Parliament approves new pension scheme

In late January 2001, the German parliament approved the new pension scheme proposed by the red-green coalition government as part of its pensions reform. Unlike other parts of the reform, this new scheme did not require support from opposition political parties. While the core of the planned reform - a reduction in state pension provision and encouragement for employees to participate in privately funded pension schemes in order to offset the resulting loss in income - has now been translated into practice, the concrete shape of the overall reform is still unclear.

On 26 January 2001, the German parliament (Bundestag) approved a new pension scheme, covering the arrangements relating to the future level of state pensions and the amount of state pension contributions. This represented decisive progress for the government's pension reform, which has been a subject of controversial debate for nearly two years (DE0008276F).The essence of the reform is replacing the current "pay-as-you-go" state pension system (whereby current pensions are met from the contributions of those currently in employment) by a dual pension scheme, consisting of both a reformed pay-as-you-go state pension and a private pension, with employees obliged to pay a proportion of their income into company or other private schemes.

In the run-up to the parliamentary debate, the coalition government of the Social Democratic Party (Sozialdemokratische Partei Deutschlands, SPD) and Alliance 90/The Greens (Bündnis 90/Die Grünen) divided the reform into four parts, each to be approved separately: the new state pension scheme; measures on private pension schemes; measures on basic income for older people; and a law to regulate the legal certification of savings agreements.

The opposition parties do not agree with the pension reform plans, and the new pension scheme was approved in January on the basis of the support of the coalition parties, which have a majority in the Bundestag. However, with the exception of the new pension scheme, all other important parts of the reform - such as the proposed regulations concerning the promotion of private pension schemes and basic income for older people - need to be approved on 16 February 2001 by the Federal Council (Bundesrat) (essentially parliament's upper house), where the "red-green" coalition government is not in the majority. It is thus expected that details of the reform will again be modified before the current proposal becomes law in March 2001. The government is concerned to push the whole reform through as fast as possible for several reasons. First, under the proposals, pensions are again due to be increased in line with developments in average earnings (rather than inflation, as has recently been the case) by 2.1% from 1 July 2001. Second, in order to keep to the timetable on which the reform's financial calculations are based, the reform would have had to be put into practice in its current form by 1 January 2001. Last, but not least, parliamentary elections are to take place soon and the opposition has already announced that it intends to make the pension reform a central point of the election campaign.

While the core of the planned pensions reform - a reduction in state pension provision and support for privately funded pension schemes - is now being put into practice, the concrete shape of the reform is still unclear.

The revised reform

In December 2000, Walter Riester, the Minister for Labour, withdrew the proposal to introduce a new "compensation factor" (Ausgleichsfaktor) into the complex formula for the calculation of an individual's retirement pension entitlement. This would have had the effect, from 2011, of producing differences in the amount of pension according to the point at which the employee retired. New pensioners from that date would have received a pension of only 64% of average net earnings while existing pensioners would have received more (full state pensions currently stand at 70% of net average earnings of all employees).

According to the new model now adopted - as proposed by the German Federation of Pension Insurers (Verband Deutscher Rentenversicherer, VDR) - the value of the state pension will be steadily reduced to 67% of net average earnings by 2030 for those employees who have worked and paid contributions for 45 years. As this applies to all pensioners, it is seen as fairer than the previous proposal. From 2011, a scheme will come into force, whereby pension levels will increase annually by only 90% of the increase in average earnings, rather than the full amount. Mr Riester aims to keep the equally divided joint employer/employee contribution to the state pensions system at a maximum of 22% of pay in 2030 (currently 19.3%). However, experts doubt that it will be possible to keep the contribution at a maximum of 22% until 2030 without additional regulations, such as raising the retirement age or increasing contributions to private schemes.

Under the reform, while the pensions of women who have taken time out of employment to bring up children will be upgraded, widows and widowers who have never worked or brought up children will receive lower pensions: their pension will decrease from 60% of the income of the deceased spouse to 55%. Originally, Mr Riester planned to freeze the tax allowance on the income of widows and widowers at DEM 1,284 per month plus DEM 272 for every child, but it has now been agreed that the allowance will be increased in line with overall pay increases. Another new feature introduced by the reform is the opportunity for married couples to split pensions: for those who marry 2002 or later it is now possible to divide pension entitlements equally between the partners when they retire or one partner dies.

The government was able to pass the above provisions without the support of the opposition parties. This is not the case for its proposals concerning company or private pensions schemes, whereby it is planned that employees will pay 0.5% of their gross income into such schemes in 2001, increasing to 4% by 2008. Furthermore, the government plans to give financial subsidies to families and employees with low incomes who want to build up private pension schemes. How this is to be done is still a controversial point - not only between the opposition and the government, but also within the "red-green" coalition.

The first point of controversy concerns treating investments in property as contributions to private pension schemes. The government had planned that, for their private pension component, employees could invest in a range of approved schemes offered by private insurers, including private pension insurance organisations, investment funds, life insurance plans and saving banks. In December 2000, the coalition decided that investment in property may be considered as an alternative private scheme, as long as this property provides monthly payments to the pensioner. Overall, the inclusion of real estate has been welcomed by experts, though they criticise the fact that only property which gives pensioners a monthly payment will be included. This means that the fact that pensioners who own a flat or a house do not have to pay any rent and therefore need less money per month is not seen as private pension provision.

The second issue is how private pension schemes will be taxed. The Federal Constitutional Court (Bundesverfassungsgericht, BVG) will decide in summer 2001 whether higher taxes are to be paid on pension payments. It seems that contributions to pension schemes will stay tax-free, but pension payments will be taxed. Employees would thus not need to pay taxes at the point when they contributed to their private pension, but only when they receive the pension - this would be to their advantage as the personal tax rate is favourable to older people.

Criticism from CDU and employers' associations

At times it seemed possible that the government would be able to achieve consensus over its pension reform with the main opposition party, the Christian Democratic Union (Christliche Demokratische Union, CDU), but the CDU now opposes the reform and especially the current model for private pension schemes. With reference to the expected decision of the BVG in summer 2001 that private pension contributions will stay tax-free, but that pension payments will be taxed, Friedrich Merz, the CDU's parliamentary leader, stated that a general reform of the taxation of pensions is necessary. In addition, he demanded that the average retirement age be raised from 60 years to 65 years.

In a press release, Dieter Hundt, the head of the Confederation of German Employers' Associations (Bundesvereinigung der deutschen Arbeitgeberverbände, BDA), expressed support in principle for the concept of a dual pension system, consisting of state pension and a private pension, but claimed that the pension reform as a whole was inadequate. In particular, like Mr Merz of the CDU, he criticised the fact that the current reform does not provide for the taxation of pension payments and that the joint employer/employee contribution to the state system will rise to 22% of pay in 2030. Mr Hundt estimated that this would cost companies DEM 25 billion and demanded that the contribution be kept permanently under 20%.

Approval from unions

By contrast, trade unions - which had initially strongly opposed the general concept of the reform, and in particular the break with the general principle that pension contributions should be jointly paid by employers and employees - have abandoned their critical attitude. Especially after he abandoned the "compensation factor" proposal in December 2000, Minister Riester received approval from the unions, which had rejected the proposed unequal treatment of pensioners depending on the date at which they retired. In addition, the unions have greeted the government's plans to introduce tax incentives and co-payments for occupational pension funds (DE0101200F). Originally, unions were more in favour of the type of company-level schemes which have already been included in several collective agreements. They still fear that these might be excluded from tax benefits or financial subsidies, because at present the government has guaranteed only that it will support existing company-level schemes for a transitional period of eight years. Nevertheless, the introduction of a fund-based supplementary pension system might be a new option for safeguarding occupational schemes, which might lose importance when individual private schemes receive priority treatment.

Commentary

The parliamentary debate and decision on the new pension scheme means that the pension reform has overcome one hurdle. Nevertheless, it is obvious that this will not be the final discussion on the pension system. The key problem of the current pension system - besides the increase in the number of pensioners, especially in comparison with the number of people in employment - is that it does not provide a decent standard of living for every pensioner. The reduction of state pension provision and the encouragement of private pension schemes does not solve this problem. Only those who have a good and regular income will be able to participate in private schemes which offset the loss in pension income, and these people therefore have an advantage over those who are dependent on state pensions only and who might not have been employed continuously, as with women who take time out to care for children and family.

On this issue, two members of the "equality group" which seeks to include women's interests in the national tripartite Alliance for Jobs (DE0012298F) recently published a statement. They claim that the pension reform improves independent pension provision for women by including time spent on bringing up children and by giving financial support to cover periods during which women work part-time because of being responsible for children. While these new regulations have positive effects on the financial situation of women, the cut in pension payments for widows and widowers will affect women to a higher degree than men, as most married women are still dependent on state pensions, financed by their own contribution during employment (and they currently receive an average of only 50% of the pension received by men), plus the widows' pension. (Alexandra Scheele, Institute for Economic and Social Research, WSI)