National Retirement Savings Systems in Australia, Chile, New Zealand and the United Kingdom: Lessons for the United States
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The Retirement
Security Project
National
Retirement
Savings Systems
in Australia, Chile,
New Zealand
and the United
Kingdom:
Lessons for the
United States
David C. John and
Ruth Levine
Nº 2009-1
T h e R e t i re m e n t S e c u r i t y P ro j e c t
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United StatesCommon
sense
reforms,
real world
results
w w w. re t i re m e n t s e c u r i t y p ro j e c t . o rg
Advisory Board The Retirement Security Project
is supported by The Pew
Bruce Bartlett
Washington Times Columnist Charitable Trusts in partnership
Michael Graetz with Georgetown University's
Justus S. Hotchkiss Professor of Law,
Yale Law School Public Policy Institute and the
Daniel Halperin Brookings Institution. This paper
Stanley S. Surrey Professor of Law,
Harvard Law School
is a part of the Retirement
Nancy Killefer
Director, McKinsey & Co. Security Project's ongoing
Robert Rubin project on promoting retirement
Director, Chairman of the Executive
Committee and Member of the Office
of the Chairman, Citigroup Inc.
security through lifetime
John Shoven retirement income, which is
Charles R. Schwab Professor of
Economics and Director, Stanford funded by the Rockefeller
Institute for Economic Policy Research,
Stanford University Foundation.
C. Eugene Steuerle
Senior Fellow, The Urban Institute
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
1775 Massachusetts Ave., NW, Washington, DC 20036 • p: 202.741.6524 • f: 202.741.6515 • www.retirementsecurityproject.orgIntroduction labor force is increasingly delayed by
Financial security in retirement is an prolonged higher education, thus
important goal for working families not shortening the number of years that a
only in the United States. Retirees across worker saves for old age. Although a
the globe typically rely on a combination good argument can be made for
of public pensions (such as the U.S. restoring those lost years by delaying
Social Security system), private savings, retirement, such a move is controversial
and corporate pensions to pay their way and in many countries has yet to be
after their paychecks have stopped. effectively implemented. In the United
Modern industrialized countries, States pressures on the pension system
embracing the three-pillar philosophy began to grow as the oldest of the baby-
advocated by the World Bank and boomer generation (those born between
others, have created complex pension 1946 and 1964, became eligible for early
landscapes that combine public and retirement in January 2008. The number
private provisions of old-age income.1 of boomers who reach retirement will
steadily increase until 2030, when the entire
However, achieving this security is an boomer generation will be eligible for full
increasing challenge at a time when retirement benefits. Because succeeding
structural and demographic trends are generations will be smaller, there will be
putting ever-rising strains on fewer workers to pay boomers all
government-paid income programs for promised Social Security and health care
the retired. Over the last several benefits at the same time that health
decades, many national pension care and other costs are growing.
systems have shifted some of the
financial risk of retirement from society to As a result, Americans today face
the individual. Employers have shifted precarious retirement prospects that
from defined benefit (DB) pensions, have only been made worse by the
which guarantee retirees a regular recession that began in 2007. In 2008,
payment every month no matter how 64 percent of Social Security recipients
long they live, to defined contribution depended on the program for half or
(DC) retirement savings plans, which more of their income.2 The program
leave it to retirees to put aside enough provided 90 percent of income or more
money during their working lives to last for about one-third of recipients. Facing
them through their retired years. both funding pressures on Social
Security and the results of the shift from
Demographically, multiple factors are at defined benefit to defined contribution
play. As life expectancy increases, plans, it is only logical that a growing
pension accumulation must be larger to proportion of Americans lack confidence
fund longer retirement. Entrance into the in their ability to live comfortably in
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
3retirement. The Gallup Economy and This paper examines the current and
Personal Finance Poll indicates that only planned retirement savings plans of four
46 percent of American workers in 2007 countries with unique pension systems—
expected to have sufficient funds to live Australia, Chile, New Zealand, and the
comfortably in retirement, compared with United Kingdom—and attempts to draw
59 percent five years earlier.3 lessons for U.S. policymakers to use in
their efforts to build a more sustainable
These trends are not unique to the pension system that can provide increasing
United States. Facing similar dilemmas, retirement security for future generations.
the rich countries of the Organization for
Economic Cooperation and Development Chile
(OECD) have cut their public pension In 1981 Chile replaced its pay-as-you-go
promises by an average of 22 percent Social Security system with a fully
since 1990 through various pension funded private pension system based on
reforms.4 These cuts have been implemented individual accounts managed by private
in a variety of ways, many of which are pension fund managers known as AFPs
so complex that their full effect will not (Administradoras de Fondos de Pensiones).
be apparent to workers until they retire. All new wage and salary workers joining
the workforce after 1981 had to join the
A few countries have coped with AFP system, while existing workers as of
projected rises in public pension costs that date had the option of either moving
by adding a personal savings element to the new system or accepting
that either supplements or in a few whatever benefit the old system would
cases replaces the tax-financed public be able to pay. Aided by major
pension. The rationale behind these incentives to switch to the post-1981
savings systems is that individuals system, 97 percent of Chileans who
should bear a greater portion of the cost contributed to a pension plan were in the
of their own retirements. Because it is new system by 2004.
naïve to expect every worker to become
a financial expert, these countries have Structure of the System
created systems that make it easier for In the individual accounts system, all
workers both to participate in investment formally employed workers are required
decisions and to make appropriate to have 10 percent of their earnings
investment choices. Using either automatically deducted to fund their
mandatory participation or automatic retirement as well as disability and
enrollment, the national savings systems survivor insurance. In addition, workers
studied in this paper attempt to ensure have an additional 2–3 percent of pay
that individuals will see their savings deducted to cover administrative costs
grow without having to acquire extensive of their accounts, for a total deduction of
knowledge or pay for expensive 12–13 percent.5 Employers are required
individualized investment advice. to send the employees’ contributions to
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
4the pension administrator of the However, to date, few if any retirees have
employee’s choice, which in turn credits financed their pensions solely through
it to the fund or funds chosen by the contributions. Almost all of those who
employee. Currently employees can have retired under the 1981 system had
choose from among five pension fund at least a portion of their pensions
administrators, each of which offers the financed through recognition bonds.
four types of funds that are approved by
the government regulator.6 Recent Changes
Until a reform enacted in 2008, the
In addition to the mandatory contribution, public pillar guaranteed a minimum
workers are allowed to make voluntary pension for participants whose pension
contributions to either their AFP account income after twenty years of contributions
or another voluntary retirement savings fell below 80 percent of the statutory
account. Employers are not required to minimum salary. The minimum pension
make any contribution. Only about 10 was paid on top of the worker’s regular
percent of workers make voluntary pension to bring it to a certain level. In
contributions.7 Self-employed workers January 2009 the minimum monthly
may participate in the system voluntarily. salary was 159,000 pesos ($254.40),
and the minimum pension was 127,000
The transition to the fully funded system pesos ($203.50).10 Additionally, for
in Chile was aided by a fiscal surplus workers who did not qualify for the
resulting in large part from the sale into minimum pension, a means-tested basic
the private sector of companies that had pension, called PASIS, gave benefits
formerly been nationalized and from the equal to 50 percent of the minimum
large number of working people relative pension regardless of an individual’s
to retirees.8 The government continued contributions to the system.
to fund the defined benefit pensions of
the workers in 1981 who chose to The 2008 reform came in response to
remain in the old system and gave concerns raised in a 2006 report about
recognition bonds to the workers who coverage of both private and public
switched to the new system. These pensions, as well as about high costs
bonds, which mature when the individual among the five pension administrators.
reaches retirement age, pay a lump sum Passed in March 2008, the Sistema de
into their account that is based on their Pensiones Solidarias revamped the
last twelve monthly contributions to the public pillar, increased participation in the
old system adjusted for both the number AFP system, and addressed several
of years they participated in that system other problems with the system. The
and an annuity factor.9 The switch to the basic PASIS pension, renamed the basic
fully funded system is now nearly solidarity pension (Pensión Básica Solidaria
complete; by 2025 the defined benefit (PBS), was increased from 48,000 to
pensions will be fully phased out. 60,000 pesos per month in 2008, and
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
5eligibility was broadened to workers in fund with the lowest fees and allows
the bottom 40 percent of the income funds to contract out the administration
distribution with twenty years of residency of individual accounts. To increase the
in Chile. This is a noncontributory, number of funds and competition in the
means-tested pension paid to workers industry, insurance agencies will be able
who have no other pension. to set up pension fund administrators as
subsidiaries. To encourage voluntary
The old minimum pension guarantee was contributions to private accounts among
replaced by the Aporte Previsional middle-income workers, those who
Solidario (APS) for those who have enroll in and contribute to voluntary
contributed to a pension plan. The new accounts will be eligible for a subsidy of
program removes the former requirement 15 percent of annual contributions up to
that a worker must contribute to a 1.5 million pesos. Finally, a fund was set
pension account for twenty years in up for financial education to create a
order to qualify for the guarantee. The network of advisers for account holders.
solidarity contribution provides up to
17,000 pesos a month for individuals Participation and Coverage
who have a self-financed monthly A major criticism of the 1981 law was
pension of between 50,000 and 70,000 that the new system failed to cover
pesos in 2008.11 That amount gradually significant portions of the Chilean
rises to 255,000 pesos a month by workforce. Although the reform included
2012. a mandatory contribution rate for all
wage and salary workers, only 55 percent
The new solidarity pension and other of the labor force actively contributed in
reforms are projected to cost 2.9 percent 2004, slightly below the pre-1981
of GDP annually starting in 2008, falling participation rate of around 63 percent.12
to 1.3 percent of GDP by 2025. These In both the old system as well as the
costs are to be financed by a new 1981 savings based system which
pension reserve fund, which receives replaced it, the self-employed, who had
both part of the budget surplus (8.7 the option of participating or not, made up
percent of GDP in 2007) and revenues a significant share of the nonparticipants.
from the production of copper. The fund In 2007 the self-employed constituted an
had about 1.1 billion pesos in 2008. estimated 28 percent of the workforce, but
only about a quarter of them regularly
Other reforms to the pension system contributed to an account managed by a
passed in 2008 include mandating pension fund administrator. Only about
participation of the self-employed and 60 percent of the self-employed were
eliminating monthly fixed administrative affiliated with an administrator at all, and
fees that exist in addition to earnings- only 40 percent of those workers
based fees. The law also assigns new contributed regularly.13
labor force entrants automatically to the
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
6In addition, many Chileans work in the Returns and Costs
formal economy for just part of the year Rates of return on pension fund assets
or spend some time in the informal have improved since the new system
economy, and they do not contribute in began in 1981. A 2006 study found that
months when they are not formally accounts managed by pension fund
employed.14 A growing proportion of the administrators had earned an annual
labor force is employed in temporary, average rate of return of 6.8 percent
seasonal, or part-time jobs rather than in during the previous ten years.17 When
year-round, full-time jobs for the same the system began in 1981, these funds
employer. Thus, while 55 percent of the were limited to investments in Chilean
labor force participated in 2004, it is assets, with a large proportion going into
unlikely that the same 55 percent Chilean government bonds. However,
contributed for all twelve months of that as the size of the funds grew, the supply
year. One study found that only 20 percent of bonds and other domestic
of workers contributed 90 percent of the investments was unable to absorb all of
time, while a similar proportion contributed the savings. As a result, allowable
only 10 percent of the time.15 investments were liberalized to include
non-Chilean assets, a development that
Sporadic work histories also limited the contributed to increasing the return on
effectiveness of the publicly financed the funds. However, investment
safety net before the 2008 reforms. A regulations remain quite complex.
large proportion of contributors to
managed pension accounts had a The pension funds are allowed to offer
pension financed by their savings that only four types of investment funds,
was lower than the minimum pension which differ in the percentage of total
guarantee. Unfortunately, a large and assets that they may invest in equities
growing number of these workers would and government bonds. Chilean workers
also have fewer than the required twenty are allowed to place their contributions in
years of contributions, thus making them a maximum of two of the four funds.
ineligible to receive the minimum pension Each of the four types of funds has a
even though it was designed to assist performance standard equal to the
lower-income workers. In 2006 one average rate of return of all of the funds
study showed that 45 percent of pension of that type over the previous three years.
fund contributors had savings that would Each fund also has reserves it must use
result in a retirement benefit that was if it fails to meet the performance
below the guaranteed level. The study standard. The government dissolves any
further predicted that by 2025 virtually all fund whose reserves are exhausted.
workers with pensions below that level
would not have accumulated the required Fees and other costs imposed on savers
twenty years of savings necessary to have been another source of controversy.
receive the guaranteed amount.16 Despite efforts to increase competitiveness
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
7of the pension funds, average costs rose preretirement income. These high
5 percent between 1982 and 2003.18 average replacement rates are likely the
Until 2008 two types of monthly fees result of the relatively high mandatory
were allowed—-fixed administrative fees, saving rate of 10 percent. However,
and variable fees based on earnings— because the same savings rate is applied
although only two funds maintained their to all income levels, the system also has
fixed fee. As noted, the fixed fees were very limited progressivity. A more serious
eliminated in the 2008 reforms. The problem is that the average replacement
average earnings fee in 2008 was 1.71 rate for women is projected to be nearly
percent of a workers’ salary, a rate that twenty percentage points below that for
was higher than all but two of the Latin males.20 On the plus side, the 10 percent
American countries with a Chilean-style contribution rate may have contributed
individual accounts system.19 to the increase in national saving after
the 1981 reform: as a proportion of GDP,
Because they compete by offering gifts national saving grew from less than 1
and other incentives to potential percent in 1981 to 25 percent in 1990
members, the pension funds have had and more recently to 60 percent.21
little incentive to lower fees. Fees have
also remained high, because until 2008 it Once pensioners reach retirement age,
was very difficult for new funds to be which is 65 for men and 60 for women,
formed, thus eliminating another level of they can choose to annuitize their
potential competition. The law requires retirement immediately, take programmed
that the funds charge the same fees to withdrawals, or take a deferred annuity
all members regardless of the size of with programmed withdrawals in the
their accounts, a structure that effectively interim. Early retirement is allowed for
subsidizes members with larger accounts. workers whose savings can fund a
Needless to say, the fixed fees have had retirement benefit equal to a set proportion
a greater effect on the smaller account of their average earnings over the
balances of low-wage earners. Decreasing previous ten years. The benefit also
costs and increasing administrative simplicity must exceed the minimum pension by a
of the pension funds were among the certain level. Initially, workers had to
main goals of the 2008 legislation. have a retirement benefit equal to at
least 50 percent of their earnings and
Retirement Income 110 percent of the minimum guaranteed
Despite problems with relatively low pension. Starting in 2004 these
coverage and high administrative costs, thresholds are gradually being raised;
the Chilean system’s average income they will reach 70 percent and 150
replacement rates are projected to be on percent by August 2010.22 Previously
par with OECD countries. Estimates nearly 65 percent of men took early
show that after 2020, retirees will on retirement, with their average retirement
average replace 44 percent of their age being 56.
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
8Before 2004 high transaction costs may for contributions was enacted in 1992. It
have discouraged some individuals from was built upon a superannuation system
taking their income as an annuity, but created in 1986 through a centralized
even so in 2000, more than half of retirees wage settlement that resulted in an
chose annuities.23 Retirees could employer contribution of 3 percent of
purchase an annuity from either an earnings into individual retirement
insurance company or through an accounts.26 Contributions to an SG
intermediary. Fees were unregulated and account are taxed when money goes
reached up to 6 percent of the value of into the account, as earnings
the annuity.24 accumulate, and when savings are
withdrawn before the worker reaches the
Reform in 2004 required providers to minimum distribution age of 55 to 60
have an electronic bidding system so depending on a worker’s birth year.
that the costs of different products were Before 2007, all distributions were taxed.
clear for retirees. In addition, fees were By one estimate, taxes at various stages
capped at a level that is reviewed every of the process effectively reduced the
two years, a move that reduced the fees mandatory 9 percent contribution rate to
by more than half. Still, retirees who 7.65 percent before 2007.27
purchase annuities tend to have larger
accounts than those who choose How the System Works
programmed withdrawals. This Superannuation is available to all workers
discrepancy occurs in part because between the ages of 18 and 65 who
individuals whose accounts near the earn more than $450 (in Australian
minimum pension level are required to dollars) per month, although employers
take a programmed withdrawal so that a can also choose to contribute on behalf
small proportion of their accounts will be of lower-earning workers. The earnings
paid as fees rather than as retirement threshold for low-income workers was
income.25 Pension funds also charge a put in place to reduce the number of
fee for programmed withdrawals. small accounts that would be subject to
proportionally high administrative fees,
Australia although the threshold has not been
Australia’s mandatory superannuation changed since the SG system began. In
guarantee (SG) retirement savings system 2006 only 7 percent of employees
requires employers to contribute an earned less than $450 per month.28
amount equal to 9 percent of employee Since 2007 annual tax-advantaged
earnings to individual retirement account contributions have been capped at $50,000;
funds. In addition, there is a means- individuals may also make additional
tested, tax-financed Age Pension for all voluntary contributions of up to $150,000
individuals whose income and assets are annually, but with no tax advantage.
below certain statutory levels. The Age Individuals do not pay taxes on mandatory
Pension has been in place since 1909, contributions, although the investment
while the SG system’s universal mandate fund they go into pays taxes at a rate of
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
915 percent on both contributions and below 25 percent of male weekly
earnings. Contributions above $50,000 earnings, it is adjusted upward at the
annually are taxed at a rate of 31.5 percent. same time. Benefits are not taxed.
The system for choosing investment The income test reduces Age Pension
funds changed substantially in 2005, payments by 40 cents for each dollar
when employees were given the ability to earned above the “free area” amount
choose which superannuation fund and equal to $138 per fortnight for singles
investment portfolio to use. Employees and 20 cents for each dollar of income
were also allowed to decide whether to above $240 per fortnight for couples.
add voluntary savings over the 9 percent Adjustments are made for children.31
rate. If an employee fails to make an The asset test differs for homeowners
active choice, no additional savings are and non-homeowners, though 90
contributed, the money goes to a percent of the pensioners who did not
superannuation fund determined by the receive the Age Pension in 2004 were
relevant industry or employer, and an made ineligible by their income rather
investment portfolio is chosen by a fund than their assets.32, 33 Because home
trustee.29 The savings in all values are not part of the asset test,
superannuation funds are fully vested, there have been charges that the system
portable, and preserved until the is tilted toward benefiting wealthier
contributor turns age 55, the earliest age individuals who are more likely both to
at which they can be withdrawn. own a substantial home and to be able
to adjust their assets to receive a benefit.
The Age Pension, the public pillar of the Because receiving the Age Pension
Australian pension system, provides a brings with it additional government-
means-tested benefit for all individuals of provided benefits, workers try to adjust
retirement age, regardless of their their retirement incomes to qualify for at
contributions history. The amount of the least a minimal amount.
benefit is determined by both an asset
and an income test. In addition, Participation and Coverage
recipients must have lived in Australia for Roughly two-thirds of retirees currently
at least ten years and for five receive the full value of the Age Pension,
consecutive years prior to applying.30 and just under 50 percent of all pension
Workers who qualified for the full Age wealth is publicly provided.34 These
Pension received a maximum fortnightly numbers, however, are expected to
payment in 2008 of $562 for singles and decrease over time as the
$939 for couples. This is equal to about superannuation guarantee system
25 percent of average male earnings. matures. The existing mandatory saving
Payments are indexed to inflation and rate of 9 percent was reached only in
are usually adjusted twice annually. In 2002, and the proportion of Australian
addition, if the maximum benefit falls workers with superannuation guarantee
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
10accounts has increased from under 50 seeking comments on how to reduce
percent in 1988 to over 90 percent in lost participants was the first step
2004.35 As more of these accounts grow, toward creating a system to track and
the government expects fewer people to automatically consolidate lost accounts.
be eligible for the Age Pension, thus
reducing government outlays. Additionally, the mandatory nature of the
system may mean that superannuation
In recent years, Australian pensioners fund contributions crowd out private
have on average seen large increases in household saving. A study by Connolly
their account balances: by 49 percent and Kohler using annual data from 1966
between 2004 and 2006 for men; and by to 2002 found that every dollar saved by
30 percent for women. In the aggregate, households as part of the 9 percent
superannuation funds increased from mandatory contribution reduced voluntary
$135 billion in 1991 to $625 billion in saving by 38 cents. Therefore, net new
2004. Australia now has more money per saving as a result of the SG system is
capita invested in managed funds than about 62 cents per dollar saved.41
any other country, in part because of the
new system.36 Projections show that by Returns and Costs
2020 the total value of superannuation Before the sharp drop in world markets
fund assets will exceed 110 percent of that began in the second half of 2008,
GDP.37 However, these projections were the average five-year nominal returns on
made before the global financial outlook balanced SG retirement funds in 2008
worsened, and in 2008, the average value were roughly 8 percent, an increase over
of SG funds declined by about 19.7 percent.38 the 5 percent yields from 2004 and
2005.42 But even before the market
One weakness in the SG system is that drop, some concerns were expressed
the self-employed are exempt from the that returns were too low. Although
mandatory savings requirement. Policymakers employees were given a choice
hope that a new superannuation regarding which superannuation fund to
clearinghouse (discussed below) will help join starting in 2005, there remain no
increase participation among these performance standards or regulations
workers. Another problem is the large such as the US Qualified Default
number of “lost accounts” created when Investment Alternative to specify how an
participants switch jobs without employee’s retirement savings in a 401k-
consolidating their accounts. By 2008 type account should be invested if the
there were over 6.4 million lost accounts39 employee does not designate a fund.
containing $12.9 billion in assets40, Thus, each fund could have a different
accounting for one in five SG accounts or mix of investment types, making direct
one lost account for every two Australian comparisons between funds difficult.
workers. A government discussion
paper released in November 2008 There are four major types of SG
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
11investment alternatives in the market: The 2005 legislation allowing employees
• Industry funds, set up by unions and to choose their preferred superannuation
groups of employers, run by trustees, fund and investment portfolio was
and open only to members intended in part to improve the net
• Public-sector funds, limited to investment returns by using competition
government employees to put downward pressure on
• Corporate funds, also known as unnecessarily high fees. However, initial
wholesale funds, run by financial signs were discouraging. In a survey by
institutions for groups of employers the Australia and New Zealand Banking
• Retail funds, open to individual Group after the reform passed, only 55
investors. percent of respondents were aware of
their ability to choose a fund and
Individual retail funds have been available investment portfolio. Additionally, while
since the first superannuation reform in 77 percent of respondents could identify
1986. By 2008 self-managed and other the best indicator of fund performance
retail funds held nearly 50 percent of all as returns minus fees, only 37 percent
assets, while industry funds accounted indicated that they would take fees and
for 17 percent of assets, public sector funds charges into account when choosing a
15 percent, and corporate funds 5 percent.43 fund.46
Administrative costs charged by these A new superannuation clearinghouse,
funds remain a concern. Annual scheduled to begin operation on July 1,
expense rates on corporate funds 2009, may help to reduce fees and will
between $50 million and $250 million in almost certainly make it easier for
size were roughly 1 percent of assets in employers to encourage their employees
2001, while smaller retail funds were to choose which SG fund to join.47
more expensive at around 2 percent of Employers will be able to send all of their
fund assets. Retail funds have higher employees’ SG contributions to the
total administrative costs because many clearinghouse, which will allocate the
of them charge both entry and exit fees individual contributions to the individual
as well as additional annual management employee’s chosen fund. According to
fees; these funds also pay more taxes the government, use of the new
than public sector funds.44 Even today, clearinghouse will be optional and free to
fees are higher than those charged for all employers with fewer than 20
comparable investments in other employees.48 Operation of the
countries, averaging 1.25 percent of clearinghouse will be contracted out to
assets according to Sen. Nick Sherry, the private sector.
Australia’s Assistant Treasurer.45 Sherry
says that his government hopes to see
fees decline over time to 1 percent or
less.
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
12Retirement Income system is still relatively new. The net
At the time of retirement, which is 65 replacement rate of an average earner
years for men and 63 years for women, relying on the Age Pension is only 37
pensioners can choose to take their percent, and so average replacement
benefits as a lump sum or as an income rates should clearly increase as the SG
stream.49 Despite tax incentives for system continues to mature.52
retirees to take an income stream, a
large majority opt for a lump sum. Of The distribution of retirement wealth is
those who retired in 2000, 75 percent of also important in preventing old-age
new retirees chose a lump sum.50 Since poverty. The OECD uses a measure of
July 1, 2007, retirees 60 or older may progressivity of the pension system that
receive funds in any form from their relates the distribution of pension
account tax free if it was invested in an earnings to the distribution of
SG fund that paid taxes during the preretirement lifetime earnings.53 On this
accumulation stage. Almost all SG measure the reference points are a pure
funds are subject to these taxes. basic scheme that would give a flat-rate
Workers who retire early can begin to pension to all retirees (100 on the index)
receive SG funds as soon as age 55 if and a pure insurance scheme that would
they were born before July 1, 1960. simply aim to provide a 100 percent
This minimum distribution age gradually replacement rate of preretirement income
increases for those born after that date (0 on the index). Australia scores a 73 on
until it reaches age 60 for those born this measure, which compares favorably
after July 1, 1964.51 to the OECD average of 37 and the U.S.
score of 51. The progressivity of the
For the average male Australian earner in Australian system results in part from the
2007, average retirement income was 43 size of benefit given by the Age Pension;
percent of preretirement income, while in 1991 it was surpassed only by Canada
the replacement rate net of taxes was among the Group of Seven countries when
56.4 percent. These are somewhat comparing minimum pension values.54
lower than the OECD averages of 59
percent and 70 percent. Although cross- Options for increasing retirement income
country comparisons of relative through the SG system include encouraging
replacement rates are complex, higher workforce participation by
Australians’ retirement incomes on reducing early retirement and increasing
average are negatively affected by the the number of hours worked among 55-
degree to which they rely on the Age to 64-year-olds. Currently labor force
Pension. Two-thirds of retirees receive participation rates are ten percentage
the full amount of the public benefit, and points lower for this age group than for
only 21 percent are able to live the rest of the working-age population,
principally off of the proceeds of their SG and many older workers are part-time
accounts, although this proportion employees. Keeping contributors in the
mainly reflects the fact that the SG workforce until age 65 would increase
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
13their balances significantly, although existing employees and self-employed
nearly 40 percent of Australians aged 55 individuals could join the plan voluntarily.
to 64 suffer from at least one major Workers who are automatically enrolled
health problem, making it difficult to may opt out of the system completely as
maintain working hours.55 long as they do so between the
fourteenth and fifty-sixth day of their
This and other changes may be possible employment. Those who remain in
after an Australian government commission KiwiSaver automatically save 4 percent
reviewing the nation’s tax system reports of their income through April 1, 2009
in March 2009. That panel is charged and 2 percent after that date57 unless
with reviewing the SG system to determine they choose a higher savings rate58. In
if it meets the objectives of being broad addition to the 2 percent and 4 percent
and adequate; acceptable to individuals; savings rates, there is an 8 percent
“robust” in dealing with investment, option. The plan does not allow any other
inflation and longevity risk; simple and savings levels, but a worker can change
approachable; and sustainable.56 from one level to the other at any time.
New Zealand Participants can direct their savings into
New Zealand’s KiwiSaver program is the any of the investment funds that have
world’s first nationwide, automatically been registered with the government.
enrolled, government-sponsored, Employees who do not actively make an
voluntary retirement saving system. investment choice are moved into an
Launched on July 1, 2007, the program employer-chosen fund. If the employer
supplements the New Zealand has not selected a default fund, the
Superannuation system, which pays a government randomly assigns the
flat-rate individual pension currently individual to one of six very
financed from general tax revenues to all conservatively managed default funds.59
who have lived in New Zealand for at
least ten years. By using an automatic The earnings on an individual’s retirement
enrollment system based on behavioral contributions are taxed, although balances
economics, KiwiSaver takes advantage are not taxed upon removal. Contributions
of workers’ natural inertia to increase are locked into the system but are
rates of retirement saving and direct portable across jobs and funds. Early
workers into more appropriate withdrawal of KiwiSaver funds is allowed
investment choices than they might have only for serious illness, significant
made under a traditional savings system. financial hardship, or absence from New
Zealand (presumably on a semi-permanent
The Structure of KiwiSaver and New basis) for at least twelve months. In
Zealand Superannuation addition, after three years of contributions,
After KiwiSaver’s launch, all employees a member can make a one-time
were automatically enrolled in a saving withdrawal for the down payment on a
plan upon starting a new job, while first home.
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
14In normal circumstances, KiwiSaver optional additional contributions to KiwiSaver.
contributions may be removed at the Up to 4 percent of an employee’s gross
later of either age 65 or five years after pay, when contributed to a KiwiSaver
membership began. Members who have plan, is exempt from the Specified
been participating for twelve months or Superannuation Contribution Withholding
longer may interrupt their contributions Tax, which is paid by the employer.
for anywhere from three months to five Employers also receive a tax credit of up
years as a “contributions holiday.” to $20 a week per KiwiSaver employee.62
Additionally, some employer-sponsored
plans allow members to divert up to half The public portion of the retirement saving
of their contribution to pay a mortgage system is called New Zealand
under the theory that mortgage-free Superannuation (NZS). This program aims
homeownership contributes to future to provide more than a basic pension
retirement wealth.60 but less than complete replacement of
preretirement earnings. Put in place in
Although participation in KiwiSaver initially 1977, the NZS provides a universal, flat-
was to be encouraged only through rate pension that is required to fall between
automatic enrollment techniques, the 65 percent and 72.5 percent of the net
government later decided to add a average earnings of employed New
series of financial incentives. Available Zealanders.63 Eligibility is based simply
through April 1, 2009, the employee- on whether a worker has been a legal
targeted incentives are: resident of New Zealand for ten years;
• A “kick-start,” $1,000 tax-free there is no income or asset test used in
government contribution to each determining eligibility. Benefits are subject
KiwiSaver account upon enrollment, to income tax. Because it continues for
• A tax credit matching up to $20 of the entire life of a New Zealander after
contributions per week between age retirement, NZS also protects against the
18 and retirement, risk of outliving one’s assets.
• A fee subsidy of $20 every six
months, and Faced with estimates that the cost of NZS
• A first home deposit (down payment) will rise to a point that future governments
subsidy of up to $5,000 after three years will be unable to fund it through general
of contributing to a KiwiSaver account. revenues alone, New Zealand created a
buffer fund in 2001 that is in theory
Beginning in April 2008 employers were much like the U.S. Social Security trust
also required to match employees’ fund. The government invests roughly $2
KiwiSaver contributions at a rate initially billion annually (in New Zealand dollars)
equal to 1 percent of income, to be into the fund. No withdrawals are to be
increased to 4 percent by 2011.61 made until 2027; thereafter the fund will
Employers are rewarded as well for both begin to pay for roughly 15 percent of
their compliance with the match and any the cost of NZS benefits.
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
15Changes as of April 1, 2009 Participation and Coverage
On December 15, 2008, a newly elected Since KiwiSaver is still very young, it is
government changed the incentives to difficult to say how the program will
savers in order to reduce the overall cost affect retirement saving patterns in the
of the program. At the same time, future. Thus far, however, it appears that
minimum savings levels were changed to the participation rates among workers
make it easier for lower-income workers are exceeding the assumptions made by
to participate. The changes went into the Treasury before the program began.
effect on April 1, 2009.64 At that time, the Treasury predicted only
a 7 percent participation among workers
The revised law eliminated the annual aged 18 to 64 in 2008, rising to 25
government subsidy of $40 to defray percent in 2014.65 However, 39 percent
administrative charges on the KiwiSaver of respondents to a survey conducted in
accounts, abolished the weekly $20 June 2008 reported that they
subsidy for employers, and reduced from participated in some workplace saving
4 percent to 2 percent of gross pay the scheme, an increase from 27 percent in
exemption from the Specified October 2007.
Superannuation Contribution Withholding
Tax of contributions to a KiwiSaver plan. Of the 500,000 KiwiSaver members as
At the same time, the mandatory of March 20, 2008, approximately 32
employer contribution was frozen at 2 percent had been automatically enrolled
percent of employee gross income, and another 16 percent had opted in
eliminating the scheduled rise to 3 through an employer. The remainder
percent in 2009 and 4 percent in 2011. opted in through a financial services
Employers were also prohibited from provider. An additional 99,000 people
reducing employees’ pay to offset the had been auto-enrolled but opted out of
matching contribution to KiwiSaver. the system. Just over half of the
members were female, and about 20
In addition, the December 2008 law percent were 55 or older.66
addressed concerns that the minimum
savings rate of 4 percent discouraged There is some question about how much
lower-income workers from participating of KiwiSaver accounts represents new
by lowering the default savings rate to 2 saving or reduced consumption and how
percent. Existing KiwiSaver members much substitutes for other forms of
could reduce their savings to the 2 private saving.67 Additionally, as a result
percent level at that time. It appears that of the contribution holiday, it is possible
in the future, workers will be able to that some participants will contribute for
choose from three savings rates, with 2 only twelve months to receive the initial
percent joining the previously existing 4 $1,000 “kick-start” incentive and then
percent and 8 percent options. cease making any contributions for the
following five years.
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
16In 2007 NZS was still the primary source Returns and Costs
of retirement income for over 70 percent Average five-year returns on balanced
of the population aged 65 and up. funds in New Zealand have been roughly
Although that proportion is likely to drop 4.5 percent in nominal terms.69 Currently,
as KiwiSaver accounts mature, the cost 30 KiwiSaver providers offer participants
of providing NZS will not be affected over 180 funds of varying investment
since all workers are covered, regardless strategies and risk. To be registered with
of income. Moreover, the proportion of KiwiSaver, a fund must meet certain
the 65-and-over population is projected regulations regarding asset allocation, but
to double by 2050, so the cost of there are no performance guarantees.
providing NZS will rise from its current The government negotiates the level of
level of 4.6 percent of GDP to over 6 fees and other costs funds may charge,
percent of GDP. Options that have been but determining the cost for a particular
mentioned to decrease the costs of the fund can be complex, because up to ten
program include targeting benefits, different types of fees may be imposed.
increasing the residency requirement, These include an annual fee measured
increasing the eligibility age, or reducing as a percentage of the total assets in the
the average replacement rate of benefits. fund, a membership fee, entry or exit
fees, and occasional legal or audit fees.
On top of the NZS, the cost of incentives Multiple reported cost numbers may
for consumers to join KiwiSaver is make choosing a preferred fund more
projected to add roughly $2 billion (20 difficult for employees. The Retirement
percent of the net costs of the NZS) to Commission, an autonomous
the cost of government retirement saving government entity that provides financial
programs by 2016.68 The high cost of education and guidance estimates that
incentives to encourage participation conservatively managed funds have total
raises the question of whether KiwiSaver annual fees of between 0.3 percent and
membership should be made 0.6 percent of assets, while more
compulsory, as is the Superannuation actively managed funds have fees of
Guarantee in Australia, or whether the around 1 percent.
NZS and KiwiSaver should be
coordinated in some way that might The six government-designated default
allow some recapture of all or a portion funds are required to be invested
of those incentives from upper-income primarily in cash, with only about 20
workers. Another question is whether percent of the total amount invested in
the incentives are really necessary in the growth assets. However, fees charged
long run, or whether automatic by the default funds vary, raising an
enrollment alone would be sufficient to equity question because workers who
ensure optimal participation. do not choose another fund are
randomly assigned to a default fund.
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
17Financial education in New Zealand, That said, labor force participation rates
which has been used as a model for among those aged 50 and older have
other countries, is important both for been increasing significantly, with
maximizing individuals’ retirement workers in this category accounting for
incomes and for maintaining competition half of the total growth of the labor force
and low costs among the investment from 1991 to 2005.73 In 2006, 43
funds. The website Sorted, started by percent of men and 25 percent of
the New Zealand government in 2001, women aged 65 to 69 were in the labor
provides a number of easy-to-use force, one of the highest participation
financial planning calculators and rates among older people in the OECD.
guides.70 Additionally, there are plans to
include financial education, which is In 2007 pension wealth contributed only
already available in the workplace, in 2 percent of total net wealth of couples
school curricula as well. aged 45 to 54. Other financial assets
made up 44 percent of wealth and
Retirement Income housing equity was 22 percent, with the
Replacement rates in New Zealand are value of NZS benefits making up the
low relative to Australia and the OECD, balance (32 percent).74 The small role
at around 39.7 percent gross and 41.7 played by pension wealth helps to
percent net of taxes.71 A study done by explain the paucity of annuities that are
the New Zealand Treasury suggests that taken in New Zealand. Individual
under conservative assumptions about retirement accounts are also relatively
spending changes and consumption small in size. The thin annuities market
patterns after retirement, roughly 40 may begin to grow once KiwiSaver
percent of couples and 30 percent of members start to accumulate significant
individuals aged 45 to 64 are not saving levels of retirement savings and need a
enough for retirement. Under less source of permanent retirement income.
conservative retirement income Several barriers to the development of
assumptions (which require a lower the annuities market exist on both the
saving rate to achieve), estimates show supply and demand side. These include
that closer to 20 percent of New risks to the insurance companies that
Zealanders still have inadequate increasing life expectancies will make
savings.72 There are also concerns annuities more costly, the fact that
regarding the saving patterns of younger annuity income is taxed at a higher rate
cohorts, although such patterns are than other income, the perception that
difficult to measure empirically. Some the NZS makes annuities, and the fear of
analysts believe that younger New dying before receiving the full benefits of
Zealanders have greater access to credit the annuity.
and thus will have more debt than did
their parents’ generation.
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
18The distribution of retirement income in the two means-tested benefits have
New Zealand is flat relative to been created. These changes have
preretirement income. The progressivity confused British workers, and the
index calculated by the OECD is 100 for interaction between the various public
New Zealand, meaning that the income plans has discouraged nongovernmental
disparities between the highest and the pension saving.
lowest earners among retirees are
among the lowest in the 30 OECD Now, the system is evolving again. If
countries. Retirement income replaces recently proposed reforms are put into
81 percent of pre-retirement income for place as planned, the United Kingdom
New Zealanders who earned an average will offer its citizens a major new pension
amount equal to half the country’s saving system that should greatly
average male earnings level, nearly increase retirement security. Recent
double the replacement rate paid to history suggests that future governments
retirees who earned average earnings. may continue to tinker with the system.
The degree of equity in retirement
income is likely because pension wealth, Structure of the System
which is linked to preretirement earnings, In the current public pension system, the
makes up such a small percentage of first tier, known as the Basic State
total retirement wealth, and because the Pension (BSP), is a flat-rate pension.
NZS is universal. Men who make a National Insurance
contribution (NIC) for at least forty-four
United Kingdom years and women who contribute for
The pension system in the United thirty-nine years receive the full value of
Kingdom is exceptionally complex, with the pension, and those who contribute
two levels of public pensions for fewer years receive a proportionally
supplemented by a two-part, means- lower amount.75 Through April 2009, a
tested program. The interaction full basic weekly pension was 90.70
between the differing public programs is British pounds for individuals and 145.05
often confusing, especially when the pounds for couples.76
worker also has additional defined
contribution or defined benefit plans of Initially, the BSP was indexed to growth
some form. The one constant in the in average earnings, but in 1981 that
public pension system over the last was changed to indexation by inflation.
several decades has been change. To The result has been a gradual but
some extent this is the result of the dramatic decline in the amount of
country’s tax system, under which taxes preretirement income that the BSP
and tax preferences appear, change, and replaces. At the time indexation was
disappear almost annually. In addition, changed in 1981, the BSP amounted to
over the last few decades, the benefits just below 30 percent of average income
calculation under the two public pension at age 50. By 2000 it had declined to
benefits has changed several times, and 20 percent, and if inflation indexation
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
19remains in place, it would reach 10 workers, from saving for retirement.
percent by about 2040.77 Finally, there were fears that because of
the declining value of the BSP, an ever-
To supplement the BSP, a means-tested growing proportion of future retirees
Pension Credit was introduced in 2003 would qualify for the Pension Credit.
to benefit pensioners with low or zero This last concern was potentially dealt
personal savings. The credit has two with in the 2007 Pensions Act, which is
parts. First is a universal credit intended to increase retirement savings.
regardless of the amount or years of
National Insurance contributions paid by In addition to the BSP, a second tier,
the worker. It is intended to raise the now known as the State Second
pensioners’ weekly income to roughly 20 Pension (S2P), is the earnings-related
percent of average wage and salary portion of the public pension system.
earnings, an amount equal to 124 Initially created by a Labor Party
pounds for individuals and 189 pounds government in 1978 and known then as
for couples in 2008. Individuals over age the State Earnings Related Pension
65 can also benefit from the second part System, this program pays workers a
of the Pension Credit: an additional benefit based on earnings between a
payment known as the Savings Credit, “lower earnings limit” and an “upper
which pays retirees an amount equal to earnings limit.” In 2009 S2P benefits
the value of 60 percent of all their were based on earnings between 4,680
privately financed retirement income.78 and 40,000 pounds, a range that is
This second part of the Pension Credit, adjusted regularly. Before 2003 the S2P
which in theory rewards retirees for having provided a replacement rate of 20
saved, pays up to 20 pounds a week for percent of average lifetime earnings for
individuals and 26 pounds for couples. workers between the earnings limits.79
That rate, set in 1988, was a reduction
The Pension Credit is controversial for from the 25 percent replacement rate set
several reasons. First, British workers when the program was adopted in 1978.
must apply for it, and the application is Government actuaries belatedly
somewhat detailed. At the time that it discovered that using the 25 percent
went into effect, there was concern that replacement rate would far exceed what
some older pensioners would be unable the government would be able to pay.
to understand the process or might be
discouraged by the amount of information Since 2003 S2P benefits have depended
it required. Second, because the on earnings on the job. For purposes of
second part of the Pension Credit calculating their eventual pension benefit,
effectively reclaims about 40 pence per workers with 2009 earnings greater than
pound of savings, there are fears that in 4,680 pounds but less than 13,500
practice, it would discourage workers, pounds would be credited with a 40
and especially moderate-income
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
20percent replacement rate for earnings The ability to contract out caused a
between those amounts. Workers would major “mis-selling” scandal in the late
receive credit at a marginal 10 percent 1980s and early 1990s after the
rate for earnings between 13,500 and government passed a law forbidding
31,100 pounds, and 20 percent for employers to require workers to
earnings between 31,100 and 40,040. participate in their pension plan.
The same calculation would be made for Instead, employees had the ability to
each year of earnings to determine the withdraw from the employer’s plan and
S2P benefit. The 2003 reforms, which start their own personal retirement
were intended to increase benefits for savings plan. Companies immediately
moderate-income workers, represent an started to market to employees, urging
intermediate stage before the S2P them to join a personal plan, but failing in
becomes a flat benefit. Starting in 2010, many cases to disclose that workers
the upper two bands will merge and who did so would lose any contributions
provide a 10 percent replacement rate, that the employer would have made,
before it is replaced with a flat rate thus leaving the employee worse off.
benefit by approximately 2030.80 The ensuing scandal and several other
mis-selling scandals forced financial
Since its creation in 1978, one of the services companies to make reparations
S2P’s signature features has been the to affected workers and to greatly
ability of participants to “contract out” increase the advice given before a
through participation in an employer- worker could invest with them. Although
sponsored retirement plan. If they do so, apparently caused as much by insurance
both the employer and the employee and other sales agents who had
pay lower National Insurance previously sold other types of products
contributions. Individuals who are not and may have been honestly unfamiliar
covered by a pension plan or retirement with the details of retirement savings
saving plan at work may also contract products as by intentional deception, the
out of this part of the public system plan scandals greatly weakened public trust
by choosing a stakeholder pension or a in retirement savings plans.
personal pension. In that case the NIC
rates are not decreased, but the At one time, the United Kingdom had a
government rebates the contributions by large system of employer-based
placing them directly into the individual retirement plans. In 1979 almost 65
retirement account. All private retirement percent of all workers were enrolled in an
account contributions are pretax. Some employer-based plan, but since then, the
individuals may choose to have a rate of participation rate has declined,
“rebate-only” private pension—that is, falling to roughly 55 percent in 2004.
one that consists only of the NIC rebates There were 2 million fewer members in
and is worth roughly the same as the 2004 than in 2000.81 This decline is
State Second Pension. closely related to the closure of many
The Retirement Security Project • National Retirement Savings Systems in Australia, Chile,
New Zealand and the United Kingdom: Lessons for the United States
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