Pensions in Austria

Christine Senior asks whether change is on the horizon for Austria’s pensions landscape

The next step in pensions reform in Austria could hang on the outcome of the forthcoming general election at the end of September. One of the most pressing areas for reform is the tax treatment of member contributions to pension funds. The coalition government, which resigned earlier in the summer, had agreed to this, but whether a new government will still commit to it remains to be seen.

The introduction of pension funds in 1990 marked a seachange in pensions provision in Austria. On the one hand generous state pensions were proving a huge burden on the public purse which in the long term was unsustainable. At the same time the move from defined benefit to defined contribution pensions was proving difficult to accommodate within the existing occupational pensions framework where companies financed pensions promises through book reserves.

The solution was a new structure, Pensionkassen, which evolved out of discussions between the government and social partners. In Pensionskassen, the choice of investment style rests with the employer who chooses the one which most closely matches the risk profile of their pensions liabilities.

The choice of which of the six multi-employer funds an employer will sign up with, and which investment and risk association within that fund is the most suitable for the workforce, is decided
in consultation with the council of employees.

“Employers will be offered different investment risk com-munities with different investment styles,” says Gerald Moritz, managing director at Watson Wyatt in Vienna. “The decision is driven by liability concerns, by investment liability assumptions, by cash flow assumptions, by age criteria and so on.”

Pension funds can be either single company funds for larger employers with more than 1,000 employers, or more likely one of the six multi-employer funds. They can also be either DB or DC, though the majority are DC. Contributions come mainly from employers, and though employees can also contribute separately, their contributions face unfavourable tax treatment.

Reform of this had been planned and agreed by the previous government but that disappeared with the resignation of the coalition. The Fachverband der Österreichischen Pensionskassen (FVPK), or Austrian Association of Pension Funds, is campaigning for reform of tax treatment of employee contributions.

“The employer has to pay into a pension fund, the employee is able to give a maximum of the same sum to the pensionskasse as the employer does,” says Dr Fritz Janda, managing director of FVPK. “For the employer contributions we have the EET system but not for the employee. We will ask the new government to have the EET system for employees’ contributions too.”

At the end of 2007 around 20% of all workers have a contract with a pensionskasse, according to figures from the FVPK. But occupational coverage generally in Austria remains woefully low.

“Occupational pension schemes are not really market practice in Austria, because employers think the statutory pension scheme is still comprehensive,” says Michaela Plank, a senior associate at Mercer in Vienna. “We hope there will be a switch within the next few years because within the statutory scheme the pension will be decreased so there is a necessity for the additional second pillar.”

This is a particular challenge facing smaller employers. The Austrian economy is characterised by a large number of small enterprises, whose workers mainly have to rely on the social security pension.

“As much as 80% of Austrian employers are very small,” says Moritz. “Many employers have between one and five staff, and that kind of business has completely different needs. Normally they provide only social security pensions, except for special arrangements for the managing director. There is a growing need there.”

Plank says it depends on the philosophy of the individual smaller companies whether they join a pension fund. In certain sectors – for instance the pharmaceutical industry and the finance and paper sectors - it is market practice or part of collective agreements for the companies
to join.

Nevertheless Janda at the FVPK counts pensionskassen a success. Of all employees covered by second pillar pensions 60% have a contract with one.

A change in 2004 added a life cycle fund option to pension funds. This allows employers to give their staff some choice in their pensions. Employees are offered three strategy options ranging from aggressive to conservative, but they are only permitted to switch from a risky strategy to a more conservative one. It is still too soon to say whether life cycle plans have really been successful.
“Within the last years it was a really good instrument but at the moment with the bad performance figures some of the companies are not sure if it was the right decision to opt for the life cycle model,” says Plank. “As all pension funds have started the life cycle model we expect an increase in contracts within this model.”

As everywhere else, the markets have dealt a blow to the performance of pension funds this year. The funds have posted miserable performances for the first half, according to figures from the Austrian Control Bank (OeKB). The multi employer funds earned – 4.65%, and the single employer funds -6.20%. This compares with a five-year average performance of 4.60% for the former and 5.75% for the latter.

However the investment strategy of the funds has served to protect them from the worst ravages of the market downturn. Allocations to equities are relatively modest compared with some other markets. The funds follow prudent person rules for asset allocation in line with the EU directive, with equities limited to 70% of portfolios. In practice equity allocations are way below that. The OeKB’s figures show average asset allocations of 35% to equities, and 63% in bonds, loans and cash. But market conditions are not driving funds to make big shifts in their asset allocations.

“Pension funds in Austria, especially the largest ones, for example VBV pension fund which is a multi employer fund and the biggest one in Austria, are not switching from equities to bonds at the moment,” says Werner Kolitsch, Austrian country head for Threadneedle. “They are changing their asset managers, mostly due to style drift in their asset allocation or their strategy.”

The funds are also diversifying their investments, by going into alternatives, though in a small way. Only the biggest funds are moving into hedge funds.

“The bigger pension funds are already invested in hedge funds,” says Kolitsch. “The trend is more towards funds of hedge funds. Hedge fund exposure is still low when you look at the overall market. VBV currently has hedge fund exposure of 10%, according to January figures. Most of these assets are invested in multi-strategy products, with some satellites in focussed themes.”

In 2005 tax rules affecting insurance companies offering pension products were changed to enable insurers to compete on equal terms for pensions business with pensionskassen. Previously insurance pension products were subject to tax rates of 4%, but the new style insurance product – Betriebliche Kollektivversicherung or collective insurance vehicle - now attracts the lower rate of 2.5%. These products offer a guaranteed interest rate of 2.25% and have different asset allocation rules, which have lower equity limits than is possible with pension funds. But so far they have failed to provide much competition to them.

“It is not really market practice to offer Betriebliche Kollektiv-versicherung, but we don’t know why,” says Plank. “I don’t know if it will change. Given a choice most employers opt for a pension fund. There is no guarantee on the interest rate for a pension fund and there is no cost for the guarantee.”
The biggest challenge facing the Austrian pensions market is current market conditions and the consequent poor performance. Most pensionskassen have no contingency reserves, so no cushion to protect them in bad times.

“If we have bad performance this year and with an interest rate of 3.5%, you need to earn 3.5% to have the same pension level as last year,” says Plank. “If you have no contingency reserve the pension will decrease, so the challenge – I know it’s not realistic – should be to have positive performance this year.”

Written by Christine Senior, a freelance journalist