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Pension Migrations

September 2012

Beginning with this year on Russian employers will be obliged to pay contributions into the Social Insurance Fund for their employees, whether Russian or foreign nationals alike. However, the mechanism for enforcement rights to state insurance has not been developed yet. It will most likely be found in the framework of the pension reform that is currently being discussed. Yet experts believe that the increase of the fiscal burden on account of insurance premiums is in itself not likely to have a negative impact on our economy’s investment attractiveness.

Fiscal sabotage

© RIA Novosti, Yana Lapikova

Elvira Nabiullina,
ex-Minister of Economic Development and Trade, Presidential Advisor

“The situation with insurance premiums is a lesson for us to learn. Preliminary estimates show the taxable base is dropping, the hidden salaries rising”

The attempt to solve the problem of the rapidly growing budget deficit at the Pension Fund on account of the rapid increase of insurance premiums in 2011 has failed. The result was that the majority of employers were obliged to pay 34% (in the place of the previous 26%) out of the payroll into all the three non-budgetary funds – the Pension Fund, the Social Insurance Fund, and the federal and regional medical insurance funds. The contribution to the Pension Fund of the Russian Federation rose from 20% to 26%.

Despite the rapid growth of the rate and of the economy in general on account of rise in insurance premiums, the fiscal burden has grown by a mere 0.1% GDP. “This is far less than we were counting on”, Anton Siluanov, Russian Finance Minister, said earlier this year. Worse still, the share of income tax collected has dropped by 0.3% GDP. The minister pointed out that this reduction is represented by the funds not received by municipal budgets.

Two steps forward offset by one step

In 2012 the authorities made a decision to take several steps back. The basic premium was reduced to 30% on account of the reduction of the Russian Pension Fund’s share to 22%. In return, an additional rate on high salaries– exceeding 512,000 roubles a year, is introduced. Incomes exceeding this threshold, which previously used to be free from insurance premiums, are now taxed at the rate of 10%, all of which goes to the Russian Pension Fund. As a result, employers now have to pay even more for their employees with salaries exceeding 60,000 roubles than they did in 2011. However, in 2012 the Pension Fund budget deficit exceeded one trillion. On top of it, the budget transfer size is growing in discharge of the federal budget’s obligations in payment of pension benefits to servicemen and public-sector employees and other categories of employees, as well as other types of benefits managed by the Russian Pension Fund: by 2015 it is expected to reach 2.4 trillion roubles (75,5 billion USD).

The 30% rate was initially introduced for a period of 2 years. It is expected that in September this year the concept of the new pension reform will be submitted to the government for consideration. Yet, in the run-up to the presidential elections the business sector had made the government promise that there will be no raising of the insurance premium rate. Reduction is most unlikely.

Manoeuvers with pensions

Proposals concerning the pension system reform are abundant. In April the media got wind of some of the suggestions made by the Ministry of Finance. Here is what the Ministry suggests: to raise gradually the retirement age both for men and women to 63 (the current retirement age is 60 and 55 respectively). The minimum labour experience entitling to an old-age pension is proposed to be raised from the current 5 years to 15. Those whose labour experience is below the minimum will have to survive on a minimal social pension.

People will be encouraged to continue to work after attainment of the retirement age: this will enable them to count on receiving a larger pension benefits amount. In that case, however, working pensioners will have to decline the basic component of the old-age labour pension, which is currently 3,200 roubles, i.e. about a third of an average. And, finally, it is suggested to make the contribution of self-employed population to the pension system weightier on account of individual entrepreneurs, for example, barristers, notaries public. This category will only be able to count on a state pension if they pay no less than 22% of the 0.5 of the national average salary. Presently the amount of such payments would be almost 2,700 roubles a month. Suggested measures are capable of gradually reducing the pension system budget deficit and achieving its balance by 2029, claim sources at the Ministry.

Somewhat different is the outlook of those responsible for carrying out this reform at what used to be the Ministry of Health and Social Development on the pension system’s future. Following the example of President Vladimir Putin, they promise not to raise the retirement age and not to tamper with the minimum labour experience threshold, but rather to encourage people to retire at a later age through economic incentives, such as considerable increase in future retirement benefits. The income replacement rate would increase by 1% for each additional year of labour experience reaching a maximum of 75% of the future pensioner’s lost income with a labour experience of 40-45 years. Another scenario suggested by the Ministry was to introduce the basic rate of 30% for higher salaries, for example, 1.2 million roubles (37,7 thousand USD) a year and more, or even for all types of labour income. That, however, will not automatically entail many additional pension rights for top-paid employees.

Detrimental pensions

However, both the Ministry of Finance and the Ministry of Health and Social Development pinned their hopes to bring the Pension Fund into balance chiefly on abolition of early retirement – with the age threshold of 45 for women, 50 for men. Presently up to one third of retirees are entitled to it and this number includes those employed at hazardous industrial facilities with harmful labour conditions, residents of regions in the extreme north. “Why on earth should the state, the society, the government pay on behalf of the business sector”, complains Director of the Institute of Social Policies at the Higher School of Economics Sergey Smirnov. To compensate additional costs sustained by the Russian Pension Fund in connection with payment of early pensions, the insurance premiums would have to be raised by 10-15%, i.e. to the level of 40-45% of the payroll, - this possibility is not to be discarded, claimed former deputy Minister of Economic Development and Trade Yuri Voronin. Raising of insurance premiums is expected to stimulate modernisation of enterprises which are mostly represented by gigantic veteran industrial enterprises. It was suggested that funds designated for this purpose are allocated at a concessionary rate out of pension savings managed by VneshEconomBank.

Fotobank www.lori.ru

This step will be extremely hard to make. The draft law on professional pension systems was part of the previous 2002 pension reform package, reminds chairman of the Delovaya Rossiya expert council Anton Danilov-Danilyan. Yet it was removed at the very last moment. Danilov-Danilyan believes that the reason for this is that the bulk of early retirees is accounted for by employees of defence and law enforcement agencies – from public prosecutors to servicemen”. In his opinion, even if the problems related to hazardous industry and public-sector employees are set apart, changes in the pension model for one category of population will inevitably raise the question why the same was not done in respect of other categories. Abolition of all early retirement benefits will reduce the Russian Pension Fund’s expenses by a mere 10%, Vladimir Nazarov, head of the laboratory of budget federalism at the Institute of Economic Policies: “This is quite a lot but this will hardly grant the desired balance in budget”.

The former Ministry of Health and Social Development did not eliminate the possibility of abolition of the funded pension which currently takes 6pp of the 22% payment to the Russian Pension Fund, and transforming the whole of the pension system into a joint one. There are also suggestions to reduce the funded component of the contribution to the Pension by 2 pp transferring this amount into the joint pool subject to distribution. This matter is equally expected to be settled by the government by October this year.

Voronin admits that the proposals made by the Ministry of Health and Social Development would not have helped the Pension Fund budget become deficit-free. But could well reduce its dependency on the federal budget: from the current 2.3% to 0.8% GDP in 2020.

However, in May this year the Ministry of Health and Social Development was split into two departments, and the team working on preparation of proposals on the pension reform at the restored Ministry of Labour and Social Protection underwent a thorough reshuffle.

Retirement at your own expense

In late June the FinMarket news agency published the proposals concerning the pension reform made by the “newly”-established Ministry of Labour. The Ministry does not offer to raise the retirement age but nevertheless supports the suggestion of their counterparts from the Ministry of Labour to raise the minimum labour experience threshold, which would entitle to a labour pension upon the attainment of the retirement age, to 15 years. The full labour pension amount will be awarded only having a labour experience of 45 years for men and 40 years for women. The Ministry of Labour suggests reckoning on that the awarded pension amount will be equivalent to approximately 40% of the lost income. Anything beyond it can only be claimed in the event of voluntary participation in corporate and other non-governmental pension schemes.

Expats under taxes now

Before 2012 employers were relieved from the obligation to pay insurance premiums for foreign nationals working in Russia. This means that labour migrants did not have any pension or other insurance rights. This year the situation changed. Now employers are obliged to pay insurance premiums for all their employees on the basis of a labour agreement signed for a period of no less than 6 months who reside in Russia permanently or temporarily. Highly-skilled foreign professionals, whose income exceeds 2 mln roubles, are the only exception – no insurance premiums are paid to the Russian Pension Fund in their case. This is specifically stipulated by provisions in the laws On Compulsory Pension Insurance in Russia and On Legal Status of Foreign Nationals in Russia. So far only additional medical insurance is compulsory in their case.

All 22% of payments to the Russian Pension Fund made by ordinary labour migrants consist are the joint part only. Foreign workers have no pension savings. For all that the mechanism of awarding labour pensions to foreign nationals is currently still in the process of development and is expected to become part of the new pension reform.

Yes to equalization, no to equality

Collection of insurance premiums from labour migrants is often explained by the necessity to equalise them with Russian nationals in terms of salary competitiveness. In the absence of this employers found it more profitable to hire foreign nationals, which was the case even in such high-paying branches as construction or oil production. However, social justice is out of question here so long foreign nationals cannot avail of the resulting insurance rights, experts say.

“In principle, the Russian Pension Fund is now supposed to start a personal file for each guest worker. But in all probability these funds go into the joint pool. For us, Russian pensioners, this is undoubtedly beneficial since this contributes to increasing the Pension Fund resources. Yet for labour migrants this is rather a turn for the worse since it means that the employer will reduce their salary to be able to pay insurance premiums”, says Sergei Smirnov of the Higher School of Economics. “In theory, a foreign national may be entitled to a Russian pension if insurance premiums were paid to his account for no less than 5 years and if he lived in the country up to his 60th birthday (55th birthday for women),” says Professor of the Academy of Labour and Social Relations Andrei Gudkov. “But in real life such examples are rare, especially as the current pension reform will most likely result in the increase of the minimal labour experience threshold up to 15-25 years.

Under the existing procedure foreign nationals may be entitled to a Russian pension, even if residing abroad, if it was awarded to them under the Russian law. Upon departure of an expat from Russia before reaching the retirement age, old-age pension may not be awarded to him/her, unless otherwise stipulated by a relevant international agreement. According to information available on the Russian Pension Fund website, such agreements were signed with 19 of the former Soviet/Socialist bloc countries, as well as Spain. “There are declaratory instruments and there is the actual situation. There is no link between them in the form of regulatory documents. And the only documents that could be viewed as a kind of link are in fact extremely contradictory, confusing, giving rise to legal nihilism. The result is that even with CIS countries in question Russia usually refuses to recognise labour experience in other countries, or even pensions awarded abroad, and labour experience earned in Russia is equally not recognised there”, this is how Mr Gudkov describes the actual situation.

Low-paid foreigners will not contribute much to the Pension Fund, whereas highly-skilled workers usually do not need our social state insurance, Mr Gudkov believes that: “Highly-paid foreign professionals coming to work in Russia are usually insured in their home country. Moreover, stay and work in Russia are considered hazardous, dangerous and harmful worldwide. In Sweden, for example, insurance rates for the country’s nationals leaving for Russia are four times higher than for those leaving for France”. Expats receive pensions either from the country of nationality, or via voluntary pension insurance schemes. That is why expats themselves tend to show little interest to the novelty of insurance payments collected from Russian employers. For them this is merely an additional burden associated with their work in Russia, Andrei Zelenin, partner with Lidings Legal Consultants, believes. This may cause some surprise at most, since such procedure is far from being a hard and fast rule for all countries.

Pension dodgers

Experts are certain that employers of labour migrants will do their utmost to avoid paying insurance premiums. “This is perceived as an increase of the fiscal burden”, Mr Zelenin says. That is why, he claims, we are currently observing the splitting of labour contracts into shorter-term contracts, signing of agreements on provisions of services instead of labour agreements. Gudkov believes that employers of highly-skilled expat managers will be prepared to pay premiums for them based on their official salaries, which is sufficiently high in order to avoid possible interest on the part of supervisory authorities, even if the amount reaches 10,000 roubles, for example. Premium amounts will be 3,000 roubles, which is not likely to solve the problems afflicting Russia’s pension system.

Those employers who envisage no such fiscal burden minimisation options simply raise the cost of services in question sold on the Russian market, Mr Zelenin claims.

Andrei Susarov
Tax Columnist with Moscow News
Exclusively for Russian Survey