Q&A: occupational pension schemes in Germany

Occupational pension schemes

What are the main types of private pensions and retirement plans that are provided to a broad base of employees?

Company pension schemes are generally defined benefit schemes. Until 31 December 2017, defined contribution schemes were only possible if the employer promised to pay a minimum amount of company pension. As of 1 January 2018, it is also generally possible to structure a company pension as a pure defined contribution scheme if an applicable collective bargaining agreement allows it. If there is no such collective bargaining agreement in place, then it remains that defined contribution schemes are only possible if the employer promises to pay a minimum amount of company pension.

Are employers required to arrange or contribute to supplementary pension schemes for employees? What restrictions or prohibitions limit an employer’s ability to exclude certain employees from participation in broad-based retirement plans?

Under German law, the employer is not required to offer employer-financed company pension schemes. Nevertheless, if it decides to voluntarily set up and finance such a company pension scheme, the employer is in principle free to decide what financial resources it provides and which group of people should be entitled. However, if some employees are to be excluded, this cannot be done arbitrarily, but must be based on objective reasons in accordance with the principle of equal treatment under labour law. Additionally, there are further restrictions due to extensive case law prohibiting discrimination on grounds of race or ethnic origin, gender, religion or belief, disability, age or sexual orientation.

Even without the employer itself financing a company pension, the employee can claim a company pension by deferred compensation. In this case, the employer must use a future salary of up to 4 per cent of the income threshold for assessing contributions to the statutory pension insurance (€3,504 in 2023) to provide an employee-financed company pension. If the remuneration is converted via a direct insurance, a retirement fund or a pension fund, the employer must also pay an employer’s subsidy of up to 15 per cent of the deferred compensation amount if, and to the extent, the employer saves social security contributions because of the remuneration conversion. However, in the case of deferred compensation agreements already concluded before 1 January 2019, this obligation applies only since 1 January 2022.

Can plans require employees to work for a specified period to participate in the plan or become vested in benefits they have accrued?

If the employee leaves the company prior to the occurrence of the insured event, the pension expectancy for the company pension remains legally vested if (1) the employee is at least 21 years old upon termination of employment; and (2) the pension commitment existed for at least three years at the time. An exception is made for pension commitments financed by the employee by way of deferred compensation. Such pension entitlements are immediately vested irrespective of the employee’s age or the duration of the pension commitment.

If an employment relationship does not end prematurely, but upon the occurrence of or after a covered event indicated in the pension commitment, the law stipulates no minimum term of service that must be completed in order to receive pension benefits. However, company pension schemes can stipulate such so-called waiting periods and often do so. This means that a certain period must pass between granting the pension commitment and the occurrence of the covered event. The waiting period can also be completed after the employment relationship ended. Such waiting periods usually range from five to 15 years.

What are the considerations regarding employees working permanently and temporarily overseas? Are they eligible to join or remain in a plan regulated in your jurisdiction?

German company pensions law is applicable wherever German law applies to the pension commitment. In particular, if someone who is employed in Germany changes from a German company to a foreign group company (for example on a temporary secondment) and a new (foreign) employment contract is not entered into, German company pensions law continues to apply if the habitual place of work is still Germany. The situation differs if the employee enters a new employment relationship with the foreign group company. Whether, and to what extent, it is possible to continue a pension commitment under German law abroad needs be examined on a case-by-case basis.

Do employers and employees share in the financing of the benefits and are the benefits funded in a trust or other secure vehicle?

There is no legal obligation for the employer to finance a company pension scheme. If an employer decides to grant a company pension, it can determine the requirements in principle. This may also include an obligation for the employee to contribute financially (also known as matching contribution plans).

There are still a great number of pension schemes that are unfunded. Especially unfunded direct pension commitments are still common. If the employer does not refinance these by (1) concluding reinsurances; or (2) transferring assets to a trustee within a contractual trust arrangement (CTA), pension provisions have to be formed within the company’s balance sheet. However, there has been an increase in funded company pension schemes recently. In particular, pension commitments that are implemented by way of direct insurances, retirement funds or pension funds are subject to funding requirements.

What rules apply to the level at which benefits are funded and what is the process for an employer to determine how much to fund a defined benefit pension plan annually?

It is not mandatory for a pension commitment to be funded. Therefore, it is also not possible to say in general terms how much to fund a defined benefit pension plan annually.

Company pension schemes that are structured as insurance (direct insurance) or like an insurance (retirement fund, pension fund) are subject to funding requirements as a result of regulatory provisions which apply to the insurance sector.

What are customary levels of benefits provided to employees participating in private plans?

Since employer-funded occupational pension plans in Germany are voluntary benefits provided by the employer, the employer decides in which benefits are granted. In practice, it is not possible to identify a customary benefit level.

Are there statutory provisions for the increase of pensions in payment and the revaluation of deferred pensions?

Yes. In general, company pension payments must be adjusted every three years in accordance with the increase in the cost of living insofar as the employer’s economic situation does not make such an adjustment impossible (see section 16 of the Company Pensions Act (BetrAVG)). If during the relevant three-year period the cost of living has increased at a rate which is higher than the increase in the net salaries of comparable employees at the company, the obligation to adjust the pension is limited to the increase of the net salaries of comparable active employees. As an alternative the employer can promise to increase ongoing company pensions by 1 per cent each year. This must be agreed in the pension commitment. No adjustment of company pensions is necessary if the company pension scheme is implemented by a direct insurance or a retirement fund and, from the start of the pension, all surplus shares attributable to the pension portfolio are used to increase current benefits, or a defined contribution plan with a minimum benefit has been issued.

What pre-retirement death benefits are customarily provided to employees’ beneficiaries and are there any mandatory rules with respect to death benefits?

There are no mandatory rules. The benefits depend on the individual rules of the pension schemes. It is customary that surviving dependants receive a certain percentage part (eg, 60 per cent) of the pension benefits that the employee would have been entitled to.

When can employees retire and receive their full plan benefits? How does early retirement affect benefit calculations?

There are no mandatory legal provisions that determine the earliest date employees can retire and receive their full plan benefits. However, occupational pension schemes are often aligned with the age provision of the state pension and thus refer to the standard retirement age, which is currently 67 (for employees born after 31 December 1963). Nevertheless, an earlier date, such as reaching the age of 65, can also be determined. If an employee receives an earlier statutory full pension (eg, a pension for severe disability at the age of 63), the employee is – in general – entitled to claim the benefits from the occupational pension scheme also at the same date he or she receives the statutory pension.

According to section 2 paragraph 1 BetrAVG, there is a pro rata reduction of the employee’s full pension benefits if the employee leaves the company before reaching the agreed standard retirement age. In general, the pro rata reduction is calculated based on the duration of the actual service compared to the length of service if the employee would have been employed until reaching the standard retirement age. A deviation from this calculation to the disadvantage of the employee is only possible by collective bargaining agreements. Deviations in favour of the employee are possible, but not very common, by other agreements (eg, works council agreements). In addition, section 2 paragraph 1 BetrAVG does not apply to (1) pension commitments financed by way of deferred compensation; (2) commitments structured as contribution-oriented defined benefit plans; (3) defined contribution plans with minimum benefits; or (4) pure defined contribution plans.

Are plans permitted to allow distributions or loans of all or some of the plan benefits to members that are still employed?

If the employee receives benefits even though he or she is still employed by the employer, these payments can generally not be classified as occupational pension benefits within the meaning of the BetrAVG. However, as the classification as a benefit under the BetrAVG is, especially due to tax reasons, important for the employer, such a payment would be possible in principle, but not advisable.

Is the sufficiency of retirement benefits affected greatly if employees change employer while they are accruing benefits?

This depends on the type of financing and the implementation method of the occupational pension scheme. If the benefits are financed by the employer, under section 1b BetrAVG they are only vested if the employee has reached the age of 21 and the pension commitment has existed for at least three years at the time the employee leaves the company. If this is not the case, the employee loses all entitlements unless more favourable individual provisions apply. In contrast, if the benefits are financed by way of deferred compensation, the entitlements are immediately vested.

In what circumstances may members transfer their benefits to another pension scheme?

In particular, due to accounting reasons, employers may intend to transfer their direct pension obligations to external pension providers so that accruals no longer have to be made for those direct pension commitments in the company’s annual financial statements. If this transfer is accompanied with a degrading effect on the benefit level of the beneficiaries, it will be only legally effective if the strict conditions of the Federal Labour Court are met. In addition, as such an outsourcing also causes a change in the implementation method, the consent of the employees or, if the pension scheme is based on a works council agreement, the consent of the works council is necessary.

Employees who left their former employer with a vested pension entitlement will often intend to transfer their pension commitment to their new employer and continue it unchanged. However, there is no statutory legal obligation for the new employer to continue – unchanged – a pension commitment of a previous employer. The employee is only entitled to claim – under further conditions – that the new employer grants a new pension commitment, whereby the value of the old vested pension commitment is taken into account (see section 4 paragraph 3 BetrAVG).

Who is responsible for the investment of plan funds and the sufficiency of investment returns?

In the case of direct pension commitments, there is no such obligation at all. If indirect implementation methods (ie, support funds, direct insurances, retirement funds or pension funds) are used, the employer itself is, in principle, only obliged to ensure the proper payments of the pension contributions to the external pension provider. The latter is then responsible for the investment of the plan assets and sufficient investment returns. However, due to section 1 paragraph 1 BetrAVG, there is a risk of a default liability for the employer if the external pension provider is not able to fulfil the pension promise. This contingent liability applies in principle to all kinds of indirect pension commitments and is also completely independent of whether the employer is at fault for the fact that the external pension provider is unable or unwilling to fulfil the pension promise. Only in the case of a pure defined contribution scheme within the meaning of section 1 paragraph 2 No. 2a BetrAVG is there no such risk of a contingent liability. However, such pension schemes are not yet widespread in practice because the conclusion of a corresponding collective bargaining agreement is mandatory here.

Can plan benefits be enhanced for certain groups of employees in connection with a voluntary or involuntary reduction in workforce programme?

In principle, this is possible. However, restrictions may result from the general principle of equal treatment. In addition, if the pension commitment is processed as an indirect pension promise via an external pension provider, it must be ensured that additional contributions to finance such enhancements are allowed under the provisions of the external pension provider.

Are non-broad-based (eg, executive-only) plans permitted and what types of benefits do they typically provide?

Yes. As the employer is in principle free to decide whether, to what extent and to which employees occupational pensions are granted, executive-only pension schemes are in general, also with regard to the principle of equal treatment, permissible.

In practice, however, employers often grant occupational pension schemes for executive and non-executive employees. The plans also often cover similar pension events (ie, old age, disability and death). Nevertheless, executive employees are often entitled to higher benefits in a pension event.

In the case of executive employees, individual pension commitments are also common. For executive employees, within the meaning of section 14 BetrVG, the works council is not in charge. Thus, a pension plan for these executive employees, which is based on a collective agreement, can only be concluded with the spokesman committee.

How do the legal requirements for non-broad-based plans differ from the requirements that apply to broad-based plans?

Not at all, as the statutory regulations of the BetrAVG apply equally to all forms of pension commitments, regardless of whether they were issued as broad-based or non-broad based plans. Incidentally, this also applies to managing directors and executives. Only for managing directors, who control at least 50 per cent of the shares of the company (by themselves or together with another managing director), are the legal restrictions of the BetrAVG not applicable.

How do retirement benefits provided to employees in a trade union differ from those provided to non-unionised employees?

Non-unionised employees are only entitled to occupational pension benefits based on a collective bargaining agreement if the employment contract stipulates that the provision of the collective bargaining agreement also applies to them. However, these reference clauses are common.

In addition, a pure defined contribution scheme (section 1 paragraph 2 No. 2a BetrAVG) is only permissible if it is based on a collective bargaining agreement. However, such pension schemes, whereby the principle of pay and forget applies, are not widespread in practice at this point in time. However, by the end of 2022, the first collective bargaining agreements have been concluded stipulating a pure defined contribution scheme.

How do the legal requirements for trade-union-sponsored arrangements differ from the requirements that apply to other broad-based arrangements?

The main difference is, according to the case law of the Federal Labour Court, that the parties of a collective bargaining agreement are subjected to less strict conditions when cutting benefits of an occupational pension scheme. In addition, deviations from certain statutory provisions (listed in section 19 BetrAVG) are only allowed based on a collective bargaining agreement. The same applies to pure defined contribution schemes, which are only permissible on the basis of a collective bargaining agreement.