Ireland's "low" pension coverage: an alternative view

Last week, the Central Statistics Office published the results of its annual Pensions Survey. Among the results highlighted:

• "only" six in 10 Irish workers have some form of private pension coverage.
• This has risen over the past year from 56.3 per cent.
• fewer than one in five workers under the age of 25 had any private pension in place.
• This rises to almost 45 per cent for those aged between 25 and 35, and above 70 per cent among workers over the age of 45.
• Among those who have yet to start a pension, 36 per cent said they had simply never got around to organising it with a further third saying they couldn’t afford it.

Speaking about the findings, Jerry Moriarty, CEO of the Irish Association of Pension Funds (IAPF) noted that just exactly half of all workers are currently contributing to an occupational or private pension, though he did say this was a “welcome improvement” on the 2018 figure. Indeed much of the reaction to the findings was couched in terms that suggested that things would be much better if private pension coverage in Ireland was higher than it is.

For this reason, many commentators (particularly those associated with the pensions industry) have welcomed the government's move towards Automatic Enrolment in the coming years. Under this system, current and new employees aged 23 to 60 who are not already paying into a private pension will be automatically enrolled in a pension scheme where their earnings exceed €20,000 per annum. Those in that age category earning below €20,000 per annum will have the option to join voluntarily.

However, Social Justice Ireland believes that Automatic Enrolment (and incentivising private pensions generally):

1. Represents poor value for money.
2. Is not the most efficient way to provide retirees with a socially acceptable standard of living.
3. Has little to no financial benefit for the State in the short to medium term.
4. Could result in financially vulnerable people missing out on qualifying for means-tested benefits upon retirement;
5. Can only reduce the long-term "financial burden" of pensions on the State if the eventual plan is to reduce the value of the State Pension over time and force people to rely on their private savings.

This money would be better spent on the State Pension, universalising the benefit and ensuring it can be kept at a rate that will allow older people a socially acceptable standard of living.

Typically, the argument in favour of AE revolves around the need to encourage retirement savings, while the arguments most often cited as to why we would want try to incentivise pension savings usually revolve around two strands:

1. The need to ensure a reasonable continuation in the standard of living of people once they retire, reducing people’s reliance on the State in retirement;
2. The need to reduce the long-term financial burden on the State.

These both sound fine in pricincipal, but this ignores the fact that incentivising private pension coverage (as it already does, and will do more of under AE) is a very expensive pursuit for government. In fact is costs more than €2 billion every year, and numerous studies suggest that more than 70 per cent of this cost accrues to the top 20 per cent of earners. This is in a context where we are constantly hearing about financial strains on the State Pension system as Ireland's population ages. In Budget 2020, Government decided it could not afford to give any increase in the State Pension, despite the rising cost of living. So the question must be asked: what does the state get from incentivising private pension coverage this, and would the money be better spent elsewhere?

Research by TILDA indicates that retirement income replacement rates were not associated with quality of life after retirement. Instead they found that it is actual income in retirement, rather than the proportionate change in someone’s income from that received before retirement, that most affects quality of life. TILDA found that all aspects of quality of life, including control, autonomy, self-realisation and pleasure, increase consistently with household income. That's actual income, not proportions of previous income. This would suggest that policies aimed at achieving a certain rate of replacement to pre-retirement income should not be given as much priority as policies seeking to achieve a minimum income floor for retirees – something that the State Pension is best positioned to provide.

It's also worth noting that recent research by the ESRI points out that the relationship between the conventional earnings replacement rate and continuity in living standards is relatively weak and suggests an examination of the sensitivity of replacement rates to things like net income (rather than gross), differences in housing costs before and after retirement, and changes in household size and composition before and after retirement. The study also suggests looking at in-work earnings over a longer time period leading up to retirement (rather than taking final earnings as a snapshot) as a way to get a more realistic picture of the pre-retirement income situation.

With all this in mind, and given that the purpose of any country’s pension system is to allow elderly people to retire from work with dignity, it would make sense that the vast majority of resources within the system be allocated to providing a flat-rate universal pension to all those over the State Retirement Age, and maintaining it at a level which allowed retirees to achieve what might be considered a socially acceptable standard of living. Social Justice Ireland has costed just such a proposal. Read more about it here.

However, the argument most often cited in favour of AE and other incentives to increase private pension savings. is the need to reduce the burden on the State We’ve heard it in different forms, but it usually sounds something like this:

• The number of older people in our society is increasing.
• The ratio of workers to pensioners is going to decrease significantly in the coming decades.
• As a result, the cost of paying the State Pension to those past the State Retirement Age will become unsustainable.
• Automatic Enrolment is part of the strategy for reducing this burden on the state and the best way to ensure people save for their retirement.

This sounds very logical, until you examine it further.

One of the features of the Irish State Pension is its connectivity to the labour market. Eligibility for a pension from the State is based on one of two strands:

• Social insurance contributions (PRSI);
• Means testing.

In other words, you qualify for a State Pension in Ireland on the basis of your labour market history and payment of social insurance contributions, usually over several decades, or you qualify based on a means test that shows that you do not have the financial means to provide for yourself in retirement.

In theory, encouraging people to save for retirement will help reduce their reliance on the State and therefore the financial burden to the exchequer of paying these pensions will be reduced. But the fact that someone has saved a medium-to-large pension pot and so can afford a decent annuity will not reduce the cost to the State. On the contrary, these same people will now likely qualify for a full State Pension as well, assuming the qualification criteria for the State Pension does not change drastically in the meantime. Yes, the individuals involved will be reasonably well off, and certainly much better off in retirement than had they not saved: they will have their State Pension (Contributory) – currently a little less than €13,000 per annum – and whatever money they are receiving from their private pension which was semi-funded by other taxpayers through the generous system of tax relief currently being implemented. But the saving to the State is exactly zero.

How about those who receive a means-tested pension; the State Pension (Non-Contributory)? By definition, they have not qualified for the State Pension (Contributory) due to insufficient PRSI payments, nor have they the necessary financial means to achieve a decent standard of living in retirement. Given that they have insufficient PRSI contributions, it’s safe to assume that their connectivity to the labour market over the preceding decades has not been particularly strong. They were therefore, for the most part, not in a position to avail of the tax-based incentives currently in operation, or to join pension schemes as part of the AE process.

Here, the incentivisation of private pension savings - whether through the current regime or through AE - has produced little saving for the State among this cohort, who are now in receipt of the State Pension (Non-Contributory). There may be situations where such people can contribute sporadically to AE schemes over the periods of time where they are in employment. However, research would suggest that people with such precarious links to the labour force tend to be in low paid employment, and so are prime candidates to opt-out of AE due to affordability issues, while what little money they are able to save may end up being counted against them when applying for a means-tested pension upon reaching the State Retirement Age. In such a case, there would be a saving to the State, but it would be a minimal one and may come at a significant cost to the living standards of some of Ireland's poorest.

Until the State incentive under AE is finalised, it is difficult to comment on the overall cost, but we do know that, at present, the distribution of private pension savings and the associated reliefs is such that more than 70 per cent of the relief granted to private pension contributions accrues to the top 20 per cent of earners and that the cost of all pension-related tax reliefs and exemptions runs into the billions of euros every year. AE will see this increase this by hundreds of millions of euros each year, with the final number unknown until we know the exact format of the incentive.

Social Justice Ireland has been pointing out for years that State incentives to save in private pension schemes are an expensive means of subsidising retirement savings for the better off in society, with little or no financial benefit to the State. The cost to the State will only continue to balloon with the implementation of AE, at a time when the almost 20,000 extra people are qualifying for the State Pension every year, and the Minister for Finance is denying those in receipt of State benefits any increase in Budget 2020.

Yes, it should be acknowledged that, given that pensions are taxed in retirement, the exchequer will receive money back at some point. However, a significant proportion of those who receive relief at the higher marginal rate (currently 40 per cent) will pay tax in retirement at the lower standard rate (currently only 20 per cent), while many – regardless of which rate they received the relief – will have retirement incomes so low they will pay no tax at all.

The arguments in favour of increasing private pension coverage do not stand up. There is little to no fiscal benefit to the exchequer in either the short or the long term, unless the eventual aim is to slowly erode the value of the State Pension over time and force people to rely on their private pension savings - something that should be strongly opposed.

Worryingly, this seems to have been alluded to by Mr. Moriarty of the IAPF, who stated that the numbers of elderly people in Ireland "are set to grow substantially over the next 10-15 years, driving up the cost of retirement provision to the State. If the levels of private and individual pension provision remain as low as they are now, the Government will come under pressure to do more for pensioners as the current State Pension is set at a level to just keep people out of poverty. And, with the growing numbers of people receiving this, it will be difficult to even sustain it.”

A better use of the resources being ear-marked for AE would be to direct them towards funding a flat-rate universal pension payment from the State that would ensure that older people can retire with sufficient income to live life with dignity and without the prospect of exposure to poverty in their retirement.

Social Justice Ireland has proposed a universal pension for Ireland on several occsaions in the past. You can read more about it here.

We have also recently released a podcast featuring an interview with Dr. Michelle Maher of Maynooth University. Michelle discusses the power dynamics and politics of pension policy making: Who exerts the influence? And how did they come to be in such a privileged position? It's a very interesting insight into how we got the pension system we have today, and has implications for the broader policymaking process. You can listen on iTUnes, Spotify, PodBean, Podcast Go, Castbox, Podcast Addict or Podcast Republic.