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Rocky road of pension reform

People must be prepared for the gap between income earned in employment and income from their pension

Pension system reforms must balance the adequacy of income conundrum with sustainability. Thus, for persons born in and after 1962, the system’s architecture was significantly tightened – people had to work longer to acquire more contributions, and a new formula was established for calculating the pension income.

In terms of adequacy, the major important change was the introduction of an indexation mechanism that ensured that both the MPI (maximum pension income) and pensions increased annually.

For this cohort of persons, the indexation was a hybrid of 70% wage and 30% inflation – thereby retaining the relationship, however, not fully, between wage increases and increases to the MPI and to the annual pension income. The 2020 Strategic Pension Review recommended that this indexation is applied to all persons irrespective of date of birth, and the government introduced this measure in the 2024 budget.

Thus, between 2007 and 2024, the MPI increased from €15,728 to €27,679. While this will result in a higher pension, it is important to underline that this comes at a higher cost to both the employer and employee for those who earn up to that limit – as the maximum contribution of 10% paid by an employee and employer increased from €1,572 annually to €2,767 annually during this period.

The matter of the adequacy income conundrum of the state pension must be viewed from two angles. The first relates to those whose wage is not higher than the MPI. Such persons will receive the 67% adequacy social promise established by the two-thirds system. Thus, a person on a maximum pension up to the ceiling will receive €18,452, which is 67%. Similarly, a person with a salary of €20,000 will receive a pension of €13,333 – 67%.

For persons on a low income the argument has always been made that compelling them to save for retirement will be counterproductive– Josef Bugeja

Concerning persons on a low income, where the average wage is €1,189 – or €14,268 – the argument has always been made that in their regard, compelling them to save for retirement will be counterproductive. This is because such persons often live from pay cheque to pay cheque.

Encouraging them to put money aside for retirement will increase pressure on them to meet their needs in the here and now. The emphasis has been on equipping them with financial capability skills and competencies: budgeting, differentiating between wants and needs, saving for a rainy day, managing debt, and avoiding scams.

The average wage in 2023 is €22,176. It falls under the MPI. The 67% social contract in their regard is guaranteed. Assuming they meet the full conditions to qualify for a maximum pension, they would receive a pension of €1,232.

If equipped with financial capability competencies by putting aside a small amount monthly in a private pension, they would likely, when they retire, be in a position to have an adequacy pension income through the state and private pension that equals their full wage while in employment.

This is not the case for persons whose wages are above the MPI. The average wage among these is €2,995 – or €35,940 annually in 2023. The MPI, of course, remains the baseline. Thus, their maximum pension entitlement will be two-thirds of the MPI – €18,452. This means on reaching retirement age, their income will fall by €17,398.

The higher the salary a person earned before retirement compared to the MPI, the greater the gap between the income earned in employment and income from a pension. And the greater impact on their quality of life during retirement unless they have prepared for it.

 This is the second of three articles being published on pension reform.

 Josef Bugeja is general secretary of the General Workers’ Union.