Pan-European pensions

Individuals who have made contributions to a state pension in one European Union (EU) country have long had the right to receive their state pension if they retired to live in another EU country. This right was extended in 1998 to occupational pensions (Directive 98/49/EC).

In May 2003, the EU Council adopted a Directive (2003/41/EC) on the activities of institutions for occupational retirement provision (the IORP Directive). This set out a general framework for the operation of pan-European pension schemes. The deadline for incorporation into national law was September 23rd 2005.

According to the Directive, a pension plan established in one EU member state that is compliant with its national regulatory system may extend its coverage to employees in other member states. There are two ways that a pan-European scheme may be established. Either a totally entirely new scheme may be constructed, or an existing scheme may be adapted to meet the new rules. In the latter case, all that pension trustees need to do is add a distinct section to a scheme for each jurisdiction covered. This means, for example, that in a scheme established in Germany, additional sections may be added for individuals based in the Netherlands and Sweden. Those administering the scheme need to ensure that each section is operated in line with German, Dutch and Swedish legal requirements respectively. The Directive does not cover group personal pensions or stakeholder arrangements

Pension administrators are required to carry out regular valuations and assessments of scheme liabilities. All schemes must have sufficient assets to cover their total liabilities, or have in place an adequate plan to make good any deficits over a reasonable time period.

Tax obstacles to the realisation of pan-European schemes have since been progressively removed. In October 2002, the European Court of Justice (ECJ) ruled in the Danner case (C-136/00) that the Finnish authorities were wrong to impose income tax deductions on contributions to a pension insurance scheme established in Germany. Furthermore, in the Skandia/Ramstedt case (Case C-422/01) on 26 June 2003, the court ruled against the Swedish tax authorities for refusing deduction of contributions paid to the foreign pension providers. In another case, the European Commission achieved a court ruling against Belgium (C-522/04) to prevent the taxation of capital transfers from a Belgian pension fund to a fund in another member state. Hard on the heels of this ruling came an ECJ decision (C150/04) requiring the Danish tax authorities to amend their legislation so that contributions to foreign-based pension funds would be given full tax deductibility in line with contributions made to domestic funds. The European Commission has made similar threats to tax authorities in France, Portugal, Spain and the UK.

In 2005, the Commission proposed a draft Directive on the portability of occupational pensions. This was amended in 2007 to exclude provisions on transferability. The Directive intended to achieve a greater level of harmonisation in vesting periods and transfer rights, and also to establish a common requirement that dormant contributions from past employees are fully inflation-proofed, however unanimity was never achieved and so the Directive was never adopted.

An important but indirect boost to such schemes also arose from Council Directive 2003/48/EC under which EU member states agreed to start exchanging information about the savings of non-residents and to allow each country to tax its own citizens on their EU-wide savings incomes. The agreement specifically excludes life insurance and pensions savings provisions.

Luxembourg, Austria and Belgium originally decided to apply a withholding tax on savings instead of participating in the disclosure pact. Since 1 January 2010 Belgium has opted to exchange information. In Luxembourg clients may now choose whether they exchange information or apply a withholding tax.

Further pressure to overhaul many existing company pension plans arises from a change in accounting standards. New accounting rules under IAS 19 affect all companies that are listed within the EU and must now be applied in full, unless a company already uses a similar standard elsewhere in its global operations. The principal impact of these rules has been upon companies that operate defined benefit (final salary) pension plans and generous retiree medical or death benefits. For these companies, the annual expense loading on accounts has been increased significantly and this could ultimately affect both corporate credit ratings and share prices. Consequently, many companies are seeking to phase out defined benefit plans in favour of schemes based on a defined contribution approach.

Location of schemes

A number of companies have taken advantage of the deregulated pensions environment in the European Union by forming Pension Fund Pooling Vehicles (PFPV). These are tax and management-friendly investment arrangements that permit companies and their employees from several countries to establish a common pooled fund for pension assets. This will hold pension funds on the joint companies’ behalf.

The most popular locations for the central administration of pan-European pension schemes are Belgium, Luxembourg, the Netherlands, Switzerland and the UK.

Luxembourg lead the way in establishing special safeguards for scheme contributors and beneficiaries. The Luxembourg authorities have defined three types of fund:

  • SEPCAV schemes (Sociétés d’épargne-pension à capital variable): These are effectively co-operative societies organised like stock companies, with the power to issue shares. The beneficiaries of pension schemes are shareholders of the company. When they retire, their shares are repurchased by the pension fund and this enables them to get a capital payment, but not an annuity. They may then seek an insurer to purchase an annuity, as in any defined-contribution plan.
  • ASSEP schemes: These take the form of non-profit companies and are likely to provide the most suitable structure for multinational employers with scattered populations of employees. Members of such plans may be participating in defined benefit or defined contribution arrangement. They become creditors of the fund and may be able to escape tax obligations that exist in some countries for benefits in kind. Payments out of the fund may be in the form of lump sums or annuities.
  • CAA-approved schemes: These are smaller schemes that do not meet the capitalisation requirements set for SEPCAV and ASSEP schemes. Pensions may be either defined benefit or contribution. They are, however, subject to direct supervision by the state insurance regulator, the Commissariat aux Assurances.

Belgium has a specific law for IORPs. This allows companies to ‘ring fence’ national funds in a variety of ways and tax obligations have been effectively removed from the funds held on a central basis for a pan-European scheme. It also establishes an approval process through a central ‘social committee’ in order to overcome potential problems with statutory social and employment compliance within each participating state.

A pension fund established in Belgium takes the legal form of an Organization for Financing Pensions (OFP)

By far the most developed system of private pension provision in the European Union is to be found in the UK. This is largely because the UK state pension is so low that most white-collar employees have had to rely on supplementary company schemes for their principal retirement provision. Consequently, the UK has developed more flexible pension products – such as the highly mobile personal pension plan and also fully-integrated pension and life insurance schemes. On the European continent, private pensions are still frequently regarded as little more than savings arrangements and life insurance is generally sold separately via brokers rather than directly by insurance companies.

The UK government is seeking to ensure the participation of employees and their representatives in key decisions about the future of their occupational schemes. For this reason, the UK has introduced a requirement for companies to enter into consultations with staff or their representatives at least two months before any change is due to be made. Moreover, if an occupational pension scheme has its main administration outside the EU, it must be established as an irrevocable trust if it is to receive contributions from either employers based in the UK (wherever their employees work) or from employers in respect of their employees who work in the UK (Section 253 of the Pensions Act 2004).

What employers want

During the next ten years, employers throughout Europe will be seeking to move away from burdensome defined benefit schemes and to develop more portable and easily administered pension arrangements. Financial institutions have long enjoyed an era where their expertise has been focused on complex schemes designed to maximise tax effectiveness and to provide complete customisation to client requirements. The sheer volume of recent reforms has also led them to regard the emerging constraints as far more complex than they actually are. The market for pension and insurance products is, in fact, being opened up by these changes and the future lies with much simpler and more standardised financial products.

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