In defense of funded pension schemes

3 min

Funded pension systems don’t get much love in Europe. The terrible level of financial education doesn’t help, but even educated people often distrust, or at best see them as sub-par. I don’t share the sentiment. I truly believe that for most people it’s vastly better than doing nothing or even rolling your own investment plan.

I’m gonna list a few major benefits that people often overlook. Keep in mind that I’m commenting on the Lithuanian system; I don’t know other countries that well, so do your own research. Still, at least some of these should sound familiar to most europeans.

Ease of use. You can setup your plan and contributions in one afternoon, then forget about it until retirement. You could automate a lot of alternatives too, but the amount of effort required doesn’t even compare.

Incentives. Many governments want you to save for retirement so desperately that they will even pay you to do it! In Lithuania you could get up to 516 eur in cash each year if you maxed out all incentives. Granted, the more you earn, the less this means to you, but hey, free money. You can also save on taxes if your employer makes contributions on your behalf from your pre-tax salary (up to 25% - here’s a practical guide in lithuanian).

Solid strategy. Pension funds must follow life-cycle strategy in Lithuania. It maximizes returns early in life and minimizes volatility closer to target retirement date. It has been proven to be effective. You could do a lot worse investing on your own.

Low fees. This of course depends heavily on your country. The law in Lithuania demands pension funds to charge no more than 0,5/0,8% per year in management fees (different percentages for different types of funds), when most other funds charge 1-2%. As these funds grow larger, they might even start competing on price.

Security. Pensions funds are probably the most regulated investment products. Your money is definitely more secure in a pension fund than in some random fin-tech darling.

If your savings are in euros, then European Central Bank offers even more security - the government of your country can’t nationalize or write-off your savings as easily. Here’s a couple of stories from Hungary and Poland.

The major perceived problem with Lithuanian funded pension scheme is that once you agreed to it, you cannot stop contributing or cash out the money prior to retirement. I see how this doesn’t inspire confidence, but really, you should be doing exactly that anyway. Your retirement account isn’t your savings account. It only makes sense if you stick with it for multiple decades, so best if you forget about your contributions until it’s time to buy annuity.

Another problem is that each new government has bright new ideas how to reform the scheme. That definitely doesn’t inspire trust into it’s stability. I don’t have any counterpoint to this; it really sucks.

Pension schemes aren’t perfect, and they don’t have to be - they are designed to work just well enough for most people. If you’re currently not investing anything for your retirement, I would suggest reconsidering the funded pension scheme in your country. It’s a lot better than doing nothing, and you’re likely to do much worse on your own.

If you’re ready to take care of your future on your own, then more power to you. Just be aware that it will take a lot more than some random real estate, bitcoins, and TSLA options.

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