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Pension Arrangement

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In many countries, the provision of old age, disability and death benefits for civil servants pre-dates the establishment of national social security schemes for private sector workers. Special pension privileges are also sometimes granted to other occupational groups in the public sector (e.g., the armed forces, police, teachers and workers in  nationalized industries or state-owned enterprises). Historically, these benefits were granted as a form of reward for long service. Lifetime employment had been the norm in the civil service, and the prospect of receiving an adequate pension upon retirement has  traditionally been viewed as an inherent attraction of employment in the public sector. Even though these schemes established by the State (as employer) for its employees are, in a sense, like ordinary occupational schemes, a major difference stems from the fact that benefits are usually paid from general revenues. This increases the level of government consumption, which in turn impacts the national accounts of the country.

In industrialized countries, most retirement systems for civil servants continued as separate schemes even after the introduction of broad-based national social insurance systems. Since World War II, the maintenance of separate schemes for public service employees has increasingly been criticized, particularly in countries where there is a high proportion of civil servants in the workforce. With the development of social security systems based on the principles of universality and equity, it has become more difficult to justify the existence of separate schemes with special status coverage for restricted occupational and social categories. In the case of low income economies, many of the civil service pension systems originated with colonial administration (particularly in Africa), and to this day, civil servants are practically the only category of workers with retirement income coverage.

General characteristics                                                         

Type of Plan – Traditionally, retirement benefits for civil servants have been provided through defined benefit plans (DB). In a number of countries, defined contribution pension plans (DC) are being offered alongside defined benefit plans, to complement/supplement flat-rate schemes. More recently, some countries have adopted a multi-pillar approach and offer civil servants a choice of pension coverage using DB, DC and combinations thereof for more comprehensive retirement benefits. At the present time, however, only a small number of countries expect to rely on the defined contribution system as the sole source of retirement income.

Reference Wage – This refers to the wage on which the benefit formula is calculated in the case of a DB plan. Where pensions are linked to salary, they may be based on the last salary, the average salary in the last year or last three or last five years of service, or on the highest salary received over the term of employment. Average salary may sometimes be indexed to real wage growth as well. The definition of what comprises the reference wage also varies among countries. The most straightforward definition is one where reference wage refers simply to cash wages; other definitions include an elaborate system of allowances, which may amount to more than 100% of base wages. This phenomenon of including allowances in the reference wage is particularly widespread in countries where extended periods of wage freeze have been in effect. In such cases, the actual wage level at retirement may be a moot point if due consideration is not given to allowances, which are usually exempt from the freeze but may be included in the determination of the reference wage.

Replacement Rate – The replacement rate for a full pension varies from country to country. Normally, it ranges from 60% to 80% of the reference wage. While replacement rates may reach as high as 100% in some countries, others have introduced a limit on the amount of pension by imposing a ceiling on the reference wage. On the other hand, in a few countries, a redistributive component to the formula may be included so that the lowest-paid employees can receive a higher percentage of their previous salary than their better-paid counterparts. Sometimes a provision guaranteeing a minimum pension may also be included. In countries where allowances are not included in the reference wage, even though they make up a significant portion of the cash compensation, it is customary to continue paying some of the allowances after the employees have retired. In such cases, the amount of allowances paid is usually not included in the replacement rate calculation.

Retirement Age/Service Period – In most cases, entitlement to old-age pension is acquired when the civil servant reaches the prescribed age (usually between 55 and 65). In some countries, pensions are due after a certain length of service, usually 30 to 35 years, regardless of the civil servant’s age. The minimum period of service giving entitlement to an old-age pension varies widely, ranging from 5 to 30 years, the most common being 10 or 15 years.

Survivor's Pension Benefits – Provisions for survivor's pension benefits vary greatly from one country to another and are often dependent on the pattern of employment. In countries where the proportion of women participating in the labor force is roughly the same as for men, the main need for a survivor's pension is in the form of dependents'/children's benefits, which are generally not paid after the age of 21 (sometimes 25 if a child is in school). In some countries, unmarried or widowed daughters are eligible to receive dependents' benefits for life. Survivor's pensions for adults are usually provided in the form of widow's/widower's pensions and are payable for life unless the beneficiary remarries. While it is customary to pay a survivor's pension as a percentage (50% to 100%) of an old-age pension, it is possible for total payments to survivors to exceed benefits paid when the original pensioner was alive. This anomaly arises because while the survivors share up to 100% of the basic pension, each survivor becomes eligible for the full amount of the allowances.

Cost-of-living adjustments – Cost-of-living adjustments can be provided either automatically or on an ad hoc basis to increase retirement benefits and to keep pace with inflation and/or the rise in wage levels. In order to protect against erosion of retirement income, the amount of increase in pension benefits can be indexed to a percentage increase (up to 100%) of the rate of inflation, the rate of wage growth or a combination of the two, or it can simply be determined as a flat amount which may or may not be correlated with inflation or wage growth.

Form of Payment – Countries that sponsor defined benefit schemes generally pay retirement benefits from the time the employee retires through to the end of his/her life. However, in some cases, it is possible to commute a portion of the monthly pension for a lump sum payment. Some countries may choose to provide commutation only after the pensioner has undergone a medical examination. In a number of countries, there is a feature called "restoration of commuted portion" whereby pensioners are entitled to have the commuted portion of their pension restored if they survive a pre-specified number of years from the date of retirement. Countries that sponsor defined contribution schemes generally pay proceeds in lump sum payments or periodic payments. In some cases, the periodic payment is determined based on the life expectancy of the pensioner at retirement, among other things, while in others, proceeds are amortized over a number of years (set arbitrarily or as an approximation of the average life expectancy) but payable for the pensioner's remaining life span. If indeed the periodic payment is paid for life but set based on an amortized value over a pre-determined number of years regardless of the age at retirement (i.e., it bears no relationship to the probability of survival), then there is an additional cost item for the sponsor.

Financing of civil service retirement schemes                 

The financing of civil service retirement schemes is primarily dependent on payroll taxes that are shared by the employee and the State (as employer), with the government covering any shortfall out of general revenues. The majority of public service pension schemes appear to be financed on the unfunded pay-as-you-go principle, where current demands for pension payments are financed by current receipts. No capital is set aside or accumulated to meet future expenditures, and all proceeds are merged into the state budget with no specific allocation to the financing of pensions. Although there are instances of funded schemes with a portion of their revenue derived from investment income, the State is still not exempt from carrying any shortfall that arises. This situation is likely to drain government coffers even more as these schemes mature. The impact of the rapid increase in pension costs will be most keenly felt when policy directions towards reducing expenditure and restoring fiscal balance put government budgets under strain.

The implications of financing civil service pension schemes are by no means trivial, regardless of whether it is the unfunded pay-as-you-go approach or a funded system with a reserve fund that is expected to grow over time. Conventional arguments for occupational pension schemes cannot be applied indiscriminately to civil service pension schemes. For instance, protection against employer insolvency is not particularly relevant in the context of pension schemes for civil servants, since the central government has vested rights to exercise its taxing power. The argument that available investment earnings from reserve funds can reduce the ultimate cost to contributors also needs to be considered within the macro context of the government’s fiscal accounts. Currently, the Government Finance Statistics (GFS) presents central government debt and deficit positions using cash accounting. Until the GFS standards are required to adopt the international standards of accrual accounting for pension finance, current pension surplus (current receipts less current expenditures) and direct lending from the pension fund or pension investments in government bonds will help to create the effects of a lower domestic debt and a lower consolidated government deficit.

Trends in civil service pension reform                              

In many ways, the financial stresses faced by civil service pension schemes are quite similar around the world. Most countries underwent extended periods of massive expansion of public employment, typically in the seventies and the eighties, followed immediately by periods of stabilization or even contraction. Such a phenomenon is quite evident in that the ratio of pensioners to covered employees has been rising dramatically over the last decade. This is further exacerbated by the use of liberal early retirement programs to reduce wage bill expenditures, resulting in an explosion of the pension expenditures of most countries.

Since most of the civil service pension bill is paid (or supplemented) by government revenues, many of the solutions adopted are similar to those of statutory national pension schemes. It is therefore not surprising that reform policies designed to manage civil service pension expenditures do not differ markedly from measures to restore fiscal balance in national pension systems. As such, proposed amendments or modifications to the provisions of civil service schemes generally take the form of: (i) reducing pension liability through parametric changes (i.e., lowering benefit entitlements); (ii) gradually shifting towards some form of advance funding of benefit obligations or cost-sharing with employees; (iii) designing systems that allow greater pension portability; and (iv) harmonizing compensation components (cash payments and fringe benefits) to attract, retain and motivate civil servants.

Reduce pension liability: Many countries have taken steps to reduce their civil service pension liabilities by introducing higher retirement ages and/or longer service periods, increasing required employee contribution rates, lowering rates of benefit accrual, and/or changing the post-retirement indexation policy so that pensions will increase in accordance with price increases instead of wage increases. Korea increased the employee share of the contributions, shifted from wage to price indexation and reduced benefit levels for new employees. Italy also shifted from wage to price indexation and introduced limitations on early retirement. Brazil, Greece and Portugal all reduced the benefit accrual rates.

Advance funding or cost sharing with employees: Civil service pension schemes in many countries, particularly in the South Asia and Africa regions, very often are totally unfunded (i.e., no contributions from either the employees or the government) and there are no backing assets. Of late, several countries realized the need to analyze how to achieve some level of advance funding (at least partially) of benefit obligations. This may take the form of requiring employees to start contributing to the system, governments to contribute systematically, and/or establishing reserves so that investment earnings from pension funds can reduce the ultimate cost of the schemes. In a recent World Bank survey, 14 out of 82 civil service pension schemes now have either partial or full funding, and 23 out of the 82 schemes require some level of employee contributions. Also, countries such as India, Pakistan, and China are in the process of designing schemes which require civil servants to start contributing to their pension benefits.

Pension portability: Historically, civil service pension schemes were established as a form of reward for long service. Hence most benefit designs for these schemes are "backloaded" -- with little in terms of transfer of pension rights in case of early departure -- to encourage lifetime employment. However, as countries develop socially and economically, what used to be reward for long service becomes a barrier to labor mobility, prohibiting the flexibility to attract new blood through natural attrition, which is vital to allow the civil service to be modernized for the 21st century. Beginning with the 1980s, many industrialized countries realized the need for the civil service to be modernized, and started a trend to integrate civil service pension systems with national social security systems. Integration of civil service plan benefits into national social insurance plan benefits occurs to varying degrees in different countries. In the most complete sense of the term, total integration takes place when civil servants are treated no differently from private sector employees, as in Argentina and Peru, and throughout eastern Europe where preferential schemes no longer exist. A less complete form of integration occurs where a civil service pension system is operated by the State much like any other occupational pension plan in the private sector. Examples of this type can be found in the United Kingdom, Japan and other industrialized countries. Overall, an increasing number of civil service plans are being integrated in one way or another into national pension systems. In countries where integration has occurred, 60% of these integrated pension system frameworks were implemented after 1980.

Some countries like Chile, Uruguay, Peru and Jordan have taken steps to terminate the civil service preferential scheme for new employees as part of the process of implementing pension reform for their national systems. Others such as United States and Hong Kong have established fully funded defined contribution schemes for new employees to allow for full portability of pension rights.

Table 1 presents a summary of the three major categories of civil service retirement schemes: (i) those that are integrated into national social insurance schemes; (ii) those that are maintained as separate public employee schemes; and (iii) cases where the civil service retirement scheme is the only source of coverage for old-age pension programs. It is noteworthy that there is an increasing trend towards integrating civil service schemes within social security systems.

Table 1: Categories of Provision of Civil Service Retirement Schemes

Integration of Civil Service Plan with National Social Insurance Plan

Provision of Separate
Public Employee Schemes

Provision of Old-Age Pension Program to Public Employees Only

Albania

Australia (3)

Mauritania

Bangladesh

Argentina

Austria

Mauritius

Botswana

Canada

Bahrain

Mexico

Malawi

Chile (1)

Belgium

Morocco

Myanmar (Burma)

Colombia

Benin

Nigeria

Sierra Leone

Cyprus

Brazil

Pakistan

Somalia

Fiji (1)

Burkin-Faso

Panama

-

Finland

Burundi

Papua New Guinea

`

Hungary

Cameroon

Paraguay

`

Ireland

Capre Verde

PR of China

`

Japan

Congo

Philippines

`

Liberia

Cote d'Ivoire

Republic of Korea

`

Nepal

Dominican Republic

Saint Lucia

`

Netherlands

El Salvador

Saudi Arabia

`

Norway

France

Senegal

`

Peru

Gabon

Singapore (5)

`

Russian Federation (2)

Gambia

Solomon Islands

`

Spain

Germany

South Africa

`

Sweden

Greece

Sri-Lanka

`

Switzerland

Guatemala

Sudan

`

United Kingdom

Haiti

Suriname

`

United States (1)

Honduras

Swaziland

`

Zimbabwe

India

Syria

`

/

Indonesia

Taiwan

`

/

Iran

Tanzania

`

/

Iraq

Thailand (4)

`

/

Italy

Togo

`

/

Jordan

Trinidad & Tobago

`

/

Kenya

Tunisia

`

/

Lebanon

Turkey

`

/

Luxembourg

Uganda

`

/

Madagascar

Venezuela

`

/

Malaysia (4)

Vietnam

`

/

Mali

Zaire

`

/

Libya

Zambia

`

Countries in "bold" have non-contributory schemes for public employees.

Source: Pensions Team, World Bank, based on data from the ILO website (Cost of Social Security 1990-1996) and other relevant databases.

(1) A separate system for civil servants remains available for older, vested employees and civil servants already receiving pensions.
(2) Separate pension schemes available to public prosecutors and judges only
(3) Civil Servants in Australia do have separate pension systems. They have been largely defined benefit schemes, but recent reform is moving many of them to defined contribution (as Australia has a mandatory DC system for private sector workers). Civil servants typically contribute around 5%, with employers estimated to contribute an imputed rate of between 13-22% to the DB schemes.
(4) Recent reforms in these countries are moving the DB plans towards a DC ones. At present, only a small percentage of civil servants (usually high-government officials) have non-contributory schemes. (Singapore is similar – see below.)
(5) A non-contributory pension scheme for government employees operates in Singapore. However, in 1973 and 1987 conversion exercises, existing pensionable employees were given a choice to shift to the CPF scheme. At present, only new officers in the designated pensionable services (Administrative Service, Senior Police, and Intelligence Service), and political appointees are on the pension scheme.

Table 2 presents the financial flows of different civil service retirement schemes.

Table 2: Financial Structure of Civil Servants Schemes

/

/

Revenues

Expenditures

Revenues

Country

Year

From workers

From employers

Others

Cash Benefits

GDP

From workr.

From employ.

/

/

(in national currency – Millions)

(as % of GDP)

Austria

1993

15,718.4

74,734.7

802.5

88,825.6

2,117,841

0.742

3.529

Bangladesh

1992

106.87

76.59

75.25

118.89

947,896

0.011

0.008

Belarus

1991

/

/

/

190.1

85,906

/

/

Belgium

1991

24,778

106,877

/

131,655

6,743,427

0.367

1.585

Denmark

1993

-

10,489.4

-

10,489.4

873,238

-

1.201

Ecuador

1990

10,348

0

0

22,107

8,204,000

0.126

0.000

El Salvador

1991

115

115

150

193

47,792

0.241

0.241

Ethiopia

1993

23.5

35.3

2.0

71.3

23,236

0.101

0.152

France

1990

173,410

/

10,445

151,449

6,509,488

2.664

-

Georgia

1992

-

-

-

502

149,216

-

-

Germany

1993

-

26,244

23,412

48,881

3,159,100

-

0.831

Greece

1990

/

328,729

/

/

10,550,626

/

3.116

Ireland

/

104.5

486.7

15.7

582.8

32,290

0.324

1.507

Israel

1992

/

//

1,399.2

1,364.2

170,012

-

-

Jamaica

1992

2.50

2.50

171.12

170.79

51,254

0.005

0.005

Japan

1994

892

251,220

996

252,112

466,789,000

0.000

0.054

Luxem-bourg

1993

1,095.1

8,977.3

4,515.2

13,708.7

349,164

0.314

2.571

Malta

1992

-

12.11

/

/

875

-

1.384

Source: Pensions Team, World Bank, based on data from the ILO website (Cost of Social Security 1990-1996) and other relevant databases.

Holistic civil service reform: Instead of focusing exclusively on lowering the civil servants' wage bill by downsizing the civil service workforce, an increasing number of countries have turned their efforts towards a more holistic approach -- one that takes into consideration the total compensation package as well as other employment parameters. The analysis of civil service pension reform should therefore go beyond comparisons of civil service pension provisions or cost-sharing arrangements between the State (as employer) and the employee. In order to gain a better understanding of the pension reform situation in any country, one needs to study additional elements such as (i) public-private wage rates and earnings; (ii) different kinds of fringe benefits including free (or below cost) medical services; and (iii) working conditions and stability of employment. Hong Kong is the most recent example to undergo a thorough reform of its civil service by carefully studying its human resource policies including appointments, pay and benefits, promotion and exit policies. Such a holistic approach takes into consideration the proper apportionment between cash pay and fringe benefits, its comparability with the private sector, as well as other public sector remuneration policies around the world.

Pension costs within overall compensation                   

As the page on Non-Monetary Incentives explains, pensions are one piece in a complex array of rewards that public officials receive. Monetary compensation is a subset of total compensation, and total compensation is a subset of total rewards. There are nine possible elements of a total rewards package for public officials:

 

contractually-provided

non-contractual/ intangible

monetary

in-kind

current rewards

base rewards

1. base wage/salary

2. health insurance

3. job security, prestige, social privileges

allowances

4. transportation, housing, meals, telephone, travel, cost-of-living

5. transportation, housing, meals, travel

6. trips abroad, training

future expectations

7. pension

8. housing, land, etc.

9.reputation,re-employment after retirement

This website uses the following conventions:

personal emoluments = cells 1 and 4 (current monetary rewards and allowances)

personal disposable income = personal emoluments minus employer deductions for income tax withholding, provident fund/pension contributions, etc.

total compensation = cells 1, 2, 4 and 5 (contractually provided current rewards and allowances)

total reward = cells 1 to 9 inclusive (contractual and non-contractual, current and expected rewards and allowances)

For fiscal purposes, the current year value of employment costs is generally used. Wage bill figures often capture only the personal emoluments received by public officials. However, as the table shows, total rewards may be considerably larger. Even if in-kind and intangible benefits are excluded, total monetary rewards calculated on a one-year basis should include the Net Present Value of one year's pension entitlements.

Recommended readings                                                      

  • Ekebrand, Staffan. "Civil Service Pension Schemes." SIGMA Policy Brief No. 2.
  • Ekebrand, Staffan. 1996. "Designing a Pension Scheme for Civil Servants." Public Management Forum 2(6).
  • ILO (International Labour Organization). 1988. "Social security, including social protection of public employees in respect of invalidity, retirement and survivors' benefits." Report III submitted by the Joint Committee on the Public Service, Fourth Session, Geneva.
  • ILO (International Labour Organization). 1989. "World Labour Report – 1989, Volume 4". ILO, Geneva.
  • OECD/SIGMA. 1997. "Civil Service Pension Schemes." SIGMA Papers: No. 10, Organization for Economic Cooperation and Development, Paris.
  • Rajnes, D. M. 1996. "Civil Service Retirement Schemes: A Global Survey." unpublished mimeo, World Bank, PREM Advisory services.
  • United States Office of Personnel Management. 1997. "Federal Employees Retirement System – An Overview of Your Benefits." Prepared by the Retirement and Insurance Services.

Suggested websites                                                               

The International Labour Organization has been conducting an inquiry into the cost of social security programs by means of a questionnaire sent every three years to all member States. Click here to access the ILO’s "Cost of Social Security" Web page.

This page was authored by Yvonne Sin of the World Bank. It was revised on 26 November 2001.

 




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