Rising interest rates are a concern for the Netherlands’ transition to the new pension system, according to Aon, with the Future Pensions Act due to be implemented in July 2023.

Aon noted that the calculations for the Future Pensions Act were made at a time when interest rates were much lower than the current rate of more than 2 per cent.

The Future Pensions Act assumes a maximum tax premium of 30 per cent, which will temporarily increase by 3 per cent to enable the transition to the flat premium.

The increase was based on a projected return of 1.5 per cent.

Aon explained that in principle, the premium limit is now fixed for 10 years, but there was an option for interim adjustment if adjustments to the scenario set would lead to an increase or decrease of the premium limit of more than 5 percentage points.

This is now the case with the current economic circumstances.

The 30-year interest rate at the end of September was 2.23 per cent, with the projection efficiency still above that.

Aon noted that an increase in the interest rate from 1.5 per cent to 2.23 per cent meant a reduction in the tax contribution limit to approximately 23.4 per cent.

“A major reduction in the tax contribution limit can mean that it will be difficult for funds to get participants on an equal footing,” commented Aon Wealth Solutions CEO, Frank Driessen.

“Net benefit calculations (the calculations to calculate the effects of the transition) do not take into account a risk premium on shares, which means that a lower premium will also yield less pension.

“The premium then falls for everyone below the (average) premium that funds currently use. This will affect support for the new pension system. For the insured schemes, a reduction in the premium will lead to fewer possibilities for compensation.

“We therefore argue that, now that we are on the eve of the largest transformation in the Netherlands pension country.”

Furthermore, the Explanatory Memorandum stated that the interest has an impact of the required coverage ratio.

Aon noted that this could be read that with a higher interest rate, a higher default funding ratio was required.

The reason for this is that with a higher interest rate, the scope of the redistribution problem as a result of the abolition of the average system is greater.

“We see this reflected in our calculations,” said Driessen. “With funds with a muted premium in the current system, the premium coverage ratio in a risk-neutral passing-on is often higher than 100 per cent at a higher interest rate.”

Aon warned that this could lead to a greater decline when the average premium is abolished, and thus greater compensation would be required.

Additionally, the pension in the current system often increases in value due to the current higher funding ratios, while due to the higher funding ratios, indexation can also be done almost immediately in the current contract, and the buffers do not have to be built up first.

“The special effect that is now occurring is that on the one hand the high interest rates lead to higher funding ratios, so that more buffers appear to be handed out, but that the same high interest rate also means that more money is needed to switch to the new system,” stated Driessen.

“We advise pension funds to also include higher and lower interest rates in their calculations, because the interest rate has a huge impact on the calculations and outcomes for participants.”

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