Most pension funds have started preparing for the new pension system

Transition to the new pension system is challenging for pension funds

Under the new Pension Accord, the part of pensions that is jointly contributed by employers and employees – also referred to as the second-pillar pension – will be made more transparent and personal. Under the current system, members pay contributions into collective assets through their employer and are entitled to benefits from retirement age. The ultimate amount of these benefit payments depends on the development of the pension fund's funding ratio, which is the extent to which the available accumulated funds cover the fund's future liabilities. Under the new system, the focus is on the contributions rather than the funding ratio. The contributions are added to a member's personal pension assets, and ultimately determine the amount of benefits paid. The advantages of collective investment and risk sharing among participants remain in the new system.

The transition to these new pension schemes is a complex, comprehensive and essentially irreversible process. It involves various risks that require adequate management. First of all, the existing collective pension assets must be evenly distributed among the members of the pension fund. To this end, all data on accrued pension rights must be accurate, complete and reproducible. In addition, the new schemes require an agile IT environment and a pension administration that is more closely linked to investments. After all, in the new system a change in the value of investments will have a direct impact on the size of a member's personal pension assets. This is not the case in a system based on entitlements. The investment policy will also change. Under the current system, the investment policy must be in line with the combined risk appetite of all members. In the new system, a pension fund must align its investment policy to the risk appetite per age cohort.

DNB and AFM have asked pension funds about their progress regarding the preparations for the transition to a new system. According to the draft legislation, it is possible to start the transition from 2023. It must be completed by 1 January 2027.

Pension funds see different scenarios for the future

Under the Future of Pensions Act, current pension entitlements will as a rule be carried over to the new system. There may be reasons to deviate from this standard, however.  Pension funds can also decide to transfer the entitlements to another pension provider and dissolve the pension fund, which is referred to as liquidation. Figure 1 gives an overview of pension funds’ expectations for the future.

Figure 1 Expected future scenarios

Approximately two-thirds of pension funds expect to carry over their current pension entitlements. A small part of them also expects to liquidate. Roughly half of the pension funds that do not intend to carry over their current pension entitlements are considering liquidation. The other half expect not to be able or willing to carry over their current pension entitlements for various reasons. For example, in this group there are pension funds that already have a defined contribution scheme, closed funds whose (former) employer no longer exists and funds where the employer is still under an obligation to pay additional contributions.

The survey shows that some 20% of pension funds expect to liquidate. Most of these funds have assets under management of less than €1 billion, and many of them have incomplete liquidation plans. More than half of these pension funds do not yet know in which year the transfer will take place.

Of the pension funds that intend to carry over their pension entitlements, some 60% expect to apply the transitional financial assessment framework. This is a legal framework for pension funds that expect to carry over their pension entitlements. Under this transitional framework, pension funds are less likely to have to apply curtailments and are allowed to apply index-linking earlier, in anticipation of the new pension schemes. Should their funding ratio fall below 90%, pension funds will have to take measures, however, including the possibility of applying curtailments. And at the time of carrying over the current pension entitlements, their funding ratio must be sufficiently high to achieve balanced outcomes.

Figure 2 Expected year of carry-over

More than half of the pension funds do not yet know in what year they expect to carry over their current pension entitlements. Of those funds that do already know , this timeframe is spread fairly evenly over the years 2024-2026. None of the funds expect to carry over in 2023. This is probably due to the fact that the legislation will not become final until 2022 and the exact legal requirements for carrying over pension entitlements are not yet known. If the pension funds that have not yet determined a concrete carry-over year all carry over in the last few years, this will create a peak in that period. This creates a risk of capacity problems for pension fund administrators, actuaries, auditors and supervisors. We are currently assessing whether we have sufficient capacity to adequately perform our task and are asking pension funds to do the same.

DNB expects pension funds to take control of the transition process

In order to achieve a timely and controlled transition, it is important that pension funds take control of the transition process. This means that they set out a clear, achievable transition path and ensure that the transition is controlled. To this end, they must identify their dependencies on other stakeholders, such as employers' organisations and trade unions or the pension fund administrator. It is also necessary to identify the risks that may arise and how they can be managed. For example, by mapping out relapse scenarios or hiring additional expertise in good time.