'Pensions crisis for beginners' on Huffington Post

My article on the pensions crisis is now available on the Huffington Post, have a look:
http://www.huffingtonpost.co.uk/sarah-mccabe/the-pensions-crisis-for-b_b_1018261.html

Your pension should not be at the state's disposal

State expropriation of pension funds is not, despite what our newspapers represent, an exclusively Irish phenomenon. Pension grabs have been seen in a number of countries over the last four years, garnering surprisingly little international attention. ‘Expropriation’ is really just a nice word for confiscation. Pensions are another form of savings and thus these activities have effectively allowed the state to dip into the private saving of individuals.

Governments have managed to draw upon pension funds for finance through several different methods. In 2008 the Argentine Government nationalised the state’s private pensions, generating much of the capital it needed to meet its debt repayments and avoiding its second default of the decade. This nationalisation gave the state control of assets totalling $23 billion, which with new contributions has since risen by approximately $4.5 billion a year.

In November 2010 private pension holders in Hungary were forced to choose between handing their retirement savings back to state-managed funds or giving up their state pensions altogether. Workers who opted against returning to the state system stood to lose 70 percent of their pension claim. A similar scheme was implemented in Bulgaria, where the government forced the transfer of $300 million of private early retirement savings into state pension schemes.

In 2010 France withdrew €43 billion from the state’s reserve pension fund to tackle a short-term pension deficit. Retirement savings that were to be used in the years 2020 to 2040 will now be used between 2011 and 2024. In March of this year the Polish Government implemented sweeping pension reforms seeking savings totalling €48 billion. The new scheme slashed from 7.3% to 2.3% the proportion of an individual's salary that can be paid into private pension accounts. The 5% difference has been paid into Poland's national social security scheme.

Plenty of justifications are provided for these actions. In times of economic turbulence, national guilt over uncontrolled expenditure encourages citizens to readily accept these kinds of massive changes to financial policy. Others hold that pensions are safer in the hands of the state than in private funds. This argument, presented in favour of the actions of the Hungarian and Bulgarian governments, is rarely true in times when a Government is struggling to keep its own financial house in order.

In Ireland the Government has made an interesting move by taxing its citizens’ retirement savings. This year saw the introduction of a 0.6% levy on the capital saved in private sector pension funds. This tax will apply for four years. It levies not only future savings but also those funds put aside in the past; such a retrospective tax is arguably unconstitutional. The chunk of change held in our pension funds obviously proved too attractive for the Government to ignore. Economist David McWilliams estimates that at present the Irish people have €48 billion scurried away in defined benefit private pensions and €23.7 billion in defined contribution schemes.

On top of this levy the Government has introduced an additional mechanism to allow it to benefit from private pensions savings. Traditionally pension funds have only been permitted to invest in safe, relatively low-return financial products. However in 2010 a new scheme was established to allow the National Treasury Management Agency (NTMA) to issue new types of Government high-yield bonds, to be made available to Irish pension funds. These bonds have since allowed pension funds to buy into Irish sovereign debt paying out an impressively high 9.4% yield. On the face of it this is a rosy idea: in theory the scheme provides a high return on investment for struggling pension funds while also providing an additional source of finance for the state. Yet there is a reason that pension funds have traditionally been forced to avoid high-yield bonds; high yield means high risk. Many of us are now investors in pension funds that are betting on a state that has just required us to tax that very same fund just to ensure its survival. Though it may not look like it, this is further dubious use of private savings to fund a Government shore-up attempt.

We work away our daylight hours with the hope of progressing, achieving and ultimately earning. We earn to provide for our futures and our children’s futures. Retirement funds are not just mere savings accounts, they are idealogical in nature; we work hard now so that we can afford ourselves security in our old age, regardless of the fact that we may not live to enjoy it. Many of us faithfully put aside a portion of our earnings each month for our pension despite the fact that we are struggling to live on a low disposable income. It is a shame that this most treasured of financial assets has been targeted.

The pensions crisis for dummies

Online pension forums and advice websites often tend to be very specific. Pensions are quite a complicated subject and though I’ve repeatedly come across discussions of the current pensions crisis I haven’t been able to pinpoint exactly the sources of the problem. The following is an analysis of the pensions emergency from a beginner’s point of view.

Pension plans can generally be classified as either defined benefit or defined contribution schemes according to how benefits are determined, though hybrids of the two do exist. Defined benefit plans place most of the fiduciary responsibility on an employer. The employer guarantees that the employee will receive a certain payout at retirement according to a fixed formula, usually dependant on the individual’s salary and their number of years' of membership in the plan. So this type of pension might see a company guarantee a post-retirement annual payout of for example 60% of an employee’s salary averaged along their working life.

Defined contribution plans remove the responsibility from the employer and place it on the employee. This type of scheme provides a payout at retirement that is dependent upon the amount that the individual themselves has contributed into their pension fund over their working life and also on the performance of the investment choices that they have made. Contributions usually consist of employee salary deferrals. In most cases an employer will agree to match at least some percentage of these contributions, so the employer does still play at least some part in the accumulation of a pension (besides the obvious).

In the 50s, 60s and well into the 70s, benefit schemes were the most dominant form of pension fund. Employees could expect them as standard. Most of my friends’ parents, regardless of whether they worked in the private or public sector, are now drawing down this type of pension. Generally they provide a very adequate standard of living for the retired recipient.

Today these schemes are far less common. The majority of firms in the private sector have abandoned benefit plans in favour of contribution plans. There are a multitude of reasons for this shift, led both by employer and employee, including a desire for increased control over one’s pension investments and support for a less paternalistic type of company structure. However the most obvious reason for this change is that contribution schemes pose less cost to employers. The employer has less fiduciary responsibility and in some cases can avoid making any contribution to the employee’s pension fund altogether.

The problem is that left to its own devices, the average individual’s contribution pension fund is very vulnerable. Many of us (and unhappily I include myself at this point in my life) do not possess the financial savvy to choose the correct investment vehicles, or do not have the discipline to voluntarily contribute money to retirement accounts. An individual needs to save two hundred grand over the course of their working life and have their contributions matched every step of the way by their employer to ensure a meagre annual pension of just over €23,000. That means putting aside €8,000 every year for 25 years – very difficult if you are on the average industrial wage of €36,000 (that’s pre-tax). Granted, pension contributions are often tax-deductible, but we are still dealing with a big number that will be deducted from one’s discretionary income.

Both types of pensions took a massive hit as a result of the recent downturn but this hit was borne in crucially different ways. Employees covered by defined benefit plans suffered less, since regardless of investment fluctuations their retirement benefits were guaranteed. Their employer always bears the brunt of any falling investment values. On the downside, one unfortunate shortcoming of this type of scheme is that weighty pensions obligations can sometimes cripple struggling corporations. Aer Lingus, a company know to have trouble with cash flow, currently holds a worrying debt in pension responsibilities. But short of a company going bankrupt, workers with this type of pension are safe.

Contribution pension funds tell a different story. This type of pension was decimated by the recession. In the United States the nation's 100 largest corporate pension plans fell by $303bn in 2008, going from a $86bn surplus at the end of 2007 to a $217bn deficit at the end of 2008. The average Joe, who possesses neither financial training nor the time to devote to monitoring his investments, saw the value of his pension massively decline. Pensions fell even as some companies made big gains and expanded; employers were not responsible for the health of their employees’ pension.

Civil servants are by and large the only remaining recipients of defined benefit pensions. This has created even more discourse between workers in the public and private sectors. It is hardly fair that public sector pensions are safe while private sector pensions have taken such a hit. 

We now know how difficult it is to build up a contributions-based pension, and how those who have managed it have still seen their savings diminish. The end result of these factors is that the state will be forced to bear the burden of financing the old age of this generation. Our struggling public purse will have to fund the retirement of those who in many cases worked for employers who could have easily afforded to pay for their pensions. The state can not afford this. Life-spans are increasingly getting longer. This will cause particular problems in countries like the US that have adopted an anti-immigration stance, since flows of immigrants are not available to counteract an ageing population (thought the US’ high birth rate will stave this off in the medium-term). Countries with low birth rates, including most of Europe, will really struggle.

To conclude I must say that having grasped the roots of this problem, I can’t quite see a solution. As always comments are welcome from sources with a better grasp of this subject than I.

Forced to appeal to the High Court over incorrect bank charges

The number of complaints formally made by consumers against banking institutions has grown year on year since the inception of the Financial Services Ombudsman (FSO) in 1995. The FSO is the statutory office tasked with independently inspecting complaints made by the general public about their dealings with financial service providers that have not been resolved by the providers themselves. Between 2008 and 2009 the office saw an increase in complaints of 28%. There is no doubt that this increasing figure is not only a result of mounting consumer difficulties in making repayments on loans and mortgages, but also a result of the growth in anger at and thus scrutiny of the practices of Irish banks.

The procedure for successfully resolving a complaint through the Financial Service Ombudsman is, unsurprisingly, complicated. The consumer must first lodge a written application. On the basis of this the FSO will decide whether the issue falls within its remit; in 2010 it found that a whole 859 did not. We have no idea as to what happened to these claims as they are not tracked any further by the office. If a complaint is found to fall within its remit the FSO then notifies the financial institution in question and affords the institution twenty five days in which to resolve this complaint internally. If no solution is reached the FSO will offer a mediation service. How this works in practice remains a mystery as the office does not elaborate on what mediation involves. There are no clear guidelines provided as to what type of result will deem mediation a success. A mere token effort by a financial institution to placate an aggrieved consumer might be sufficient to halt the involvement of the FSO.

On to the investigatory stage. Only if the FSO itself declares that mediation has been unsuccessful will it begin an actual investigation into a complaint. There is currently a twenty week waiting time for the commencement of a new investigation following the ruling out of mediation; what happens to the aggrieved parties in the meantime we do not know. Investigations take on average six to eight weeks, involve an evidentiary assessment and potentially an oral hearing. Once a decision is reached it is legally binding on both parties, subject only to an appeal. In 2010, a year that saw a near-record 7230 complaints, only 2443 decisions were ever reached.

At this point we reach the most problematic aspect of the complaints procedure. The only way to appeal a decision of the FSO is to take an appeal to the High Court. The High Court, the second highest court in the state! At this level legal costs are prohibitive for the majority of the populace never mind those parties already in a disadvantaged position with their bank. The cost of taking on a solicitor and barrister to bring an appeal through the High Court would be well into the thousands and we can hardly expect applicants to represent themselves in an upper court where across the room will sit the type of well-paid and experienced counsel that banks can afford. As a direct result very few appeals are ever taken.As of 31st December 2010, there were only 32 High Court appeals pending against the FSO in a year where 2500 decisions were issued. We don’t even know how many of these appeals were brought by the consumer rather than by the financial institution involved.

In theory applicants could apply for legal aid to support their appeal. Unfortunately legal aid is very heavily means tested and the income bracket it accepts is extremely low. Anecdotally I know that even if an applicant meets the financial requirements to qualify for legal aid, the Legal Aid Board will generally turn them down on the merits test. A case must be likely to succeed before it will be taken on for legal aid and since the FSO complaints process is already so long-winded the Board are reluctant to bet on the success of an appeal. It would be interesting to see how many applications for legal aid in order to take such an appeal are dismissed every year but this kind of specific information is not provided by the Legal Aid Board.

I see the point of using non-judicial bodies like the Financial Services Ombudsman to make decisions on certain specific issues, since this reduces the costs to the taxpayer that would be incurred by full blown court cases. The Personal Injuries Assessment Board is a good example of this model working at its best. Yet the integrity of these non-judicial bodies is instantly cast in doubt when applicants are forced to go all the way to the High Court to appeal their decisions. As well as providing more clarity on its complaints procedures the Financial Services Ombudsman must set up a more realistic appeals process as a matter of urgency.

How healthy is your credit file?

I have noticed that several assumptions regarding personal credit checking in Ireland are circulating in the blogosphere. Perhaps it is exposure to US advertising that has resulted in the incorrect conclusion that there is a credit rating scheme in operation in this country and that almost any type of imperfect financial transaction will lower one’s credit score. In reality the only credit referencing procedure currently in existence is administered by a small private organisation, the Irish Credit Bureau (ICB), with much less scope than that of its US counterparts. A real lack of knowledge exists as to the powers of lenders to look into the financial history of citizens and as a result the actions of the ICB do not come under sufficient scrutiny.

The ICB is not affiliated with the Government in any way. It is owned and financed by ICB members, mainly financial institutions. The bureau operates a database that contains information on the performance of credit agreements between financial institutions and borrowers. Lenders register these details with the ICB on a monthly basis. Each time you apply for credit from one of these lenders, they can search the ICB’s records for an account of your performance under previous credit agreements with other lenders. Notably the ICB does not score or rate citizens on the basis of their credit history but instead just provides information relating to each credit transaction that a person has entered into.

So what do our files actually contain? Most credit agreements are covered, including mortgages, all types of loans and leasing and hire purchase agreements. All instances where an individual has missed payments are recorded. Credit card details are also included. In the past, these were supplied only if a credit card was revoked or cancelled. Now lenders have the option of supplying all and any information relating to credit cards, including a cardholder’s opening and closing balances. The only saving grace here is that because of the nature of credit cards the ICB waits thirty days before any negative records relating to card use are stored. In all other cases information is kept on the ICB database for the full term of the agreement regardless of whether it concerns a three year personal loan or a thirty year mortgage. When an agreement is either paid off or formally written off it is still stored for a full five years after the date of termination. This rule applies irrespective of whether the debt has been completely repaid or the borrower has failed to complete payment.

What is not covered by the ICB? Overdraft agreements are thankfully excluded, with the exception of those overdrafts that are the subject of legal proceedings. If borrower and lender have come to an agreement to postpone the payment of a loan, this will not be recorded either. This means, for example, that negotiations for payment moratoriums or interest-only periods under the Code of Conduct for Mortgage Arrears would not be included on an individual’s credit file.

The lender is tasked with recording the borrower’s performance in making repayments and this information is then sent to ICB where it is stored. This is a point of issue; can we really expect our lenders to faithfully represent our credit history? It would be preferable to assign an impartial organisation, even an independent arm of the ICB itself, with the task of reviewing our performance in credit transactions.

A second worrying aspect that I stumbled across while researching this piece is that virtually every person who agrees to a credit transaction with a financial institution signs away their information to the ICB without knowing it. Those lengthy terms and conditions that must be signed to activate a loan or credit agreement, rarely read in full by consumers, almost always contain a declaration of consent that allows the ICB to collect and store data on that financial transaction.

The final issue that I have with this system relates to the number of private investigative firms that offer a credit check service for a fee; google All Ireland Investigation or www.checkback.ie to see for yourself. The ICB database is designed solely for the benefit of partaking financial institutions and should not be accessible by other groups. We do not consent for investigative firms to have access to our financial information even if we sign an ICB declaration of consent as part of a loan agreement.

Published on the Huffington Post website

My article on Ireland's approach to personal bankruptcy has been published on the Huffington Post website, a great online news source. Check it out -
http://www.huffingtonpost.co.uk/sarah-mccabe/irish-bankruptcy-law_b_991686.html

A condemnation of Irish bankruptcy laws

As the presidential race heats up I have been disappointed to find that not one of the seven candidates has touched upon an issue of crucial importance to an Irish society currently under great pressure. Our bankruptcy laws are archaic and are not afforded the attention they deserve by either the media or our politicians. I continue to be astonished by this country’s approach to bankruptcy, which does much to exacerbate the financial woes of Irish debtors.

In Ireland personal bankruptcy has traditionally been associated with fraud and financial mismanagement and the law represents this mindset. Applicants are penalised for a full twelve years after a declaration of bankruptcy. Even prior to the recession these laws were clearly unreasonable. In the aftermath of the economic downturn this approach is causing immeasurable harm by neglecting to allow for the thousands of people who, when faced with a harsh negative equity policy and rising unemployment rates, have amounted unavoidable debts over the last five years.

That personal debt in this country has reached epidemic proportions is unarguable. The organisations that currently exist to assist the public in debt management and bankruptcy advice are massively oversubscribed. In their Pre-Budget Submission of this year MABS, the Government-funded Money Advice and Budgeting Service, reported that the average debt of their clients has grown from just over E6,990 in 2006 to E16,937 by the third quarter of 2009. The Free Legal Advice Centre has experienced a 100% increase in debt related legal queries from the general public in the past year.

The average person assumes that bankruptcy is a last resort out of their debt, a way out when all is lost and their debts reach a point where repayment is no longer viable. Unfortunately Irish bankruptcy laws mean that there is no way out; no person of sound mind would willingly freeze their ability to make any money for a full twelve years, particularly anyone between 25 and 45 who is in the prime of their money-making life. MABS actively advises its clients to ignore bankruptcy as an option regardless of the size of their debt. This situation is frankly ridiculous; punishing a bankruptcy applicant for a full twelve years is both cruel to the individual of no help to the rest of society. Releasing a person from bankruptcy is actually of benefit to the economy as at least it allows them to re-enter the market as a worker and consumer.

No other developed nation applies such a punitive approach to individuals in serious debt. US and UK laws provide for the possibility of a bankruptcy discharge period of one year. Cost and ease of access alone also pose difficulties for the Irish debtor. Irish bankruptcy applicants must be able to pay the expenses of the Official Assignee, the costs of the petitioning creditor and any other preferential payments owed. In the UK, people can file for bankruptcy online. In Ireland it involves a High Court proceeding.

Recent proposals for reform in this area still fall short of providing a fair and equitable form of relief for indebted individuals. The Civil Law (Miscellaneous Provisions) Bill 2010 proposes to change the minimum period of time after which a person declared bankrupt may apply to have the bankruptcy discharged from twelve years to six. Yet six years is still an excessive length of time to penalise an applicant; not only does it strangle their ability to rehabilitate their finances for more than half a decade, but it as mentioned above it prevents them from re-entering the market as a spender and thus asset to the economy. The Bill proposes that the same criteria apply for the six-year period as currently do for the twelve-year period - the assets of the applicant must also be totally realised and the same costs and difficulty of access apply.

The Law Reform Commission’s proposals on personal debt envisage a far more comprehensive reform and are worth reading, but these are mere proposals – a Bill has yet to be introduced. This should be condemned given that Ireland’s IMF bailout included a condition requiring the Government to modernise our bankruptcy laws by the first quarter of 2012.