According to the ruling, employers are liable if an occupational pension provider – such as a pension fund – reduces its benefits in accordance with its statutes. As a result of the continuing low level of interest rates, virtually every employer with occupational pension commitments will soon have to reckon with this. What specific risks lurk.
Legal risk of the employer
Intermediaries like to claim that outsourcing a pension commitment to external providers of occupational pension schemes (e.g. Unterstützungskasse, Pensionskasse, Pensionsfonds) relieves the employer of its responsibility. The opposite is true, as the ruling of the Federal Labor Court (BAG) of June 19, 2012 (Case No. 3 AZR 408/10) shows. The employer is nevertheless liable for the fulfilment of the commitment, § 1 I 3 BetrAVG.
If the return on capital falls short of the approx. 4 % that is usually still calculated in most cases, or if life expectancy extends beyond the calculated estimates, this can lead to a reduction in vested rights and even current pension benefits with an occupational pension provider. Such reductions are regularly provided for in the statutes. Numerous compulsory members of professional pension schemes have already had to deal with cuts. In the case of direct insurance, there are also numerous possibilities to reduce the benefits, even below the so-called guaranteed values. The promised benefits themselves are at risk – the question of a positive real return on contributions should not even be asked.
Errors made by the employer in setting up the occupational pension scheme
The vast majority of employers avoid fee-based advice and allow brokers and advisors to show them fabulous returns in sample calculations. In the past, it was common to promise an interest rate of 4% to 6%, for example, and in some cases to promise considerably more. The “most optimistic” provider was chosen – and at the same time the one with the highest liability potential for the employer.
How uncertain these prospects are, employers can not be explained. Those employers who actually only mean well for their employees and often for themselves, aim to invest the money with a sponsor of the occupational pension scheme, which offers the highest possible – and thus more uncertain – pension, rather than with an offer calculated as cautiously as possible, and thus lower pension, but which is also achievable with the greatest possible probability.
This ignoring of employer risks is reinforced by the fact that the tax advisers or auditors involved do not draw up balance sheets including all potential risks. Thus, more and more often employers get into the situation of over-indebtedness without noticing it. This lack of an overview of one’s own finances and risks quickly leads managers in particular, including board members and managing directors, into personal liability.
Economic risk of the employer
The interest income, tax benefits and employer subsidies (if any) included in occupational pension commitments are not additional collateral, but are already included in the promised pensions. They are already required in full for the commitments made and thus increase the employer’s liability. If the interest income does not reach the calculated level of 4 % to 6 % in some cases, the commitments made can no longer be financed from it. A real danger for any employer.
The fact that some providers of occupational pension schemes have somehow managed to do well in the past, or that the real losses already incurred have been cleverly concealed or bridged, is no proof of the employers’ freedom from liability and the security of the investments there. This is because the low interest rate level has a delayed effect, which is all the stronger for it. Thus, investments were increasingly made in higher-yielding securities, e.g. of southern European countries, which at first temporarily increased investment income, until at some later point the risk thus accepted was realized through write-downs and will be realized even more in the future.
The funds available in the occupational pension system today, around € 480 billion in the form of occupational pension capital investments, are not on top of the contributions but are required as capital cover to finance the commitments, together with up to 4 – 6 % interest per annum on them for the future. These are cover funds for debts (liabilities), which must bear interest for life with a high interest rate guarantee. If only 2 % are earned, there is thus a shortfall of around €10-20 billion a year, rising, as it is also due to compound interest and other contributions. In 25 years, at 4% interest, the € 480 billion debt alone would have to grow to around € 1,280 billion without further contributions, but at 2% interest only € 788 billion in corresponding assets would be available to cover it. This means that around 40% of the capital required to finance the commitments is missing as a result alone – an enormous liability potential for employers.
It is precisely the high liabilities combined with the highly regulated investment and the compulsion to fully cover pension obligations (which, however, does not even exist in the case of Pensionskassen) that narrow the options to such an extent that low interest rates become a problem even faster and more strongly than is often the case abroad.
Political risk or risk of low interest rates
Mathematical analysis shows the simple fact that the continuing low interest rate, without any further risks or political influences, will inevitably lead to a completely certain and foreseeable situation in which the pensions promised cannot be paid in most cases, and therefore a reduction in pledges made in the future as well as in the past, and even in pensions already in payment, is imminent.
The EU would like to use the Solvency II regulation to increase the equity capital or risk capital of external providers of occupational pensions, as well as of insurers. This would roughly halve the risk of insolvency, pension funds and Pensionskassen. The Confederation of German Employers’ Associations opposes this because it would cost employers additional contributions and, at the very least, future pension commitments would have to be reduced to a greater extent. The DGB is also opposed to this because, after all, employers are liable for their occupational pension commitments, and because Pensionskassen and Pensionsfonds would be subject to strict supervisory regulations, which can be seen as wishful thinking. However, this would only shift the problem of necessary cuts in benefits and commitments into the future.
On the other hand, it is consistent and correct to already reduce the new commitments today – and with them the liability risk of the employers. Solvency II does not require anything unreasonable, but simply that providers should address their own risks to the ability to meet their commitments at an early stage. Those who demand an exception to this do not want this and are playing with the liability of employers.
Risk for employees
At the DAX 30 companies, there is a coverage gap of €107 billion in capital assets earmarked for this purpose for the fulfillment of pension commitments amounting to €281 billion. As a corresponding reduction in commitments of around 40% is not permissible, this will result in increased financing requirements in the future.
If a company lives beyond its means, it becomes insolvent. The statistical risk of this is around 1% per year – a large proportion of employees and occupational pensioners will therefore be affected be. However, the company pensioners, i.e. normal employees, then often receive far less from the “Pensionssicherungsverein aG” than was once promised and planned by their own employer for old age – so here too there is a reduction in benefits.
Dr. Johannes Fiala, Lawyer (Munich), MBA Financial Services (Univ.), MM (Univ.), Certified Financial and Investment Advisor (A.F.A.), Banker (www.fiala.de)
Peter A. Schramm, actuary DAV (Diethardt), actuarial expert (www.pkv-gutachter.de)
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About the author
Dr. Johannes Fiala has been working for more than 25 years as a lawyer and attorney with his own law firm in Munich. He is intensively involved in real estate, financial law, tax and insurance law. The numerous stages of his professional career enable him to provide his clients with comprehensive advice and to act as a lawyer in the event of disputes.
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