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Countries across the world are faced with the profound challenge of managing a rapidly aging population and its resulting impact on the workforce, social security, and health care costs. Three major shifts in population trends will create unprecedented pressures on the cost of supporting a greying population across Asia. A dramatic increase in life expectancy will lead to a large jump in the cost of funding retirement. Coupled with a steady decline in birth rates, a smaller pool of young people will have the onerous task of supporting a larger population of aged people. What is complicating matters further is the demise of the family unit in many countries, removing the traditional support system whereby older people were looked after by their families.
United Nation (UN) statistics paint a daunting landscape. By 2050, one in five persons throughout the world is projected to be older than 60, with one in six persons likely to be over 65 years old. According to an OECD report, Japan has the highest percentage of people over 60 years of age, at 20 percent. Those who are over 65 constitute 8% of the population in China and also in Singapore. In fact, Asia Pacific's over-65 population growth rate will be twice as fast as that expected within OECD countries. As the UN says, the world is unlikely to return to the younger population-filled world that our ancestors experienced.
Policymakers across Asia, fully aware of the high costs of sustaining an aging population, have moved swiftly over the last few years to ease this increasing burden. They have instituted policy changes aimed at encouraging both employers and employees to share the burden of retirement and pension savings for the older generation.
Asia presents a diverse pension and retirement planning landscape. The more developed economies in Asia exhibit a high savings rate. However, some countries in Asia still have relatively undeveloped retirement systems in place.
A major challenge for employers seeking to attract and retain their workforce is how to create the right benefit mix for their top talent. Employers have to ensure the benefits offered are effective tools to engage and motivate employees. At the same time, organizations need to consider the impact on their balance sheet, as they design and implement these benefits across the organization.
The warning signs are evident. Based on current trends, Asia's retirees are not likely to draw sufficient income to live out the rest of their lives. According to the OECD, this startling fact stems from several factors, such as the current low level of formal pension coverage, early and lump sum withdrawals, and non-adjustments for inflationary impact on retirement savings.
Countries across Asia are continuing their quest to redefine or reform their pension and retirement saving systems based on the overwhelming pressure to find financially sustainable solutions for the care of an aging population.
Policymakers, exploring various models of retirement savings, are more inclined to push through individual risk-taking on pension savings. Increasingly, governments are turning away from offering defined benefits due to concerns over the financial costs associated with this system. A mix of defined contributions or defined benefits savings plans are being used in Asia by the government and the private sector. Over the last few years, changes have been made by regulators to reform or tweak pension savings vehicles in a bid to mitigate the cost burden on public finances as well as to ensure retirement savings do not fall short.
China's pension system used to cover only state-owned enterprises. Since early 2000, major reforms have been introduced, including mandatory pension plans for non-state-owned companies. In 2011, sweeping regulations came into effect that required both domestic and foreign workers to participate in the Social Insurance System. The rule is meant to be applied to all foreigners employed by Chinese companies or foreign companies operating in China.
Foreign workers whose home country has an existing Totalization Agreement with China may get an exemption from this new legislation. (As of the writing of this article, only Germany and South Korea have Totalization Agreements with China.) Under this scheme, employers and employees are required to contribute to the social pool as well as the individual account. To receive benefits from the social pool, a person needs to have a contribution history of at least 15 years. However, foreign employees can withdraw money from their individual accounts when they leave China.
The impact of the cap placed on contributions into the scheme means that expatriates on high salaries would not find the scheme an attractive retirement vehicle. The contribution cap also limits the financial burden for employers.
Although the legislation covering foreign workers’ participation in the social security system has been implemented, there is no uniformity in how the rules are being enforced or applied. "Effective dates" vary from province to province, while enforcement dates also vary. For companies operating in China, the latest law means a heavier financial burden for hiring foreigners.
In addition to the state-mandated pension scheme, 26% of the leading multinationals in China have some form of supplementary pension scheme for their employees, 73% of which are Enterprise Annuities (EAs).
EAs are used among state-owned enterprises in China and offer tax incentives for corporate and individual employees. EAs are regulated and have strict filing guidelines and restrictions on plan design and the type of investment options available, limiting their uptake by employers. As a result, there has been increasing interest in recent years in introducing "enterprise annuity like" trust-based savings plans. Trust-based savings plans are governed like EAs, but have become the preferred model due to the flexibility offered around plan design and investment options.
As pension savings become more prevalent in China, EAs are likely to be the preferred long-term savings structure for China. However, in the near term, Trust Savings will continue to dominate due to the immaturity and inflexibility of EAs.
China is still going through its wealth accumulation and savings phase. Companies are therefore focusing on providing cash, savings, and health benefits as the key attraction and retention programs for their employees. To stay on top of the competition, HR should regularly benchmark their benefit program levels against their peers and ensure compliance with changing social security legislation.
The genesis of South Korea's pension system can be traced back to 1960 when the Government Employees Pension Scheme (GEPS) was formed. Currently, South Korea has over US$200 billion in pension assets pooled from defined benefit (DB), defined contribution (DC), and individual retirement schemes. These schemes operate under a well-defined and well-established framework with administrative and governance handled by scheme administrators and asset trustees, respectively. The market is well served by competitive providers offering attractive investment options for savers.
Recent legislative changes, effective July 26, 2012, are aimed at fine-tuning aspects of the pension saving schemes currently in place. Structurally, the market is shifting more towards a defined contribution (DC) model. At the moment, large Korean companies are still heavily reliant on DB plans. Multinationals, currently heavily skewed towards severance payment schemes as a benefit, may need to reconsider DC plans.
The recent legislation will bring about the following changes:
Hong Kong's Mandatory Providence Fund (MPF) vehicle began in 2000. Prior to its existence, Hong Kong employers participated voluntarily in providing retirement benefits for their employees via the Occupational Retirement Schemes Ordinance (ORSO) which came into force in 1993.
Since the introduction of the MPF, ORSO schemes have become less important and around 85% of Hong Kong's employees are now covered by an MPF plan.
Under the current MPF system, employers and employers contribute a minimum 5% of the individual's salary to an MPF plan decided by the company. The minimum contribution cap increased from HKD$20,000 to HKD$25,000 (or $1,250 monthly, up from $1,000 before) from June 2005. Both employers and employees are allowed to make voluntary contributions above the minimum requirements.
A recent major shift in the MPF system is freedom of choice for employees. With a proposed introduction date of November 2012, The Employee Choice Arrangement (ECA) is aimed at encouraging employees to be more active in managing their MPF investments as well as to enhance market competition among investment fund suppliers.
Under the new regime, employers still decide on the MPF plan provider. However, employees can opt to channel their contribution and balances to another MPF plan after a year's participation in the employer's MPF plan. Employers cannot, however, transfer their contributions to another plan.
Although the legislation will unleash market competition and offer employees the chance to make their own investment decisions, the rules presented do not seem to provide a lot of value to either employers or employees.
Further, without proper education and communication on investment choices, employees may not be well placed to make good MPF provider or investment choices. The onus falls back on employers to assume the role of educating employees. Hence, employers should explore early which MPF providers have the necessary communication expertise.
Recent legislative changes to Singapore's Central Provident Fund (CPF) are aimed at fine-tuning a retirement savings vehicle that has been noted as one of the most robust in the region. The CPF savings scheme is compulsory for all Singaporeans and foreign employees with permanent residence status. Employers and employees (between the age of 35 and 50 years old) contribute a total of 36% of a worker's basic salary to the CPF, managed under several accounts. The salary ceiling for contributions has been raised to SGD$5,000 per month from $4,500 before.
As a result of the high compulsory contribution rates and the low tax environment, companies are less inclined to provide anything above the CPF; but when they do, both companies and employees often favor cash.
The introduction of the Section 5 plan, the Supplementary Retirement Scheme (SRS), and access to offshore trust funds, are additional vehicles introduced with the aim of fine-tuning existing retirement saving options.
The Section 5 plan allows companies in Singapore to set up trust funds with only employers allowed to contribute to the fund.
The SRS allows employees to set up tax-efficient pension savings schemes with an approved provider, in addition to the mandatory levels of the CPF. Employers and employees contribute to the scheme. However, less than 5% of employers in Singapore offer the SRS. The SRS has attractive tax incentives as contributions are eligible for tax breaks, investment returns accumulated are tax-free and, only 50% of withdrawals are taxable at retirement.
The offshore trust funds can be contributed to by both employers and employees and offer attractive tax incentives, although administrative costs can be prohibitive.
The SRS options are gaining popularity as foreign employees without PR status are currently excluded from the CPF scheme. Further, caps on CPF contributions for higher salary employees may also drive the demand for SRS as an added benefit for staff.
As to whether there is a ready pool of quality providers for offshore pension plans, the expectation is that competitive forces may introduce more players as the market evolves, adding to the few existing quality providers. However companies need to bear in mind the high administrative costs associated with offering offshore pension plans.
With the Singapore government’s focus on ensuring that retirement savings meet the aging population's needs, Aon Hewitt advises employers to monitor any changes in the legislation and factor into their financial planning any additional costs associated with CPF changes.
The country's private sector has no significant social security system. Labor laws govern the provision of retirement, sickness and dependents benefits, compensation for occupational injuries, and maternity payments.
Of India's over 425 million workers, only about 12% are covered by some kind of retirement benefit scheme. India has an urban workforce of 98 million. This leaves out the unresolved needs of retirement income for 327 million rural/other workers.
Currently, only government employees have compulsory pension savings. The Civil Servants' Pension (CSP) is a defined benefits scheme for all central government employees (but only for those employed before December 31, 2003). The civil service and state-run bodies are served by a host of gratuity schemes or pension schemes.
The pension system is administered by the Employees' Provident Fund, a statutory body administering pension schemes for any organization employing over 20 employees.
Pension reforms implemented in 1995 began introducing the element of defined contribution to India’s pension schemes. In 2004, the Indian government introduced the New Pension Scheme (NPS) which shifted all new public sector employees to a defined contribution scheme. Also, since 2009, all citizens have been allowed to voluntarily contribute to the NPS.
There are over 9,000 bank and post office branches where citizens can open NPS accounts. These are regulated by the Pension Fund Regulatory and Development Authority.
Employers in India are also currently bound by law to provide gratuity as a benefit under the Payment of Gratuity Act, 1972. Some private sector employers also offer superannuation as a voluntary benefit.
The Indian government is likely to provide more tax incentives to promote employees' savings and tax benefits on contributions, for the NPS is a step in that direction. The new Direct Tax Code proposed during the March 2012 budget is expected to provide additional tax benefits on contributions towards superannuation plans.
Currently, India has a limited number of social security schemes. Further, the Employee Provident Fund Organization (EPFO) is seen as being too conservative in its regulation of permissible investment assets for fund investors.
There is a need for better planning by government, companies, and individuals in how gratuity plans and retirement savings are managed. On this front, there is hope the regulatory authority will allow investments in higher-return instruments to boost savings.
Employers, anticipating increased benefit costs for employees, are moving to a cost-to company model by reducing any element of uncertainty in their benefit plans, such as medical insurance. There is also a trend toward linking benefits limits to market realities, like the increased limit for gratuity plan, among others.
The supply of skilled human capital will be under stress in most parts of Asia due to the aging population. The "import" of skilled professionals will continue to help Asia address this human capital gap. Traditionally, the image of an expatriate is someone from a European or American country. Increasingly, however, movement of intra-Asian expatriates is on the rise. In Taiwan, for instance, in 2006, of its 15,000 skilled professionals with employment permits, 60% were from East Asia, according to the International Labor Organization.
Employers have been trying to meet the needs of expatriates' retirement savings using a combination of available retirement arrangements. The diverse nature of mandatory social security for foreign workers adds complexity to an employers’ management of their needs. In Singapore, for instance, expatriates are only allowed to participate in the compulsory savings scheme if they have permanent residency. Yet, in China, the laws have changed to make it mandatory for expatriates to contribute to the retirement pool. In Korea and India, expatriates can contribute to pension savings. In Hong Kong, the ORSO plan is open to expatriates.
The challenge for employers is managing the various alternatives without taking on high administrative or excessive costs. Some have chosen the path of cash supplements for expatriates as a benefit that has no administrative charge and is relatively hassle-free to administer.
In places where expatriates are allowed to participate in local pension savings schemes, the major concern is around tax efficiency. In Hong Kong, where employers can use the existing ORSO plan, tax efficiency is a major consideration as employee income is taxed at the point of payment.
Employers who offer contributions to pension plans set up in an offshore location such as the Cayman Islands or Bahamas, have flexibility in designing a retirement plan, and can offer portability and wide investment choices to employees. The prohibitive factor is the relatively high administrative cost associated with these offshore schemes.
Employers dream of a unified Asia-wide legislative regime governing pension schemes for employees. However, such a regime is highly unlikely. A more possible development may be bilateral or intra-Asian agreements allowing employees to participate in overseas retirement plans in a tax-efficient manner or to use such offshore structures to top-up local savings schemes. This is very possible for some countries.
Another viable possibility in future is for either Hong Kong or Singapore to open up its retirement savings scheme to foreign employees. Singapore's introduction of its Section 5 savings plan and the MPF are possible alternatives for employers. Singapore seems more likely to set the pace, as it seeks to become Asia’s pension market.
Employers need to consider their retirement benefit philosophy as part of their overall reward strategy. How effective are pension benefits as a retention tool versus cash? It boils down to the tax efficiency. Removing the tax element from the equation, companies also need to factor in their benefit philosophy and reach a comfortable balance between cash and benefits in their compensation strategy.
With the dramatic demographic changes in Asia leading to retirees living longer and a shrinking working population to support them, retirement planning is becoming a dominant concern for policymakers, employers and employees.
Dimitris Efthyvoulou is Global Benefits Consultant of Aon Hewitt in Singapore. Dimitris can be reached at firstname.lastname@example.org. Ken Wong is Global Benefits Consultant of Aon Hewitt in Hong Kong. Ken can be reached at email@example.com.