PERA Articles
FINEX Capital Market Development Committee Comments on PERA Benefits to the Economy
The FINEX Capital Market Development Committee supports the proposed retirement scheme bill, known as the Personal Equity Retirement Account (PERA) which provides tax incentives to the contributions, earnings and eventual distribution of funds invested in various PERA accredited- products.
Taxation is integral to the financing of retirement systems. Basically, government can fund a mandatory public, pension system through payroll taxes, which is vulnerable to tax evasion via underreporting of earnings or technical weaknesses related to noncompliance. Another way wherein taxation influences retirement programs is in the provision of tax incentives for pension products such as PERA. PERA is an alternative scheme, voluntary and private in character designed to supplement the present public pension schemes administered by SSS and GSIS.
The Department of Finance in several articles has estimated the potential tax revenue losses ranging from P1.22 billion to P.8.82 billion, arising mainly from the 5% tax deductibility of PERA contributions (up to a P50,000 p.a. ceiling) and the exemption of these contributions from the 20% final withholding tax on interest income. In many countries, the tax structure is supportive of pension reform, whether publicly administered or via a private, voluntary pension programs as what is envisioned under PERA. Pension savers have probably the longest time horizon compared to other types of investors, as they attempt to preserve the value of their retirement income required to finance future consumptions.
From the financial and capital market perspective, introducing PERA products will expand choices available to our savers. The underlying investment instruments can be in the form of stocks, deposits, bonds, insurance/annuity products, pre-need products, etc. It is essential that we are able to design our financial landscape in such a manner that our financial providers are able to compete and tap the available pool of savings by designing products suitable to the needs and demands of a growing and potentially aging populace. Today, more than 80% of the financial system’s resources are held by banks, largely funded by short-term deposits.
However, we need long-term resources to match the long-term requirements of growth and development. This is why the law accorded preferential tax treatment on 5-year deposit products issued by banks. On the other hand, investments in PERA products are designed to be locked in even for a much longer period, i.e. up to age 55 and held for a minimum of 5 years. This could very well translate to 35 years of accumulated savings, assuming entry age into the labor force is 20. Given such a long term perspective, government is challenged to have strong financial institutions, sound regulatory and market environment and stable macroeconomic conditions. Monetary policy also assumes an important role in ensuring that pension benefits are not eroded by inflation.
We have seen in a span of the past 10-15 years the remarkable growth of educational plans, pre-need products and more recently, mutual funds. This demonstrates that especially designed products targeting specific markets can be a potent tool to tap financial resources that could otherwise have been spent on unproductive consumption expenditures. We foresee that savings of our overseas workers can be channeled to the domestic capital market through investments in PERA products, provided PERA is backed up by a supportive tax structure as well as a clear, sound, harmonized and well- coordinated regulatory framework and standards.
Another benefit of PERA is the potential for the cost of government borrowings to go down. It is evident in other countries that government securities enjoy a large share of pension fund investments. With enhanced depth and liquidity in the market, government could enjoy reduced cost of domestic borrowings and improve government’s ability to source funds locally and lengthen its maturity profile, given that the PERA product itself is for a long-term purpose. We believe this is consistent with overall public debt management policy of reducing the cost of borrowings, tapping the domestic capital market to reduce foreign exchange vulnerabilities and re-profiling the maturity structure of government debt.
Aside from government securities, investment in equities has occupied a substantial portion of pension investments. This is because stocks have generally outperformed other investment products, if viewed over the long term. Thus, it is expected that a significant portion will likewise be invested in the equities market. Increased investments in this area will generate more tax revenues, in the form of turnover taxes thereby mitigating the tax losses earlier estimated by DOF. As firms are encouraged to list in the stock market, government will also earn substantial sums from the IPO tax which is from 1-4% of the gross selling price of offered shares. The IPOs issued during the last 4 years generated some P739 million in taxes. Additionally, 10% VAT is collected on processing, listing and maintenance fees.
FINEX Capital Market Development Committee thus supports PERA and believes that it should be viewed from a much longer and wider perspective given its potential contributions to: (1) a stable retirement income architecture and addressing the pension needs of our overseas workers; (2) strengthening capital market development; and (3) lowering the cost and enhancing the liquidity of government borrowings via increasing demand for government securities.
Finally, from the social policy aspect, a substantial part of a pensioner’s consumption profile would most likely be directed towards health care expenditure, which could strain public resources if the pensioner does not have adequate retirement income to pay his way through. Thus, our fiscal planning should also appreciate the social policy aspects of providing tax incentives in support of PERA.
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Position Paper on the Personal Equity Retirement Account (PERA)
The Capital Market Development Council (“CMDC”) and the Financial Executives Institute of the Philippines (“FINEX”), in consultation with capital market industry participants support the passage the Personal Equity and Retirement Account (PERA) bill presently under deliberation in the Senate and the House of Representatives.
There have been expressed opposition to these bills stemming from fears that the favorable tax treatment accorded to these accounts will reduce state revenues at a time when government is working overtime to approve new taxes. It is argued that the tax deductibility of contributions will reduce the income tax base. Secondly, in all likelihood there will be no “new” savings generated. Rather, funds will merely migrate from taxable accounts where they are currently held, to PERA products where they will be tax-exempt or tax deferred.
These arguments are not unreasonable, tax exemptions being key features of the bills. PERA is also entirely voluntary and chances are, prospective contributors have already formed the habit of saving and are simply seeking higher net returns on their savings. Nonetheless, judging PERA by the amount of taxes it deprives the government today is myopic. In fact a justifiable case can be made for tax exemption if the goal is to institute pension reforms and manage the implicit public debt arising from provision of social security.
Long-Term Fiscal Sustainability.
To appreciate the significance of the PERA bills, one should focus instead on the potential contribution of PERA to long-term fiscal sustainability and capital market development. It could be viewed as a first step in gaining acceptance of a multi-pillar retirement income structure and a platform to harmonize financial regulation and pension reform, both necessary conditions for capital market development. Pension reform, particularly containment of unfunded pension liabilities, is critical for long-term fiscal stability. Thus, PERA accounts will augment and not displace the current SSS and GSIS benefits. It will however serve as a pilot test for the mandatory defined contribution pillar of a multi-pillar pension architecture. Under this proposed architecture, the defined benefit second pillar, currently consisting mainly of the pension programs of the Social Security System (SSS) and the Government Service Insurance System (GSIS) will be downsized, while a mandatory defined contribution third pillar will be established to supplement retirement income under the second pillar. The third pillar will essentially be an enlarged PERA system.
Successful reform of the pension system is important from both capital market development and fiscal sustainability perspectives. There is a very real fiscal risk associated with the implicit public debt (cost of accumulated pension obligations) of public pension institutions. This very real fiscal risk should override any concern over short-term tax losses. While the proposed PERA program is not tax neutral in the short term, we believe that the long-term benefits to the economy far outweigh the impact of any foregone revenues in the short-run.
Harmonizing Tax & Regulatory Structure
PERA can lead to harmonizing the tax and regulatory regime as savings instruments receive similar tax treatments so that investment decisions are not made on the basis of differential taxation. It is also expected that different financial institutions (e.g.,banks, insurance companies, investment houses, mutual funds) supervised by different regulatory agencies (i.e., BSP, Insurance Commission, SEC), will be offering PERA products, thus, the need to define a single product jointly and uniformly regulated by all three.
In this connection, we support the proposal for the said regulatory agencies to jointly regulate and supervise PERA products and providers together with the Department of Finance and supplemented by regular consultations with CMDC and industry participants. A uniform set of guidelines could be adopted with respect to PERA products and applicable to all PERA providers. The regulatory framework should take into account the unique nature of the pension product business as these are essentially long-term products with specific tax treatments and imbued with social considerations.
PERA System Flexibility & Portability.
The system is proposed to be flexible so as to allow individuals to control their savings and investments. Ideally PERA accounts could be designed to allow a retiree to receive a monthly income or to use a portion thereof while retaining the principal, or to receive a lump sum payment. In addition to this benefit, the portability nature of the PERA account will allow a retiree to leave any balance in the account to his heirs, a feature lacking in the current retirement programs. The rules however must be able to prevent a situation wherein an individual can open several PERA accounts with different providers so long as these are below the set limit.
Individuals Have a Choice No one is forced to invest in PERA accounts. Every individual worker can decide whether to have a PERA or to remain in the traditional social security system. Within certain guidelines, PERA participants may invest their funds based on personal investment preferences. By empowering the individual to manage his retirement benefits, concerns regarding the actuarial fund life and viability of SSS and GSIS will be mitigated.
Potential for Business Capital Under the current SSS and GSIS programs, members receive a lifetime annuity. Because the PERA will allow an individual to receive the principal and income of the PERA account upon retirement, PERA accounts could become a significant source of capital for small businesses.
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FINEX Capital Market Development Committee Comments on
Tax Revenue Loss on PERA
The Business World, in its January 13-14 edition, heralded the potential tax revenue loss arising from the proposed contributions to the Personal Equity and Retirement Accounts (PERA) scheme, presently under consideration in the Senate. The article, “Retirement savings plan perks to cost P10B yearly” cites estimates attributed to the Department of Finance (DOF) of annual foregone revenues, including (a) P1.22 billion from tax-deductibility of PERA contributions and (b) P1.16 billion to P8.82 billion from a provision exempting interest income earned by PERA accounts from the 20% final withholding tax. It is not clear from the article whether these estimates take into account the fact that currently, interest on bank deposits of more than five years are already tax-exempt anyway, and thus should not be included in the estimate.
The accuracy of the estimates aside, PERA admittedly can lead to short-term revenue losses for government. With the recently-enacted VAT Law however, which is expected to bring in over P70 billion in revenues according to the DoF, government can well afford these short-term revenue losses especially since the proposed legislation is expected to bring long-term economic benefits and therefore, can mean revenue gains on the whole for government over the long-term. Viewed as a package of tax reform measures, the proposed PERA legislation, coming on the heels of the VAT Law, is a good way to focus taxation on consumption rather than on savings and investments, thus encouraging more savings and investments needed to propel long-term growth.
Indeed, assessing the merits of the proposed PERA legislation on the basis of short term foregone revenues is myopic. The beneficial impact of PERA on long-term savings bodes well not only on domestic capital market development and growth, but also on the country’s pension system and government’s fiscal sustainability. Equipping Filipino savers today with an alternative avenue to build up their retirement savings will be useful in the design of pension reforms which we need to take very seriously today. Other countries have successfully redesigned their pension architecture given the huge contingent fiscal implications of continuing with a defined-benefit scheme, as what we presently have under both the SSS and GSIS. The proposed PERA legislation can thus help to hasten pension reform and diffuse a ticking fiscal time bomb, contributing to a more stable macroeconomic environment.
It is about time that we, as a country, take a more long-term view of economic policy and growth. It is in this light that the FINEX Capital Market Development Committee urges legislators to look at the broader benefits of the proposed PERA legislation on savings, macroeconomic stability and growth.
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PERA: A step towards pension reform and capital market development
by: Romeo L. Bernardo
The Opposition to the Personal Equity Retirement Account (PERA) bills in the DoF and among some members of Congress appears to stem from fears that the favorable tax treatment accorded these accounts would reduce government revenues at a time when government is working overtime to legislate new taxes. First of all, the argument goes, tax deductibility of contributions will reduce the personal income tax base. Secondly, in all likelihood, there will be no “new” savings. Rather, funds will merely migrate from taxable accounts where they are currently held, to PERA products where they will be tax-exempt (or deferred).
"The PERA is a savings scheme that allows individuals to set aside a portion of their wages or salaries in retirement accounts. Depending on their risk-return preferences at different stages of their lives, individuals may choose from among alternative investment instruments offered by fund managers or administrators. The accounts are thus, portable. There are various bills in Congress (e.g., SB 1747 and SB 1821) seeking to introduce the PERA to encourage people to save for old age."
These arguments are not unreasonable. The tax exemptions are after all, key features of the bills. The PERA is also entirely voluntary and chances are, prospective contributors have already formed the habit of saving and are simply seeking higher net returns on their savings. Nonetheless, judging PERA by the amount of taxes it deprives government today is myopic.
To appreciate the significance of the PERA bills, one should focus instead on the potential contribution of PERA to long-term fiscal sustainability and capital market development. The way I see it, PERA is a first step to harmonized financial regulation and pension reform, both necessary conditions for capital market development. Pension reform, particularly containment of unfunded pension liabilities, is likewise critical for long-term fiscal stability.
How can PERA lead to harmonization of tax and regulatory regime? As envisioned, funds contributed into PERA may be invested in a host of savings instruments, including stocks, bonds, mutual funds, bank deposit products, etc., which ideally should receive similar tax treatments so that investment decisions are not made on the basis of differential taxation. It is also expected that different financial institutions (e.g., banks, insurance companies, investment houses, mutual funds), supervised by different regulatory institutions (i.e., the BSP, Insurance Commission, SEC), will be offering PERA products; thus the need to define a single product jointly and uniformly regulated by the three. Only with a sound regulatory framework, including equal application of tax and accounting standards, can another pre-need fiasco be avoided (in this case, it will take even longer – over 40 years from work-age to retirement vs. 16 years for educational plans – to discover any anomalies) and confidence in PERA be engendered.
The PERA also serves as a pilot test for the mandatory defined contribution pillar of a multi-pillar pension architecture . Under the proposed architecture, the defined benefit second pillar, currently consisting mainly of the pension programs of the Social Security System (SSS) and Government Service Insurance System (GSIS), will be downsized.
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The Personal Equity Retirement Account (PERA) & Capital Market Development
Background
The Senate Committee on Banking has finished its committee report on the PERA bill and has adopted a substitute bill in lieu of the four pending PERA Senate bills. It is currently awaiting sponsorship on the floor. This Bill is a key measure not only in promoting savings but as a vehicle to address later on the contingent pension liabilities of the public pension system. PERA is a vehicle to attract voluntary long-term savings, deepen the capital markets and over the long haul, reduce reliance on publicly-funded schemes.
The FINEX Capital Market Development Committee thus supports PERA and believes that it should be viewed from a much longer and wider perspective given its potential contributions to: (1) a stable retirement income architecture and addressing the pension needs of our overseas workers; (2) strengthening capital market development; and (3) lowering the cost and enhancing the liquidity of government borrowings via increasing demand for government securities.
Another benefit of PERA is the potential for the cost of government borrowings to go down. It is evident in other countries that government securities enjoy a large share of pension fund investments. With enhanced depth and liquidity in the market, government could enjoy reduced cost of domestic borrowings and improve government’s ability to source funds locally and lengthen its maturity profile, given that the PERA product itself is for a long-term purpose. This is consistent with overall public debt management policy of reducing the cost of borrowings, tapping the domestic capital market to reduce foreign exchange vulnerabilities and re-profiling the maturity structure of government debt.
Aside from government securities, investment in equities will likely account for a substantial portion of pension investments. This is because stocks have generally outperformed other investment products, if viewed over the long term. Thus, it is expected that a significant portion of PERA investments will be channeled to the equities market.
From the social policy aspect, it is acknowledged that a substantial part of a pensioner’s consumption profile is likely to be directed towards health care expenditure, which could strain public resources if the pensioner does not have adequate retirement income to pay his way through. Thus, fiscal planning should also appreciate the social policy aspects of providing tax incentives in support of PERA.
This is why in most countries, a private pension pillar operates side by side with a publicly funded pension system and given tax advantages. The PERA Bill seeks to introduce locally, such regulated private pension funds and which could eventually take on the second or third pillar in the retirement income architecture. Such an arrangement would allow the public pension system (largely funded from contributions directly deducted from salaries and payroll) to provide only for a minimum pension for the retiree, supplemented by his savings via the private scheme.
Typically, the tax regime on pension schemes can be categorized into the following: 1) tax on contributions whether deductible from the employees’ taxable income while the contributions paid by employers are deductible from the employers’ profits for tax purposes; 2) tax on income earned by the pension fund from their investments including dividends earned on such investments; and 3) tax on the distribution of the pension and whether these are subject to tax on the same basis as labor income, with some countries providing for tax relief on pension payments or for lump sums paid out by pension funds to contributors upon their retirement.
Features & Mechanics
The Bill seeks to promote capital market development and savings mobilization by establishing a legal and regulatory framework for retirement plans comprised of voluntary personal savings and investments. Under the proposed PERA Bill, a contributor may make an aggregate maximum contribution of P50,000.00 to his PERA per year; provided that if the Contributor is married, each of the spouses shall be entitled to make a maximum contribution of P50,000.00 per year to his/her respective PERA. A private employer may contribute to its employee’s PERA to the extent of the amount allowable to the Contributor. The employer shall be allowed to treat the contribution as a deduction from the employer’s gross income, but shall be treated as part of the employee’s compensation for tax purposes. However, the employer still has to comply with the mandatory Social Security System (SSS) contribution and retirement pay under the Labor Code of the Philippines. Meanwhile, the contributor shall be given an income tax credit equivalent to five percent (5%) of the total PERA contribution, which cannot be the subject of refund.
Income from the contributions as well as the eventual distributions are tax exempt, although there are penalties to be imposed in case of early withdrawals. Early withdrawal refers to withdrawals prior to the distribution period, defined as age 55, provided that the contributor has made at least 5 years of contributions. No early withdrawal penalty shall be imposed on any withdrawal of any funds for the following purposes: 1) payment of accident or illness-related hospitalization in excess of 30 days; and 2) payment to a Contributor who has been subsequently rendered permanently totally disabled as defined under the Employees Compensation Law, Social Security Law and Government Service Insurance System Law.
The Contributor can open as many as five PERA accounts with an Administrator who is accredited by the Bureau of Internal Revenue (BIR) and whose main functions include reporting on contributions made to the account, computing the values of investments, educating the Contributor, enforcing PERA contributions and withdrawal limits, collecting appropriate taxes and penalties for the government, issuing BIR Income Tax Credit Certificates to the Contributor, consolidating reports on all investments, income, expenses and withdrawals on the account and ensuring that PERA contributions are invested in accordance with the prudential guidelines set by the Regulatory Authorities.
The custodianship role is independent, distinct and separate from that of the Administrator. The Custodian shall be responsible for receiving all funds in connection with the PERA, maintaining custody of all original securities, evidence of deposits or other evidence of investment. The Custodian is required to report to the Contributor and the concerned Regulatory Authority at regular intervals all financial transactions and all documents in its custody under a PERA.
The contributions can then be invested in a “PERA Investment Product” which may be a unit investment trust fund, mutual fund, annuity contract, insurance pension products, pre-need pension plan, shares of stock listed in exchange, exchange-traded bonds or any other investment product or outlet which the concerned Regulatory Authority may allow for PERA purposes. The concerned Regulatory Authority must first approve the product before being granted tax-exempt privileges by the BIR.
In as much as the PERA product can be issued/managed by different financial providers, the responsible regulatory agency shall either be the Bangko Sentral ng Pilipinas (“BSP”) as regards banks, other supervised financial institutions and trust entities, the Securities and Exchange Commission (“SEC”) for investment companies, investment houses, stockbrokerages and pre-need plan companies, and the Office of the Insurance Commissioner (“OIC”) for insurance companies. It is expected however that the regulators shall harmonize their rules and regulations for PERA products and institutions providing or managing such products.
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