RETIREMENT PLANNING

If you are employed in Germany, part of your monthly salary is paid into the state’s pension fund (gesetzliche Rentenversicherung). Once you retire, you will then be paid a state pension out of this fund. However, state pensions are often quite meagre and insufficient to maintain the lifestyle you’ve been enjoying until now.

Check for yourself whether the monthly pension you are likely to get paid is sufficient to maintain your current standard of living: From the age of 27 and after at least 5 years of contributions, Deutsche Rentenversicherung regularly informs insured persons about pension entitlements acquired to date, calculates the expected pension amount in retirement and provides information on the current status of the reduced earning capacity pension. Keep in mind that your pension will still be taxed once it is paid out to you.

Be that as it may, the pension information also allows you to better organise your complementary retirement provision planning, which the German state encourages with a range of tax subsidies and targeted funding.

Note that self-employed and freelancers, for whom it is not compulsory to make contributions into the statutory pension fund, and who also do not contribute voluntarily, do not, as a general rule, receive a pension information and are not eligible for a statutory pension. It is therefore highly recommended to make alternative pension provisions, otherwise risking old-age poverty.

Let us now turn our focus of how the pension provision system is organized in Germany

• The 3 tiers of pension provision in Germany
• Pros and cons of insurance-based provision in the 3 tiers

The 3 tiers of pension provision in Germany

In Germany, pension provision is based on 3 tiers.

The first tier relates to basic pension provision and is intended to guarantee basic financial security in old age. It is subsidized by the state, but is rather inflexible in terms of, for example, capital withdrawals and inheritability. It includes the following:

. Statutory pension insurance (gesetzliche Rentenversicherung)
. Basic pension insurance (Basis-Rente aka Rürup-Rente)
. Occupational pension schemes (berufsständische Versorgungswerke)
. Civil service pension schemes (Beamtenversorgung)
. Agricultural pension funds (landwirtschaftliche Alterskassen)

The second tier relates to subsidized supplementary pension plans. They are voluntary forms of provision that serve to accumulate financial assets and improve retirement provision. As the name suggests, these are also subsidized through allowances and tax deductibility. Note that your employer is by law obliged to support you if you wish to make retirement provisions in the second tier. Provisions relating to the second tier include the following:

. Riester pension (Riester-Rente)
. Company pension schemes (bAV – betriebliche Altersversorgung)

The third and last tier relates to private pension provision. It is the most flexible form of pension provision, but for which tax incentives are only available to a limited extent. However, unlike the other two layers, you can generally manage your money freely at any time. Provisions relating to the third tier include the following:

. Private pension insurance
. Share/fund portfolios
. Real estate for retirement provision

Pros and cons of insurance-based provision in the 3 tiers

The different tiers of retirement provision offer you a range of pros and cons than can be grouped along the following features:

. Tax deductibility:

The tax treatment of the various tiers differs considerably and is a major argument for or against each of the tiers. It varies according to you individual situation and therefore, an individual assessment within the framework of a free consultation is indispensable.

. Life-long annuity:

If you want to hedge against the financial risk of longevity, it is advisable to opt for insurance-based solutions (e.g. a pension insurance policy, a Rürup pension or an occupational pension plan).

Unlike your classic share or ETF portfolio (tier 3), these pension insurance policies can offer you a guaranteed benefit in the form of a lifelong pension – regardless of whether you reach the age of 80, 90 or 120

. Insolvency/seizure protection:

Not all retirement planning solutions are protected in the event of insolvency or seizure. If, foe example, you are dependent on basic income support (Grundsicherung), you would first have to sell seizable assets in order to be considered eligible.

. Inheritability

Not all products are inheritable withoutfuss and quibble. For example, there are restrictions for retirement provision of the first tier: a Rürup pension or your statutory pension can only be inherited by your spouse and children entitled to child benefit in the form of a widow’s/widower’s pension or orphan’s pension.

. Withdrawal of capital

Early withdrawal of contributions already paid is not always possible. You are particularly restricted in the first and second tiers. In the third tier, you are able manage your money freely in the most flexible manner.

You will find hereafter an overview of the pros (+) and cons (-) of each of the 3 tiers of pension provisions:

Tier 1 – Basic pension provision

+ High tax relief during the contribution phase
+ Guaranteed lifelong pension
+ Statutory insolvency protection
+ No deduction from the basic old-age pension

– Full taxation in the payout phase
– No lump-sum payment and limited inheritance possible

Tier 2 – Subsidized supplementary pension provision

+ Tax incentives in the contribution phase
+ Additional allowances from the state or employer
+ Guaranteed lifelong pension
+ Statutory insolvency protection
+ No deduction from the basic old-age pension

– Full taxation in the payout phase
– Little flexibility in the contribution and pension phase

Tier 3 – Insurance-based private pension provision

+ High flexibility during the contribution phase
+ High flexibility in the payout phase (capital payment, lifelong pension or a payout plan)
+ Possible tax relief in the payout phase through the half-income method or income taxation
+ Pension insurance capital assets can be inherited tax-free

– Offsetting against basic income support

It’s basically up to you which type of tier of pension provion you choose to focus on, or whether you’d rather opt for a combination of several options available to you along all three tiers. Depending on your personal preferences, financial situation and willingness to take risks, you can structure your retirement planning according to your own ideas and wishes.

Get in touch with me for more information on the topic of retirement planning in Germany or to book your free consultation.