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Higher contributions possible in defined contribution schemes

Last update: October 11, 2016

We have seen low market interest rates for quite some time now and this does not seem to change any time soon. This has consequences for pensions accrual. 

The contribution the employer pays for a defined contribution scheme is based on a graduated fiscal interest calculation with an actuarial interest rate of 4% or 3%. This means that 4% or 3% whole life return (also after retirement) needs to be yielded to achieve a pension payment that is comparable to the maximum average pay pension that is fiscally allowed (retirement pension of 1.875% of the pensionable salary per year). But due to the low market interest rate this is not attainable: in practice contributions are too low to achieve such a result. The pension savings grow insufficiently, as a result of which the expected pension payments will be lower in case of a defined contribution scheme.

The costs of an average pay pension scheme are based on the market interest rate. Due to the current low market interest rate higher contributions need to be paid to achieve the results required for the promised pension payments. The contributions for an average pay pension are therefore (much) higher than the contributions for a defined contribution scheme based on the 3% and 4% graduated interest calculations.

In other words, the costs of a defined contribution scheme are usually lower and due to the low market interest rate, employees will receive lower pension payments with this scheme. Until recently, the employer could not compensate for this by paying higher contributions, because only 3% and 4% graduated interest calculations were available. 

Graduated interest calculations based on lower actuarial interest rates were already fiscally allowed, but there were no pension insurers who offered these graduated interest calculations for defined contribution schemes. This has now changed. A.s.r., Delta Lloyd, Zwitserleven and other insurers offer graduated interest calculations with actuarial interest rates of 2.5%, 2.0% and lower. This makes it possible to make higher contributions in defined contribution schemes. 

The Tax Authority only approves such graduated interest calculations for pension administrators which also administrate average pay pension schemes, namely insurers and pension funds. Defined contribution funds (PPI’s) are not allowed to offer them (yet). The defined contribution graduated interest calculations based on lower actuarial interest rates are usually approved for a period of 5 years. After this, they will be verified again based on the cost price of an average pay pension scheme.

For companies that want to transfer from an average pay pension scheme to a defined contribution scheme, the graduated interest calculations based on lower actuarial interest rates for defined contribution schemes may be a good option. Until recently, they could not fully spend the pension budget that they spent on the average pay pension scheme before their transfer, because of the 3% and 4% graduated interest calculations. This led to lower pension payments to their retired employees. They can solve this now by using the graduated interest calculations based on lower actuarial interest rates. 

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