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Is State's nest egg plan all it's cracked up to be?

02/09/2018 Posted by IAPF | Comments(0)

Last month, Social Protection Minister Regina Doherty unveiled proposals to automatically enrol workers in pension schemes by 2022. While workers will have the freedom to opt out, the Government hopes that, once they have signed up, most of them will stay in.

Under the Doherty proposals, workers aged between 23 and 60, earning more than €20,000 a year and not already in a pension scheme would be automatically enrolled in defined contribution pension schemes.

Employees would contribute 1pc of their gross income in the first year, rising to 6pc by the sixth year. Employee pension contributions would be matched cent for cent by employers, so they too would pay in 6pc by the sixth year.

To sweeten the pill, the Government is proposing to contribute €1 for every €3 contributed by the employee. This would mean the Government would be contributing another 2pc by the sixth year which, when added to the 6pc being contributed by both employee and employer, would bring the total pension contribution to 14pc.

"Somebody who is a high-rate taxpayer is currently getting 40pc tax relief on their pension contributions. Under these proposals they will be getting 25pc relief. On the other hand, someone paying no tax will be getting a contribution from the State. We will have to look how at how it impacts on the rest of the system", says Jerry Moriarty, chief executive of the Irish Association of Pension Funds.

The Department of Employment Affairs and Social Protection (DEA&SP) says no final decision has yet been made on the extent of any incentives for auto-enrolment and that the tax relief on pension contributions is currently being "reviewed" by an inter-departmental pensions reform and taxation group chaired by the Department of Finance.

The most recent figures from the CSO show that only 47pc of those in work were saving for their retirement in the fourth quarter of 2015, down from 51pc in 2009.

In fact, the underlying situation is even worse. Strip out the public sector, where pension coverage is virtually 100pc, and just over a third of private sector workers are saving anything for their retirement, preferring instead to rely on the contributory state pension.

The Government has promised to maintain the state pension (the maximum payment is currently €243.30 per week) at 34pc of average wages. But with the number of those of working age for every pensioner set to fall from 4.9 in 2015 to only 2.3 by 2055, it might not be a good idea to bet on it.

The State's unfunded pension liabilities are poised to blow a massive hole in the public finances in the coming decades.

The CSO calculates that unfunded state pension liabilities stood at €231bn at the end of 2015, with unfunded public service pension schemes having a further €114.5bn of liabilities, meaning a total of €345.5bn. Taking these unfunded liabilities on to the state's balance sheet would almost treble the 'official' national debt of just over €200bn.

It may be even worse than that. The CSO put the liabilities of funded pension schemes at €90.8bn at the end of 2015.

These are primarily private sector and semi-state occupational pension schemes, along with the pension funds of the self-employed, three-quarters of whom are putting money aside for their retirement.

That leaves the two-thirds of private sector workers who don't belong to any sort of pension scheme. Even at current levels, the state pension will not be sufficient to keep them out of poverty (defined by the CSO as 60pc of the median income) in their retirement.

The most recent figures for median incomes are for 2016, when it was calculated at €23,800 a year, which implies a poverty level of €14,280 or €275 per week, well above the current maximum state pension payment.

What are the liabilities implicit in this pensions shortfall? A rough-and-ready guesstimate would be to double the liabilities of the existing funded pension schemes, about €183bn. However, as the existing funded pension schemes also include most of the semi-states, the real figure is almost certainly considerably higher.

However, the DEA&SP points out that poverty rates among over-65s are lower than for any other group in society.

We have been here before. In August 2006, a Pensions Board report recommended the introduction of compulsory pension contributions modelled on the Australian system, where employers must contribute 9.5pc of their employees' wages, rising in stages to 12pc by 2025, to an approved retirement fund. Half a generation later, successive Governments have done nothing to implement the recommendations of the 2006 report.

The latest proposals, which follow on from last February's Roadmap for Pensions Reform, abandon compulsion in favour of persuasion and are modelled on the UK system.

Auto-enrolment was introduced in the UK in 2012 and has so far been extremely successful in increasing pension coverage, with an extra 10 million workers signing up.

Auto-enrolment opt-out rates in the UK have been much lower than feared, about 10pc.

"A pension is something that doesn't just happen. For a lot of people it was something that they meant to do but never quite got around to", says Moriarty.

Irish pension policy has long been a tug of war between the DEA&SP trying to increase the rate of pension coverage and the Department of Finance determined that the cost of tax relief on pension contributions, at least €1.3bn a year, doesn't rise further.

The reduction in tax relief implied in the most recent set of proposals seems to provide further evidence of this tug of war. "You don't encourage people to contribute to pensions by cutting the support for those contributions," said Danny Mansergh, head of member communications at pensions consultant Mercer.

While the proposed one-for-three Government pension contribution might help people who don't pay tax, in practice the €20,000 income threshold means most of these workers are excluded from auto-enrolment.

Add in the exclusion of the under-23s and over-60s and only about 400,000 of the estimated 1.2 million private sector workers without a pension, just one-third, will be covered.

Assuming an opt-out rate of 10pc, auto-enrolment would increase private sector pension coverage from the current 35pc to about 55pc - still leaving 800,000 workers without a pension. Some employers are also unhappy that they will be legally obliged to match their employees' contributions.

Employers' body IBEC said it was consulting with its members in order to ascertain their views ahead of the Government's November 4 deadline for submissions.

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