A proposal for a Directive on improving the portability of supplementary pension rights was published by the European Commission last October. Its publication has been controversial within the EU for a number of reasons. This note explains what the proposed Directive aims to achieve and why the controversy has arisen.

The Commission wishes to improve the adaptability of workers by permitting them to be more mobile because it perceives that this will increase labour market adaptability. The proposal's aim is to regulate the terms of access to supplementary (Second Pillar) pension schemes throughout the EU, introduce preserved pension rights and permit the transfer of such rights when a worker moves within the EU. It is perceived that these steps will enhance worker mobility within the EU.

In principle, many of the concepts covered by the proposal are already enshrined in Irish law e.g. pension rights are to be preserved after two years, preserved benefits are to be revalued, a transfer payment may be made on a basis that fairly calculates those rights, and workers are to have rights to information about their accrued pension rights.

But there are some differences: access to a pension scheme must be provided by the age of 21 subject to permitting a qualifying period of one years' service; where preservation does not arise there is a requirement that member benefits are paid or transferred. For example, a departing employee will have a right to have the benefit of employer and employee contributions transferred out of the scheme if they are not preserved. Here, only in a case DC plans might employer contributions be available by way of transfer-out for the benefit of a member who leaves within 2 years. Sometimes, though rarely enough, DB plans may permit the departing employee to have the benefit of a deferred pension based on his own and, sometimes, also the employer contributions. More usually a member will have the right to a refund of his own contributions where he leaves without an entitlement to a preserved benefit. Also, where refunds arise so does tax. The proposal implies that the member would get the full benefit of the non-preserved accrued pension rights, which would, in an Irish scenario, be problematic for trustees. How would they recoup the tax on the refund which would, under current rules, be imposed unless the transfer is made to a PRSA?

Member States are permitted to exempt pay-as-you-go schemes, book reserve arrangements and support relief funds. Also, First Pillar pension arrangements are not covered by the Directive.

So what is all the fuss about?

Even though we are familiar with the concepts of preservation, right to a transfer payment of a preserved benefit calculated on a consistent basis and providing the employee with details of their rights, the actual language of any directive that is adopted might be construed differently, at EU level, than how the Irish model works.

Employers are not required to provide pension benefits but if they do the entry age to a scheme cannot be higher than 21 (subject to the completion of a maximum service period of 1 year). This will impose an economic cost for some employers- possibly those who provide PRSAs on less favourable terms to younger members of the workforce than the benefits provided under a pension scheme for older workers.

Also, the detail of how non-preserved benefits are to be made available to early leavers needs to be ironed out. As far as the public sector is concerned, presumably the State will exempt pay-as-you-go arrangements but may have concerns about funded schemes which are nonetheless exempt from Part III of the Pensions Act. On that point, is it appropriate that public sector funded schemes are not required to pay transfer values but merely give preservation of benefits and/or transfer rights under their own rules when private sector schemes have to offer complete portability?

As far as the European fuss is concerned, a number of protests arise.

Firstly, the legal basis for the Directive is Articles 42 and 94 needs to be addressed. These directives deal with the implementation of such measures in the field of social security as are necessary to provide freedom of movement of workers (Article 42) and measures taken to implement the functioning and establishment of the common market (Article 94). It is surprising that the basis of the proposed directive does not lie in improving labour and social laws since that is what is actual focus appears to be.

Secondly, should cross border mobility be used as a mechanism through which domestic portability of accrued pension entitlements is imposed upon Member States? Equally, should such a measure also regulate access to pension schemes? On this analysis it seems that the proposal is, in effect, introducing regulation by the back door.

Thirdly, the Irish experience of the last 15 years or so, along with transfer of preserved rights, is unusual within the most EU states. Consequently, it is perceived that the proposal will be expensive to implement across the EU.

Fourthly, it appears that certain Member States whose pension systems may not be as well developed as our own are contemplating, or have already established, Pillar 2 arrangements under the auspices of Pillar 1 arrangements thus exempting themselves from the scope of the proposal.

Fifthly, the fact that a Directive would be mandatory with a proposed implementation date of 1st July 2008 appears to be too fast an implementation regime. Member States are given the right to claim an extra 5 years before granting preservation of benefits after 2 years. It is unclear as to whether or not it is intended that rights will be retrospectively granted and there is much protest at such a scenario. Some commentators are suggesting that a recommendation would be preferable to a Directive. (As far as Ireland is concerned this would not be a level playing field approach as our employers could be at a competitive disadvantage.)

Sixthly, the main barrier to cross border portability remains tax barriers. Until these have been eliminated it is impossible to establish an effective system. Apart from that, Member States have varying degrees of pension regimes some of which are well regulated and sophisticated such as our own and others of which are not. Consequently, in some incidences there may not be a receiving vehicle to which the transferring employee could or ought to transfer their benefits.

It is anybody's guess as to whether or not the proposal will be shelved or will be moved along. Given the volume of protest it is likely that it will be shelved or reissued in a substantially modified form. The disparity of EU supplementary pension systems and the fact that some are better developed than others tends to the conclusion that it may be sensible to encourage this development first before dealing with portability within the EU.

March 2006.

For further information please contact Fiona Thornton.