MSV Life is proposing a number of tweaks to the third pillar pension rules that should be issued by the end of the year – warning that without them, take-up might be very disappointing.

MSV Life has been gearing up for private pensions for eight years, employing British pensions expert Stuart Fairbairn to start setting out its vision. It was the first company to introduce a retirement product, even when there was no legislation to support it – but now that the framework for third pillar pensions has finally been approved, the company fears that it will not work.

“As the leading provider of life insurance savings and retirements, we have been gearing up for this since a long time ago. We have always worked very closely with the authorities and given our feedback. We also worked very closely with the Pensions Working Group,” CEO David Curmi said.

“We complicate things by talking about first, second and third pillars, but what it all boils down to is having enough savings. The more people save from an early age, the more they can have a dignified time in retirement.” Until now, there were no fiscal incentives to save up for retirement but Bill 64/65, which was unanimously approved in Parliament, was intended to change this.

The government has to come up with a tax regime that is more attractive than what is currently available in the market

However, Mr Curmi believes that the incentives – a tax credit of 15 per cent on up to €1,000 a year – will not be enough to incentivise those who do not already save to do so.

“I do not think the incentive is sufficient to change behaviour, but at least it is a first step,” he said.

The problem for companies mulling over whether to enter the market will be whether the regime will attract new savers – or merely cannibalise those who already put savings into other products.

“The majority of people who were already saving €1,000 a year will opt for this scheme because they get €150 back as a tax credit. Clearly, their financial advisers will recommend that they move to more tax-efficient products,” Mr Curmi said.

However, although the framework has been announced in the four-page bills, the devil – as they say – is in the detail. The government has not yet said at what age people will be able to tap into the retirement fund they have built up. “Will it be 50 or 55? We think it will be 10 years before the actual retirement age,” Mr Fairbairn said. The government has also to determine what percentage of the fund can be withdrawn as a tax-free lump sum. During the consultation period, a figure mentioned was 30 per cent.

The percentage that can be withdrawn as a lump sum could undermine the whole point about saving for retirement – as it will be likely be spent on one-offs like a holiday or family wedding. But Mr Curmi said that other countries learned through experience that, the more flexibility you give to savers, the more likely the scheme will be successful. “If you tell them that they cannot touch their savings before they stop working at 65, for example, it would not work,” he said.

We complicate things by talking about first, second and third pillars, but what it all boils down to is having enough savings

Mr Fairbairn explained that the percentage should also be flexible, explaining that, if people saved up €15,000 over 15 years, they might end up with €20,000.

“Can you really restrict people to taking just 30 per cent as cash and the rest as income when the income will be negligible? I hope that there will be a rule which says that, if your fund is less than a certain amount, you can take it all as cash,” he said. In fact, the UK, which has passed through various reforms to its pension system, has just removed the mandatory annuity condition completely.

However, there is another issue: what happens to the balance, from a fiscal point of view? “We do not know what will happen to the balance to be paid as an annuity. Is it going to be taxed as income, as the first pillar pension is? The first pillar pension is €11,700 for someone retiring today, which means that it is below the income tax thres­hold unless people have other income.

“But what would happen to third pillar pensions? Will the government tax the balance of your fund at your marginal tax rate – which could be 35 per cent? If that is the case, then the product is unlikely to be attractive! There are already more tax efficient products. This is my personal concern. The government has to come up with a tax regime that is more attractive than what is currently available in the market,” Mr Curmi warned.

The tax incentives in most countries are the saver’s marginal rate of tax. “The idea behind this is that you probably pay more tax when you are working than when you retire. So you know that you are getting more tax relief now than you will be paying on the lump sum in the future,” Mr Fairbairn explained.

With or without better fiscal incentives, MSV Life is also looking at other ways to increase the take-up. One of these is to introduce the concept of workplace savings. For years, the successive governments have argued that employers could not afford to pay into a mandatory occupational pension. But that is not the only solution. Mr Fairbairn believes that the UK eventually came up with the best framework – auto-enrolment – but it was a long learning curve.

The state pension in Malta is too generous and it is not sustainable

“In 2006, the UK started off with a system whereby all employers over a particular size have to offer access to a stakeholder pension. That had limited take up and the next version was for employers to also contribute – but only if the employee contributes. The next model was for the employer to contribute three per cent if the employee did. There was still limited take-up.

“The latest version was auto-enrolment where the employee is automatically enrolled in the scheme and three per cent deducted from his or her salary, which the employer matches ­ – but there is an opt out,” Mr Fairbairn explained.

“That model would not work initially in Malta. It would impose a cost on employers which they say they are not in a position to sustain. But we suggested a variation, which would solve it,” Mr Curmi added.

The idea is for auto-enrolment but leaving it voluntary. Every employer over a certain size would offer access to a scheme through the workplace, with all employees automatically enrolled. The employee would decide how much to put aside and the employer would not contribute.

“This would overcome investor inertia as people do not like having to take decisions, fill in applications forms, go to a financial adviser to set things up, and so on. The employee would have the choice to opt out but the reality is that very few do. ”

There is another positive aspect: The scheme would be in place for the next step, should the government ever decide to go for a mandatory second pillar.

Of course, workplace savings do not rely on the government. MSV Life is going to embark on a campaign next year to encourage companies to start offering its schemes, setting the minimum at as little as €50 a month.

MSV Life hopes this will start to promote a culture of savings. Mr Curmi warned that it is not just low-income earners who fail to put anything aside for the future.

“It is a misconception that high income earners have enough savings or assets to keep their standard of living. People are earning high salaries from a young age but they spend all they earn and do not save.

One solution would be for high income earners to forego salary increases and to ask for that money to be set aside in a retirement product. But Fringe Benefit regulations mean that the amount being put aside would still be counted as income when paid out and would be subject to income tax as a fringe benefit. “We have been advising governments for 10 years to change this,” Mr Curmi said with visible frustration. “We understand that there need to be rules on fringe benefits. But there should be a tax credit for this just as there is on individual savings.”

MSV Life is already investing €3.5 million in IT solutions to cope with its retirement products, but how many other providers will have the market share to justify this amount of investment – especially in the early years when take-up of third pillar pensions is slow and mostly cannibalisation? Mr Fairbairn pointed out that there are nine QROPS providers who provide pensions solutions for overseas clients.

“Would they offer individual pensions for €1,000 a year? No. The administration involved means it is not worth it!” he said.

There are five life insurance companies, who would probably all have the infrastructure to look at third pillar pensions. The schemes could also be offered by investment service providerss, general insurance companies and banks.

“You have to have strong investments and policy administration. Insurance companies are ideally placed on both sides. Also insurance companies and banks have very tough regulatory oversight. I prefer not to comment on investment service providers,” Mr Curmi said. The most important thing is that providers are around for the long-term, since the average client relationship would be 25 years.

Should the government or the MFSA try to limit the number of providers, to ensure that all are sustainable? Mr Fairbairn believes that it should be left open, leaving to market forces and competition to work.

“The most important thing is port­ability so, if you are not happy with the underlying investments that the company is making, you should be able to move to another provider. That should all be in the rules.”

The rate of investment return promised by the providers will clearly be a big selling point and there is no indication of how this risk appetite would be regulated in the rules. “There will be regulation and safeguards, for example that assets would have to be held under custody,” Mr Fairbairn said.

Other selling points will be the products themselves and how suitable they are for different ages, incomes and payments, and also product charges. They both hope that there will be financial literacy campaigns to ensure that people understand these new concepts.

Of course, the third pillar pension is not only about the adequacy of people’s income in retirement but also about the sustainability of pensions from the government’s point of view. Next spring an EU report will focus on public finances in relation to demographic trends.

“The assumptions have been released and the impact on public finance looks quite horrendous. At the moment, pensions account for 10 per cent of GDP but by 2050, that will go up to 16 per cent.

“The state pension in Malta is too generous and it is not sustainable. The national average wage here is €16,100 and that in the UK it is €35,000. But the state pension in Malta is €11,000 while in the UK it is just €7,000. That is a huge difference!” Mr Fairbairn said.

“The UK has realised that state pension is there to provide a level of dignity, a phrase [pensions expert] David Spiteri Gingell always uses. In the UK they have slowly but surely restricted increases in state pensions so that they were gradually whittled down compared to income. And what they saved as pension payments went as tax in­centives to employers and people to do themselves. That is what we need to do. But it will take a long time as you cannot reduce a state pension. We need to cap it now...”

Mr Curmi nodded.

“A pension promise is easy to make but expensive to keep. This is like linking your retirement age to longevity. Governments don’t like to say it as it is unpopular. But it is also something that we are going to have to do at some stage.

“Every country has changed tack and Malta is in a fortunate position. Since we are the last to introduce voluntary savings, we should learn from everyone else’s experience – not through our mistakes.”