Understanding Dutch Pension Schemes
There are both similarities and differences between Dutch pension schemes and their counterparts abroad, based on historical practices and local market conditions.
Below you will find an article (from 2016) with more information about the pension situation in the Netherlands. If you want more information or get in contact, please contact our international department.
There are National Insurance schemes in place for all Dutch residents, and there are employee insurance schemes covering all employees and civil servants that work in the Netherlands. Consequently, they are paying tax on wages. Participation in both schemes is mandated by law.
The Dutch National Insurance schemes provide flat-rate amounts. However, some benefits are income-tested, i.e., will be reduced if other income is in place. Generally, Social Security provides a minimum income, which is funded on a pay-as-you-go basis (PAYG).
In relation to pensions schemes the most important National schemes are:
• General Old Age Pensions Act (AOW). For new retirees, as of 2015, the AOW supplementary allowance (for married couples or couples living together) will be withdrawn. This will affect all residents born on or after January 1st, 1950 who live together (married or otherwise) with a younger partner. Also starting from 2013 the retirement ages rises in small steps to 67 years in 2021. And a further rise of the AOW age is made dependent on the life expectancy. Benefit levels depend on the family situation; spouse’s age, children under 18, etc. For a married retiree the AOW-benefits is € 9,481 p.a. (Single € 13,866 p.a.). AOW benefits are not income tested.
• General Surviving Relatives Act (ANW). The General Surviving Relatives Act (ANW) assumes surviving relatives are able to support themselves, unless disabled or having children under the age of 18, or born prior to January 1st, 1950. The benefit is income-tested. Benefit level for a (new) widow/widower is € 14,659 p.a. in 2015 and is income tested.
Apart from the many mandatory industry-wide arrangements there is no general obligation in the Netherlands to provide employees with any occupational pension scheme. However, since Social Security only provides a minimum income, it is common in the Netherlands to have a pension scheme in addition to National insurance schemes.
Approximately 96% of Dutch employees are covered under a pension scheme. Occupational pension arrangements are set up according to the regulations of the Pension Act. In particular, the funding methods are defined and controlled.
Pension promises can only be funded through direct insurance (via an insurance company or PPI – Premium Pension Institution), through an industry-wide pension fund (BPF), or through a company pension fund (OPF). Generally, the following benefits are included in an occupational pension scheme:
• Retirement (old age) and Death Benefits
• Disability and Sick Pay Benefits
The Pension Act, which came into force on January 1st, 2007, dictates that as of January 1st, 2008, if an occupational benefit is in place, the pension accrual starts at the latest from the employees 21st birthday. Both legal and fiscal rules apply to these plans. A plan will only be considered ‘qualified’ by tax authorities, if it is a plan qualified in terms of the Dutch Pension Act.
Due to the fiscal treatment, nearly all schemes provide the beneficiary with annuities. Funding takes place through insurance of deferred annuities or a capital to be used for the purchase of annuities upon the expiry date. Group insurance may be financed by level premiums or single premiums, of which the latter is most common. They generally include a premium waiver in the event of disability. The contract term is usually five, or in some cases ten years.
A shorter duration is not very common as the process to get to a new or renewed plan is very time consuming and complex. It can take six months or more to make a good comparison on the actuarial level and between providers. Moreover, it can also be less cost efficient to have a shorter contract period.
Design of Dutch pension plans
Design and level of pension plans vary widely and run from defined contribution (DC) plans to defined benefit (DB) plans, on an earnings-related basis.
The vast majority of all plans are still DB plans. For financial reasons final pay plans have lost popularity, while average pay or indexed average pay plans are being implemented more and more. DC plans are getting more and more popular among Dutch companies because the costs continue to be easily identifiable and manageable. Also IAS19 (IFRS) and low interest rates have contributed to this increasing popularity.
Capital funding is necessary in order to achieve a solid supplement to the AOW (Pay As You Go – PAYG). In the Netherlands, the money intended for supplementary pension schemes may therefore not be included in the company’s risk capital in order to protect the beneficiaries’ rights. Funding must take place through a legal entity which may be a pension fund or an insurance company. By this reason many Dutch DB plans can qualify as DC under international accounting standards.
Tax reliefs play an important role in ensuring an adequate standard of living during retirement. Contributions to pension products are tax-deductible and taxed in the pay-out period (EET system). In addition, marginal tax rates will be lower when retired, offering further benefits. Tax legislation is therefore very influential in the Dutch pension system. The pension facilities encourage members of the public to make financial arrangements during their active lives to ensure adequate old age provisions. More information on taxation is provided at the end of this memo (‘Summary of Most Significant Fiscal Rules’)
From 2012 the retirement age for the state pension (AOW) has been steadily raised until it reaches 67 years in 2021. In 2014 the target retirement age for employee pensions (also referred to as the second pillar pension or supplementary pension) was raised to 67 for all pension scheme participants. At the same time tax facilitated pension accrual was reduced.
In general, supplementary pension schemes are subject to the following fiscal limitations. Pension accrual is maximised to 75 percent average pay at the age of 67 (accrued in 40 years). Assuming a retirement age of 67 years, the maximum accrual percentage under an average salary plan will be 1.875% per year of service and 1.657% per year of service under a final pay plan. The permissible accrual percentages for defined contribution plans will also be reduced. At the same time, different state pension offsets will apply to both final and average salary plans.
The death benefit for married employees as well as for employees with a common household is normally 70% of the projected old age pension. For children, the death benefit is normally 14% of the projected old age pension per child up to the age of 18, 21 or up to 27 if the child is a student or if the child receives a disability benefit. Full orphans will often be entitled to a double amount.
Pensionable salary cap at 100K
The maximum pensionable (fulltime) income was capped at € 100,000 as of January 1st, 2015. The state pension offset (AOW-franchise) must be deducted from this amount. The cap will be indexed annually at the beginning of each calendar year and will be linked to the indexation of the minimum wage.
Introduction net pension
In connection with the capping of pensionable income above €100,000 an alternative was introduced in the form of a net pension or net annuity. In case of earnings above € 100,000 tax facilitated pension contributions may not be made. However it is possible and fiscally advantageous for an employee with earnings above € 100,000 to pay contributions into a net deferred annuity. This means that the contributions for the annuity will be paid out of the employee’s net salary. The contributions for the annuity premium are capped at the equivalent of a 1.875% accrual rate for the part of the earnings above € 100,000. Since these annuity premiums have already been taxed, annuity payments eventually received by the employee will be tax free. The annuity is also exempt from wealth tax (Box 3).
Pension plan Accounting (Defined Contribution and Defined Benefit plans)
Under IFRS (IAS 19 ) and US GAAP, a pension plan can be either defined contribution (DC) or defined benefit (DB); this classification has profound accounting implications.
DC plans are post-employment benefit plans under which an entity pays fixed contributions into a separate entity (a fund) and has no legal or constructive obligation to pay a further contribution if the fund does not hold sufficient assets to pay all employee benefits relating to employee service in the current and prior periods. DC plans do not require valuation, and the accounting requirements are limited to reporting contributions: these can be found on the income statement as contributions due, and on the balance sheet as unpaid/paid contributions.
DB plans are defined as all post-employment benefit plans other than DC plans. For DB plans, the employer’s obligation is to provide the agreed amount of benefits to current and former employees (legal and constructive), and all actuarial and investment risks are retained by the employer. DB plans require actuarial valuation (except for multi-employer plans and insured plans), which makes reporting more complex. Also, the valuation still allows for many assumptions to be made by the sponsoring corporation itself, which may obscure the true financial risk of a Defined Benefit Pension fund.
Although most of the Dutch pension plans are considered a DB in the sense that they provide annuities. The particular Dutch pension system – in which a past service obligation must be fully financed - allows a DB plan to qualify as DC under IAS 19. Most pension funds qualify for accounting purposes as DC.
Summary of Most Significant Fiscal Pension Rules
• Pensionable salary may consist of all salary components, except for the present value of the use of a company car.
• AOW Offset / Social Security Offset: this offset or reduction replaces the part of the salary that is already covered by the General Old Age Act (AOW). This reduction is necessary to determine the pensionable salary. Sometimes the offset is a flat amount not related to the AOW. The offset used may not be lower than the fiscal minimum.
• Fiscal minimum AOW Offset. At least the 100/75 x AOW for a married resident, without supplement and including holiday allowance, must be taken into account (average pay). In 2015 € 12.642.
• Years of service taken into account may also include parental leave, sabbatical leave, study and care leave, and a certain period of involuntary unemployment. Years having worked abroad are only taken into account when related to the company, and as long as the employee did not join any foreign company pension plan.
• Final pay schemes may not include salary components provided on a non-regular basis. In a final pay scheme, Survivors’ benefits may not exceed 1.16% of pensionable earnings per year of (past and future) service. In an average pay scheme, the maximum applicable percentage is 1.313%.
• The target retirement date is part of the pension rules, most often 67. However, members may have the right to either delay or to advance this date. The Act does not rule a minimum retirement date, but the maximum age to retire is the date the Old Age Pension starts plus 5 years.
• A plan’s target retirement date may not be prior to age 67. When a plan’s normal retirement date is either advanced or delayed, the new pension will be based on new actuarial accountings.
• Under final and average pay (DB) plans, the retirement pension must be made payable immediately at the moment any delay results in a pension exceeding 100% of final pensionable salary.
• High/Low pensions. Retirement benefits, once they have become payable, may be higher during the first years after retirement than the payments at a later stage. The smallest payment, however, may not amount to less than 75% of the largest one.
• As from 1st January 2015 a pension scheme must comply with the Reduction of Maximum Pension Accrual of Premium Rates and Maximum Pensionable Income Act (‘Wet Witteveen 2015’). The Act lowers the maximum accrual percentages considerably and caps pensionable income at €100,000. For salaries higher than €100,000 tax-facilitated pension will no longer be accruable on the sum in excess of this limit.
• In connection with the capping of pensionable income above €100,000 an alternative is being introduced as of 1st January 2015 in the form of a net pension or net annuity. It is a new voluntary net savings facility. The deposits are not tax-deductible and the distributions are untaxed. If all conditions are satisfied, a box 3 exemption will apply for either form.