After more than a decade of negotiations, the Pan-European Pension, or the IORP Directive ⁽¹⁾ , was signed in 2003.  The requirements had to be transposed into the local laws of each European Union (EU) Member State by September 2005.  The objectives were simple:

• To facilitate cross-border membership of pension plans
• To lay down minimum standards of communication, solvency and regulation
• To ensure security for members and beneficiaries

So why, nearly three years later, have only a few of us seen a Pan-European pension plan operating across EU borders?

This article briefly describes what a Pan-European pension plan is, with an overview of the potential benefits and a point of view on how multinationals can move toward implementing such an arrangement.

How Pan-European plans work

The European Federation for Retirement Provision (EFRP) ⁽²⁾ set out a suggested model (see below) involving a single fund with notional country sections as shown here:

The legal vehicle, shown as a Single Fund in the EFRP model, is financially regulated by the “home” country, in this example, Ireland. While each of the notional country sections must comply with the tax, social and labor laws for members located in that country (the "host" countries), both assets and liabilities are pooled at the home country level.  As the Directive says little about the tax-approval regime, the tax aspects represent an additional layer to be tackled without any central guidance, remembering that each EU Member State is required to treat all EU employees subject to its own tax laws in a non-discriminatory fashion.

It should also be noted that the plan must be fully funded, the basis of that funding determined by the financial regulation in the home country. So, although the theory is that an employer with operations in several EU Member States should then be able to base a single plan in one EU location, covering its local employees from each country, this is likely to be achievable only for defined contribution (DC) plans while defined benefit (DB) plans remain largely in deficit. In the longer term, the requirement to conduct annual valuations for a DB plan could continue to be a deterrent in some countries.

Potential benefits

The potential benefits of a Pan-European pension plan have been widely acknowledged and include the following:

• Direct cost savings – through economies of scale and increased purchasing power arising from the potential consolidation of investment and administration arrangements across different countries of activity
• Simpler governance and compliance – through operation of a single legal vehicle, dealing with one prudential regulator and resulting reduction in operational risks, although one still needs to deal with multiple regulators in respect of country sections
• Mobility of employees – through administration under one provider, avoiding the need to set up numerous plans for small numbers of employees and to transact a series of complex transfers
• Consistent benefits philosophy – through providing an opportunity to promote a single corporate benefits policy, helping to create a ‘branded’ benefits culture

There are still issues around multinationals having the critical mass to implement a Pan-European pension plan. However, it is likely that multiemployer solutions will be developed by providers, thus increasing access to such arrangements for a wider number of small- and medium-sized multinationals. While critical mass is key to achieving some of the financial economies, many of the other advantages could still be available.

Are Pan-European pension plans the answer?

To date, employers have largely been concerned with managing the financial risks involved with their DB plans. This in itself has made Pan-European pension plans generally unattractive because of the requirement to be fully funded at all times. However, those employers wishing to use a Pan-European pension plan for DC arrangements have faced difficulties in any event due to:

• Obtaining tax approval in different locations, for example, in respect of the:
  – Tax treatment of transfer of existing assets to a new Pan-European plan
  – Tax treatment of some capital and dividend payments
• Each Member State having transposed the Directive differently, leading to further complexity, an example of which is the social and labor law applied to members in each host country
• The initial investment in terms of time and money needed to establish a Pan-European pension plan
• The lack of available packaged solutions in the market place

The opaque regulatory environment is certainly one of the significant factors causing the lack of take-up of Pan-European pensions, although research in this area will lessen this barrier.

The Committee of European Insurance and Occupational Pensions supervisors (CEIOPS) ⁽³⁾ has recently published two reports that have implications for cross-border pension projects: an initial review of key aspects of the implementation of the Directive ⁽⁴⁾ and a survey on funding and technical provisions ⁽⁵⁾ . CEIOPS recommends that the European Commission (EC) provide “urgent clarification” of the provisions relating mainly to cross-border activity.

The IORP Directive is indeed unclear as to what constitutes cross-border activity. Is it when:

• Employer and pension funds are each in different EU countries?
• Employee and pension funds are each in different EU countries?

The latter definition already led multinationals operating DB plans in the UK, with cross-border activities, to remove any such employees as soon as possible to avoid triggering cross-border status and the associated immediate full funding requirement.

CEIOPS has also stated that Solvency II ⁽⁶⁾ for pensions is “not an appropriate course to pursue” and could threaten DB provisions. There is an argument being made in some quarters for stronger, more consistent solvency standards, similar to those being developed for insurance companies, in order to avoid regulatory arbitrage, seducing funds to the lightest regulatory regime. But this would be disastrous (at least from an employer perspective) for DB provisions, particularly in those jurisdictions where there is a more dynamic funding regime, such as the UK and Ireland.

Harmonizing the approach

In a sense, harmonization is always an issue surrounding any EU legislation. EU Directives are not about homogenizing EU Member States’ regulations, but more about harmonizing their approach to facilitate, in this case, cross-border activities. In theory, this should encourage Member States to mutually acknowledge each others’ regulatory approaches. The focus, therefore, should be to open up the detail of what it means in each Member State to operate a Pan-European pension from that location as either a home country or as a host country for the plan members / beneficiaries. Then Member States can react to their position within the market and allow multinationals to make informed decisions.

However, some intervention is necessary for those areas of law, especially in relation to taxation, where there is no mutual recognition across borders and treatment of foreign and domestic issues is different. The EC and European Court of Justice are starting new and continuing infringement proceedings to address these issues. CEIOPS itself is aiming to create a more level playing field in terms of basic fundamental treatments across Member States and greater understanding as to how the IORP Directive can be implemented.

Practical implications: What can be done now?

Even in the face of such uncertainty, multinationals can begin to separate the possible from the impossible in facilitating cross-border activities, ignoring clear non-starters and perhaps leaving more complex solutions for later. Member State regimes can be reviewed to identify preferred long-term locations for Pan-European pension plans, taking into account current laws, practice, supervisory expertise and likely developments over the medium term. Indeed, countries such as Luxembourg, Belgium and Ireland have actively encouraged the use of their particular regimes for this purpose.

While very few ready-made solutions may currently be available in the market place, complete inaction is not an option if multinationals wish to avail themselves of some of the potential benefits now and be ready when more concrete solutions are launched.

Accordingly, multinationals should consider targeting a Pan-European solution to help provide the vision, align key stakeholders and determine the strategy or journey to be undertaken. The journey itself is arguably more important as so much can be achieved along the way; indeed implementing the final step of a Pan-European pension plan could then be considered as the icing on the cake. This journey is one of harmonizing and standardizing the approach to occupational pension provision and is therefore consistent with the philosophy of the IORP Directive. Priority actions in the following key areas consistent with the agreed-upon objectives should be considered:

• Investments – While asset pooling on a cost effective basis is arguably only currently available to large companies with several billion euros in pension fund assets, other options include “virtual pooling” and “preferred providers.” In virtual pooling, the assets are not physically transferred into the vehicle, but are left in the individual local pension funds. Preferred providers is the weakest form of asset pooling, achieved through a preferred- provider structure.
• Governance - The process of creating a Pan-European pension plan and the ongoing operation facilitate control over a multinational’s pension arrangements. A fit-for-purpose framework that delivers the right amount of governance for the assessed level of risk needs to be rooted in the organization’s objectives, corporate culture and management structure. The level of control required should be assessed in each of the areas of governance, benefit design, funding, investment, administration, communication and provider selections with reference to the strategic objectives for pensions.
• Administration - In a Pan-European context, the aim here could be to centralize and standardize as much as possible the various pension plan operations. Steps can be taken to centralize the authority over some of the operations and to standardize administration processes delivering similar outputs in order to reduce costs of duplication and risks of non-compliance.
• Communication – A number of steps can be taken by multinationals to “brand” their pension offerings to help ensure that participant experience has the same look and feel from one country’s operation to the next. This may be achieved through a combination of a corporate intranet site containing pension information, a more active web front-end to deliver their pension plan(s) and potentially the interface of an HR shared service center.

As each step is reviewed, the multinational should evaluate the likely benefit to the organization, whether that is one of reduced costs or better risk management. This will also help provide the business case for the investment needed at each stage.

The diagram below sets out what can be achieved at three different levels while recognizing that the journey is not short and may proceed at different rates according to which countries and pension plans are to be included.

Asking all the right questions first

As companies continue to focus on extending good corporate governance and seek to limit their exposure to non-core risk through, for example, continued moves to DC or hybrid structures, the opportunity to take the intervening steps and establish a Pan-European pension plan will be attractive.

Although many multinationals are currently wary of moving forward with a Pan-European pension plan, the potential benefits available from the variety of solutions ranging from cross-border coordination of multi-domestic arrangements to full cross-border integration are such that the IORP Directive is just one feature. Despite the difficulties in the EU regulatory environment and the potential risk of operating in such an environment, these issues in one way or another are being addressed. Consideration of the “roadmap” above will help enable a multinational to be clear on what the right questions are in respect of its own unique occupational pension arrangements.

So are Pan-European pensions the wrong answer to the right questions? It depends. A Pan-European pension plan is a good idea for multinationals with groups of employees in DC plans across the EU, particularly those in the Euro zone. The dam is cracking; and a few plans may be trickling in at the moment. But if you want to avoid the huge rush and you’re thinking about a Pan-European pension plan, now is a good time.

Notes:

1. European Directive 2003/41/EC on “The Activities and Supervision of Institutions for Occupational Retirement Provision” (IORP)

2. EFRP - a body that developed from national associations which in turn represent company sponsored and industry-wide supplementary pension plans

3. CEIOPS - a body that inter alia advises the European Commission on implementation measures in the fields of insurance, reinsurance and pensions

4. CEIOPS - “Initial review of key aspects of the implementation of the IORP directive”

5. CEIOPS – “Survey on fully funded, technical provisions and security mechanisms in the European occupational pension sector”

6. Solvency II - an updated set of regulatory requirements for insurance firms that operate in the EU