Voluntary pension provision buy into pension fund or pillar 3a
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Voluntary pension contributions: Should you pay into the second pillar or Pillar 3a? 

Those who want to ensure financial security in retirement can take advantage of two voluntary provision options with tax benefits: buying into a pension fund or paying into Pillar 3a. The pros and cons of each option to enable you to make the right decision in your own situation. 

Voluntary provision is popular in Switzerland

Switzerland has an aging population and benefits from Old Age and Survivors' Insurance, and from pension funds in particular, are coming under ever-increasing pressure. Consequently the Swiss additionally make large voluntary contributions to the second pillar, the occupational pension fund under the BVG, or to Pillar 3a, their private pension, every year.

Both occupational pension funds and Pillar 3a are referred to as "tied pension provision." But there are significant differences to be aware of when deciding which option to take. There are various factors that determine which option makes the most sense, and each person has to look at their own situation individually.

Greater freedom to buy into pension funds

There are big differences between the amounts that can be paid into the the second and third pillars. Employees who are members of a pension fund can pay in a maximum of CHF 6,826 into Pillar 3a in 2020. The limit for the self-employed who are not members of a pension fund is 20% of net employment income up to a maximum of CHF 34,128. These limits are set by the Swiss Federal Council every year. However, if you have no money available for payments into the Pillar 3a in a particular year, you have lost your chance. You cannot catch up past missed payments. A motion allowing you to make up for missed payments later on is currently under discussion in the Federal Assembly. It is still unclear whether and when this would be possible.

This restriction does not apply to the second pillar: In accordance with the provisions set out in your pension fund's regulations, you can pay in up to your individual limit and skip a year if you want to. The maximum amount you can pay into the second pillar depends on a variety of factors such as your age, salary and your retirement savings in the pension fund. The individual buy-in limit is normally stated on your pension fund statement. Most employees can pay significantly more into the second pillar than Pillar 3a.

When purchasing pension benefits is worthwhile

A voluntary purchase of pension benefits is financially very attractive. Anyone investing elsewhere would have to earn a return of around 10% to generate the same capital after 10 years.

However, a voluntary payment is only possible and worthwhile if three conditions are met:

  • Only those who have a pension gap or a coverage shortfall, for example due to changing jobs or a spell abroad, are permitted to pay in.
  • Those who have withdrawn part of their retirement capital to buy a residential property first have to repay this advance withdrawal before they are allowed to make voluntary purchases again.
  • Making additional payments only makes sense for pension funds that are on a healthy footing, i.e. if they have a coverage ratio of 100% or more.

In terms of taxes, additional payments are worthwhile the years you earn the most. This is often the case the last ten years of work before retiring. You should also note that pension funds do not allow lump-sum withdrawals until three years after purchasing benefits. If are not planning on making a lump-sum withdrawal, you can purchase benefits until you retire.

Purchasing pension benefits and investing in securities: a comparison

A Protestant married Swiss couple in their 50s residing in Thalwil wants to retire at the age of 62. The couple has CHF 350,000 in taxable income. Their savings rate is CHF 50,000. They have a CHF 1,000,000 securities portfolio (balanced investment strategy). The retirement assets in their pension fund total CHF 800,000, with a purchasing gap of CHF 400,000.

The couple is now considering whether they will actually purchase this amount in pension benefits or invest the CHF 400,000 in securities. A comparison of both options reveals how attractive purchasing pension benefits can be as opposed to conventional investments.

Pension benefits purchased

   CHF 400,000

Cumulative interest income on purchases at retirement

+ CHF 31,105

Tax savings on pension fund purchases

+ CHF 146,560

Tax savings invested into securities with total return of 19.45% at retirement

+ CHF 28,504

Tax burden for lump-sum withdrawal from pension fund assets

– CHF 56,387

Value of purchase amount at retirement

   CHF 549,782

   

Investments in securities

   CHF 400,000

Total return of 19.4% on securities

+ CHF 77,618

Value of securities at retirement

   CHF 477,618

   

Final balance of pension benefits purchased

   CHF 549,782

Final balance of securities investments

– CHF 477,618

Extra amount from purchasing pension benefits

   CHF 72,164

Equivalent to an extra return of

   18.04%

Purchasing pension benefits is attractive

Purchasing pension benefits can offer attractive opportunities 

Source: Credit Suisse

Pillar 3a offers more flexible investment opportunities than the second pillar

There is usually no freedom to choose the type of investment oneself in the second pillar – the investment strategy is determined by the Board of Trustees of the pension fund. An exception to this is 1e plans, which some pension funds offer to members with an annual income of over CHF 127,980. Pension funds do offer another advantage, however. They are legally required to guarantee a minimum interest rate, which is set each year by the Swiss Federal Council. The rate for 2020 is 1 percent, which is more than most banks offer on their Pillar 3a accounts. It only applies to the mandatory portion of the pension fund assets, however, and pension funds can set their own interest rates on the extra-mandatory portion.

With a Pillar 3a account, the money you pay in sits in a pension account. This pays a preferential interest rate compared to a regular savings account. You also have the option of using a Pillar 3a securities account to invest your money in one or more securities-linked solutions. These offerings provide better return opportunities in periods of low interest rates. This allows you to participate in any rise in financial markets and gives you the chance of higher returns.

Purchase of pension benefits and contributions to Pillar 3a compared

Issue

Pillar 3a

Pillar 2

Save tax-efficiently

Yes

Yes

Maximum amount in 2020

CHF 6,826 with pension fund

CHF 34,128 without pension fund

Individual purchase limit in pension fund statement, usually much higher than for Pillar 3a.

Form of investment

Pension account or securities portfolio

Retirement capital; securities portfolio in 1e plans

Interest rate

Preferential interest rate on 3a account

Guaranteed minimum interest rate on mandatory portion (currently 1%)

Insurance

Possible, depending on provider

Possible, depending on pension fund

Withdrawal

Withdrawal as a lump-sum; in life annuity insurance as a pension

Lump-sum payment or pension, N.B. pension fund regulations sometimes restrict lump-sum withdrawals

Withdrawal before normal retirement age

Five years before reaching AHV retirement age

At age 58 at earliest depending on pension fund regulations

Staggered withdrawal

Yes, if the policyholder has several accounts

Yes, if the pension fund regulations allow for partial retirement

Withdrawal after the normal retirement age

Yes, up to age 69 (women) and 70 (men) if still working. You can continue to make tax-privileged payments into the third pillar until this date.

Yes, if still working and this is provided for in the pension fund regulations

Death

Paid out in accordance with the order of beneficiaries

Paid out in accordance with the order of beneficiaries, if provided for in the pension fund regulations

Pillar 3a allows staggered lump-sum withdrawal

There are also differences when it comes to paying out retirement assets. Pension funds must pay out at least 25% of the mandatory retirement assets as a lump sum at retirement on request. Most pension funds will now even pay out up to 100% of the retirement assets as a lump sum. The second pillar therefore offers the opportunity to draw down the retirement savings as a one-off payment or a monthly pension – or to choose a mixture of the two.

In Pillar 3a, the money can only be drawn down as a pension in the case of life annuity insurance policies. On the other hand, however, the retirement savings in Pillar 3a can be drawn down five years before reaching normal retirement age. And those who continue working beyond normal retirement age can delay drawdown for up to 5 years. Moreover, if one holds several 3a accounts, the withdrawals can be spread over several years.

Do you have any questions on voluntary pension provision?

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