Pension Reform Follows Corporate Example

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Pension Reform Follows Corporate Example

By Angelina Davydova, the St. Petersburg Times
Photo by Alexander Belenky

October 14, 2003

Pension reform is a hot topic as the government wrangles with a new system to improve retirement prospects for the nation's millions of workers. The failings of the old state system created during Soviet times are obvious: people toiled away the best years of their lives only to be left with subsistence-level pensions in their golden years. The question today is how will working people cope with the new options for investing their hard-earned capital?

In addition to relying on the existing state-run pension fund, people can be more involved in placing their cash with private management companies, or they can seek a career with a company that offers a pension plan of its own.

Corporate pension plans have been developing rapidly over the past year, becoming more attractive for employers both as a tool for motivating employees and encouraging them to stay, and as a mechanism for taking advantage of tax benefits and re-investment. Nevertheless, companies continue to have little faith in private pension funds since they involve long-term investment, which is still seen as risky. Analysts say reform of the state pension system might allay fears when almost everyone in Russia will have the option to use private management companies.

Foreign companies were the first to begin implementing corporate pension plans in Russia , and they continue to lead the way. According to a study by PricewaterhouseCoopers, 30 foreign companies working in Russia are planning to introduce corporate pension plans this year. At the same time, some 13 percent of all companies working in Russia are using corporate pension plans, and 20 percent are planning to introduce them in the near future, according to recent research completed by Ernst&Young.

Russian companies use two kinds of pension schemes: one with fixed payments, which yield a fixed monthly income for the retired employee, or with fixed payments and additional fees, when an employee pays fees to the fund and recovers the input in retirement.

When creating a corporate pension plan, one half of all companies - including multinational corporations and large Russian companies - set up their own pension fund, which acts as an official part of the company, while the other half use an outside pension fund or insurance company.

Analysts say that companies usually only introduce pension plans for top-management and extend the benefit to other groups of employees later. Some companies, however, do not go so far as to provide supplementary pensions to all employees. According to Ernst&Young, only one third of companies using corporate pension plans in Russia provide them to the entire staff.

Companies believe that corporate pension plans boost staff retention and act as a powerful personnel motivation tool. Firstly, pension systems provide security for employees in their old age, which inspires them to work actively and hold on to their positions. Moreover, working pension plans improve an employer's image. Last but not least, a pension plan is advantageous to the company itself, because, according to Russian law, it triggers opportunities for tax breaks and reinvestment.

St. Petersburg is second to Moscow in terms of private pension plan development, PL research says. By the end of 2002, there were 17 private pension funds providing pension plans to 240,000 people.

Still, corporate pension plans have a long way to go before the system can be considered mature. Dmitry Shiryaev, director of Creative Investment Technologies asset management company, says that corporate pension programs have been developing in Russia mainly because of profit-tax benefits. As a result, several hundred private pension funds have arisen for specific sectors, with monopolistic companies such as UES and Gazprom leading the way. Most of these funds, however, were created in order to exempt profits from taxation, thus these pension reserves have low liquidity and in most cases are invested in promissory notes of their founders and owners.

Olga Sineokaya, resource manager and managing director from Stora Enso, also says that the supplementary pension market is not complete. Hardly anyone wants to send their cash to unknown private pension funds on a long-term basis. Private pension funds have not accumulated a trust base, which is why people continue to use the state system. She adds, however, that there is a new company coming to the Russian market that is planning to develop corporate pension plans for staff.

Another company planning to introduce a corporate pension plan is Motorola Russia . Ekaterina Serebrenikova, head of Motorola Russia human resources, says that the company is developing a pension program in cooperation with European colleagues due to the lack of well-developed market practice in Russia . The Motorola corporate pension program will be available to all Motorola employees in Russia .

Shiryaev also points out that the sector has been developing dynamically over the past four years and has a promising future, especially with state pension reform on the way. Reform implies that there are certain restrictions on the investment structure of private pension funds, which will lead to phasing out the practice of investing in founders' promissory notes. This will transform private pension funds into a real market instrument, allowing for accumulation of long-term pension reserves with tax benefits still available.

According information from Baker&McKenzie, beginning Jan. 1, 2004 , those individuals subject to obligatory pension insurance will be able to invest a part of their pension accruals at their own discretion. Old-age retirement pensions will consist of the following three parts: basic, insurance, and cumulative. The amounts of premiums payable toward the cumulative part of the retirement pension will depend on an insured person's age and earnings, and are to be recorded under a special section on each insured person's personal account.

Those wishing to invest the cumulative part of their pension accruals are entitled, by Oct. 1 of each year, to choose from one of three investment options. The first option allows the state pension fund to manage the cumulative part of the pension, which will continue to be created unless an insured person gives written notice of his/her intention to switch to a different investment option. As part of this arrangement, the money will be managed by a state management company - currently Vneshekonombank, under a contract concluded with the state pension fund. The second option allows the employee to choose a management company from among those that have concluded a contract with the pension fund to manage the cumulative part of the pension, while the third option is to instruct the pension fund to transfer the cumulative part of pension accruals to private pension funds.

Experts say that pension reform will also boost the corporate pension program as more companies and employees get to know private funds and management companies. The exercise will train responsible financial planning. On a larger scale, development of both state and private pension programs will boost the local stock market, which is in need of long-term financing.