Sep 1, 2016 - elderly (an annual lump sum), increasing thereby public social expenditure. Higher public social expenditure leads to higher taxes and may, in ...
Danish government proposes mandatory pension savings
ESPN Flash Report 2016/66
JON KVIST – EUROPEAN SOCIAL POLICY NETWORK
SEPTEMBER 2016
Description The Danish government presented its “2025 reform proposals” on 1 September 2016. One proposal is to mandate funded pension coverage to individuals who are currently not saving sufficiently for old age. The government also proposes to improve incentives to save for old age in the last five working years.
Internationally, the Danish pension system is often praised for its multi-pillar character - with a national old-age pension, occupational pensions and private individual savings. The national old-age pension provides a minimum income for all and consists of a basic amount and supplements that are tested against other income, including other pension income. Occupational pensions and private individual savings supplement the income from the national old-age pension. The schemes in the three pillars interact in a system that constantly changes. Especially in recent years, occupational pension contributions have increased as a result of collective bargaining. But the coverage of occupational pensions has not expanded to cover individuals in jobs that are not covered by collective agreements.
LEGAL NOTICE
In the last few years, this development has created two widely-acknowledged problems in the current system. When individuals not covered by occupational pensions retire, they tend to have few, if any, supplementary savings. When individuals covered by occupational pensions retire, they often see the savings they made during their last years on the labour market result in a reduction of the income-tested part of the national old-age pension. The minority Liberal government wants to address these two problems: a) the fact that too many people have too few savings; and b) the saving disincentive caused by the interaction of different pension elements.
This document has been prepared for the European Commission. However, it reflects the views only of the authors, and the Commission cannot be held responsible for any use which may be made of the information contained therein.
To illustrate the first problem: today, there are around 750,000 individuals who save less than 6 percentage points of their income. Insufficient savings lead to inadequate income in old age. As a result, these individuals rely more on housing allowances and income-tested old-age benefits, i.e. the pension supplement and the cheque for the elderly (an annual lump sum), increasing thereby public social expenditure. Higher public social expenditure leads to higher taxes and may, in turn, lead to disincentives to work and save. There are three groups with insufficient savings: low-income employees, lowincome self-employed and claimants of social security. The government proposal is to introduce compulsory saving for these groups, starting with 0.25% of income in 2018, increased to 2.0% of income in 2025 (the “income” referred to here is solely the income from work for the employees, the earned income for the self-employed and the income from social security for the social security claimants). Mandatory minimum pension savings for everybody would be innovative and resembles compulsory fire insurance for home owners/ occupiers and third party insurance for car drivers. The Ministry of Finance estimates that this measure will reduce the number of individuals with insufficient savings from (around) 750,000 to 707,000 by 2025. The government has expressed its intention to reduce the number further with subsequent policy reforms.
The proposal to introduce compulsory pension coverage for individuals with few or no savings has been met with criticism from the social partners, private pension funds and the association for the self-employed. Although these stakeholders agree on the need to extend pension coverage, they are critical of the method proposed. Private pension funds argue that a mandatory element would add unnecessary complexity and extra costs to the pension system. They also argue that the management of mandatory savings, if adopted, should be open to pension funds other than just the ATP (Arbejdsmarkedets as the Tillægspension), government has suggested. The social partners think the proposals violate the Danish model, whereby they are responsible for supplementary occupational pensions for employees. The association for the self-employed are against compulsory savings and instead argue for greater flexibility as to when and how much the self-employed can save. No formal association exists for claimants of social security, the third large group of persons with insufficient savings. However, the mandatory saving of up to 2.0% of their income would result in lower social security benefits and thus greater financial problems, among others. The second problem (saving disincentive) may have adverse effects on work and retirement decisions. It is primarily the extra savings in later working life that result in reduced social security benefits in old age. This may
cause individuals to work less and retire earlier than they would otherwise have done. The government therefore proposes to introduce a new scheme, the oldage saving annuity scheme (aldersopsparingslivrente), that will be financed by non-taxdeductible contributions and that will pay out tax-exempt annuities. In 2017, the suggested annual maximum contribution is 50,000 DKK (€6,700) for the five years prior to retirement. The purpose of the new scheme is also to defuse what the government sees as a potential threat to the system. In 2013, an old-age savings scheme (aldersopsparing) replaced capital pensions (kapitalpensioner). The popular capital pensions were financed by tax-deductible contributions and paid out as a lump sum taxed at 40%. The oldage saving schemes are less popular possibly because contributions are not taxdeductible. However, the scheme may gain in popularity when people realise that the old-age saving scheme lump sum does not result in a reduction of incometested elements of the national old-age pension. If large numbers of individuals move their savings to this scheme then social expenditures will increase in the future. To avoid this situation the government proposes a lowering of the annual maximum that can be paid into the old-age saving scheme by individuals who have more than 5 years until retirement - from DKK 29,600 (€4,000) to DKK 5,000 (€670).
Outlook & Commentary Paradoxically, if saving is made compulsory for all, it may be against the wishes of the three groups concerned. If the proposals for a new old-age saving annuity scheme and the reduction in the maximum contribution to the existing old-age saving scheme are adopted, then work and saving incentives should improve and the old-age saving scheme would dwindle away. Although the government proposals do address the generally-perceived problems of coverage of supplementary savings and saving disincentives, they may not be adopted by a parliamentary majority. The introduction of yet another scheme, and mandatory saving, seem to add equal measures of complexity, extra costs and controversy. This does not bode well for the functioning of the multipillar system. Combined with the initial criticism from social partners and private fund managers, it may prove too difficult for the minority government to gain the backing of a majority in Parliament following political negotiations in the autumn of 2016.
Further reading Regeringen DK2025 – Et stærkere Danmark (A stronger Denmark), Copenhagen 1 September 2016. Available at: http://regeringen.dk/2025/helhedspla n-for-et-staerkere-danmark.
Author Jon Kvist, Roskilde University
The Flash Reports are produced by the European Social Policy Network (ESPN) established in 2014 to provide the European Commission with independent information, analysis and expertise on social policies in 35 European countries. The topics covered are identified by ESPN experts in the light of significant developments in their countries, or in some cases suggested by the Commission or the Flash Reports’ editorial team (Eric Marlier, Slavina Spasova and Bart Vanhercke). The ESPN is managed by LISER (Luxembourg Institute of Socio-Economic Research), APPLICA and the OSE (European Social Observatory). More information on the ESPN: http://ec.europa.eu/social/main.jsp?catId=1135&langId=en.
