The Finnish 2005 Pension Reform

Background Studies and Impact Assessments of 2005 Pension Reform

The Finnish Centre for Pensions has made background studies relating to the development of pensions, both on its own initiative and on the initiative of its Board of Directors, the labour market work group, the Ministry of Social Affairs and Health and Parliament. Other parties have also made impact assessments of the 2005 pension reform.

According to calculations made it would seem that, for example, the improved accrual rates, the linking of earnings and income from work that form the basis of pensions to the wage coefficient, and the expected prolonging of working careers will raise the pension level. An expansion of the age limits between which pension accrues and an accelerated accrual rate to encourage continuing in employment would prolong working careers.

Changes leading to an improved pension level include also the removal of the integration of earnings-related pensions to a 60 per cent limit, as well as the increasingly extended pension entitlement and accrual rate for various unpaid periods.

After the reform, the projected pensionable service granted to the pension will also result in a higher accrued pension than before the reform, and the number of persons entitled to this benefit has increased. On the other hand, after the reform, it is possible to receive an old-age pension in full as of the age of 63, so the projected pensionable service is calculated until the age of 63 instead of 65.

The reform also includes changes that reduce the pension level. In the new scheme, pensions are determined on the basis of the insured person’s average earnings during his or her total career rather than during the last few years. The resulting effect of reducing the pension level is evened out by the fact that the earnings during the career are adjusted with a wage coefficient rather than the fifty-fifty index.

As of 2005, all pensions in payment are adjusted with the earnings-related pension index. Previously, the pensions of those under the age of 65 were adjusted with the fifty-fifty index. For persons who have been disabled at a young age, the change is evened out by the increase made after the person has drawn a disability pension for five years. Depending on the age of the pension recipient, the maximum increase is 21 per cent.

The life expectancy coefficient that affects old-age pensions as of 2010 will reduce the amount of the monthly paid pension, but it does not reduce the pension accrual paid for the entire retirement period if the pension recipient reaches the age according to the life expectancy. Furthermore, by prolonging the working career with a fairly short period of time, the pension recipient can compensate the reducing effect of the life expectancy coefficient on the pension accrued at a certain age.

The pension reform evens out pension gaps between men and women

Based on a request by the Ministry of Social Affairs and Health, a survey of the gender impacts of the 2005 earnings-related pension reform has been performed. For the first time, an assessment of gender impacts was linked to a government bill in connection with the reform of the private-sector earnings-related pension acts. According to this assessment, the reform secures a functioning scheme in terms of its equality impacts.

The surveys and calculations produced for the law-drafting showed that the new model of the average earnings during a career does not cause gender inequality. Nor does it include any singular features that would be problematic in terms of gender equality.

In the long run, taking into account the reforms regarding unpaid periods and the impact on employees’ pension provision of the amendments made to the National Pensions Act, the reform will even out the pension gap between men and women.

Read more:

Eila Tuominen, 2004. Gender Mainstreaming in the Finnish Pension Reform 2005, Finnish Centre for Pensions, Working Papers 10.

Pension based on average earnings during career

As of 2005, the pension is calculated based on the earnings and accrual rate for each year. An employment-specific calculation model that takes into account the last ten years was renounced.

The former method excluded the years – perhaps of low earnings –  preceding the last ten years from the calculation. This form of calculation model favours long employment relationships, in which the best earnings level occurs during the last ten years. The calculation model was unfavourable for such persons whose career consisted of shorter employments and who had gained their highest earnings during a younger age.

When preparing the pension reform, the issue of the pensionable earnings was one of the most difficult problems.  To facilitate the solution, the Finnish Centre for Pensions performed an extensive survey on pensionable earnings.

Life expectancy coefficient to regulate the increase in pension expenditure due to an extended life expectancy

In the early 2000s, surveys were conducted on the extended life expectancy and on the possibilities to take it into consideration in the earnings-related pension scheme.

Read more:

Lindell Christina, 2004. Longevity is increasing – what about the retirement age?, Finnish Centre for Pensions, Working Papers 6.

Juha Alho, 2003. Predictive Distribution of Adjustment for Life Expectancy Change, Finnish Centre for Pensions, Working Papers 3. (pdf)

Tightening of early retirements increase the number of working years of the elderly

Due to the large numbers of disability pensions, the largest increase to the years of working by the pension reform is due to the abolishment of the unemployment pension and the raise of the lower age limit for the right to unemployment allowance for additional days. As a result, the ratio of new unemployed elderly will decrease and employment increase.

An increase in the lower age limit for part-time pension and early old-age pension will also support continued working. Abolishing the individual early retirement pension has a similar affect, although it is numerically smaller.

Read more:

Axel Börsch-Supan: The Pension Reform in Finland, Finnish Centre for Pensions Working Papers 2005:1