people who leave their employer before normal retirement age. Under the proposals, these individuals must pay income tax (Box 1 tax) on the total value of all the monthly payments when the first monthly payment is made. The net value of the remaining VUT benefits each year are treated as private assets of the individual and are subject to tax (Box 3 tax) on the notional interest earned each year at a rate set by the government. Some employers fund early retirement benefits through pre-pension plans, paying a temporary pension until the main plan pension starts at the normal retirement age of 65. Some also provide a bridging pension until the government pension commences. In these situations, the employee would be required to pay income tax on the value of the benefits (net of any 278 Pensions Vol. 9, 3, Henry Stewart Publications (2004)

5 employee contributions) as they accrue each year during employment, rather than at retirement. The employee would also pay the Box 3 tax on the notional interest earned on the value of the benefit both before and after early retirement. Even where the main pension plan provides an early retirement pension payable for life, the payments made before normal retirement age of 65 will probably be taxed like a temporary pension. The government has abandoned its earlier plans to reduce the limits on yearly accrual rates. Other proposals The government also proposes to abolish other tax exemptions that it believes facilitate early retirement. In particular this means that redundancy and other termination payments will be taxed when the employee leaves, rather than deferred until the employee draws the money. The government does, however, intend to proceed with the introduction of a new Course of Life Plan. This would give employees the right to take a break during their career by forgoing up to 12 per cent of their salary and drawing on the accumulated savings when they take leave from their employer. If the government proposals to end favourable tax treatment for early retirement plans come into force, almost all employers will need to review their benefit packages and change their pension plans. Government extends employers obligation to continue salary during disability Dutch employers are facing increased employment costs as a result of amendments to disability insurance as well as labour law that came into effect on 1st January, The amendments extend the period during which employers are required to continue paying salary to employees who are absent from work due to disability from one year to two years. Payments in the second year are reduced to 70 per cent of salary, thereby retaining an incentive for employees to return to work. State disability benefits are now available only from the third year of disability. The change is likely to affect pension plans, in that pension plan accrual during disability is normally based on the actual level of salary. Since the actual salary level in the second year of disability declines to 70 per cent, a plan change may be needed to continue to provide accrual on the last salary before absence. South Korea Government proposes pension alternative to severance pay Pending legislation offers employers the opportunity to set up pension plans for their employees instead of paying a lump sum severance benefit. The Ministry of Labour of South Korea announced a draft of the Act to Ensure Workers Retirement Benefits on 28th September, If the Act is passed, it would take effect as early as July At present, employers are legally required to pay a lump sum severance benefit to employees on retirement or earlier termination of employment, provided they have completed a year s service. The benefit mustbeatleastone month s pay for each year of employment. It is not typical for employers to have any other type of retirement benefits plan for their employees. Henry Stewart Publications (2004) Vol. 9, 3, Pensions 279

6 The proposed new retirement pension system will help employees who change jobs receive a reasonable income after retirement and ease the financial burden on companies of paying the entire lump sum severance benefit at once when employees leave. The system will sit alongside the current lump sum severance pay system, and employers, by agreement between management and employees, can choose to adopt the new retirement pension in place of the severance pay system. Whichever is chosen, coverage must be extended to employees with less than one year s service. Although further details are awaited, key features of the new retirement pension system are: the plans will operate separately from the national social security pension system; pension benefits will be comparable with the current lump sum severance pay both defined benefit and defined contribution pension plans will be permitted; employees can receive pension benefits on retirement after age 55, provided they have worked for more than 10 years; although employers, with the agreement between management and employees, can choose between the new retirement pension or the current lump sum severance system, the retirement pension plans will be encouraged through attractive tax incentives. Employers may wish to examine the advantages of the new plans, both for themselves and their employees, when more information about the new pension system has been announced by the government. USA Medicare legislation presents employers with far-reaching choices The Medicare reform legislation signed into law by President Bush presents employers sponsoring retiree medical programmes with a brand new set of options and opportunities. Medicare is the government-sponsored health care programme primarily for people aged 65 and over. Rapidly rising prescription drug costs and increased patient usage have been major factors behind the double-digit escalation in retiree medical costs in recent years. The Medicare Prescription Drug, Improvement and Modernization Act of 2003 adds optional prescription drug coverage for Medicare-eligible individuals beginning in 2006, along with a tax-free subsidy to qualifying employers who continue to provide drug coverage to their retirees. This new law provides an opportunity for companies to review their retiree medical design strategies, particularly with respect to Medicare-eligible retirees. Whatever approaches an employer decides to consider, measurement of any cost savings will require additional actuarial calculations based on revised assumptions regarding the cost of the retiree medical plans. Towers Perrin. All rights reserved. 280 Pensions Vol. 9, 3, Henry Stewart Publications (2004)