Retirement provision in Switzerland is based on a 3-pillar system.
1st pillar – public pension plan secures existence
In principle, a contribution to the AHV, IV, EO and ALV is deducted from each salary payment. The old-age and survivors’ insurance (AHV) pays a pension in old age or in the event of death and is thus intended to ensure subsistence. In the event of disability, the disability insurance (IV) also provides a livelihood by means of integration measures or cash benefits. The income replacement scheme (EO) compensates a part of the loss of earnings of persons doing military service, civilian service or civil defense. The EO also covers loss of earnings during maternity and paternity leave. Unemployment insurance (ALV) pays 70% of insured earnings for a maximum of two years in the event of unemployment. However, there are various conditions and exceptions that must be taken into account.
The supplementary benefit (EL) helps if the pension or income is not sufficient to cover the minimum living costs. The EL is financed by the federal government and the cantons from tax revenues.
Contributions to AHV (8.7%), IV (1.4%) and EO (0.5%) total 10.6%. The contribution to the ALV amounts to 2.2%. A reduced rate of 1% is due on income shares above CHF 148’200. All contributions are paid half by the employer and half by the employee.
The 1st pillar works on a pay-as-you-go basis. This means that the current costs of the 1st pillar are financed from the current contributions of the 1st pillar.
Self-employed persons are also obliged to contribute to the 1st pillar. The total is 10% for incomes from CHF 57’400. Below that, there are graduated contributions starting at 5.371%. However, self-employed persons are not insured with the ALV against the consequences of unemployment.
Persons who are not gainfully employed, such as students, IV pensioners or early retirees, must also pay contributions to the AHV, IV and EO. Spouses are exempt from this requirement if one spouse is gainfully employed within the meaning of the AHV and pays contributions of at least CHF 1’006. For those who are not gainfully employed, the contribution is based on assets and income and amounts to at least CHF 503 per year.
2nd pillar – occupational pension plan secures livelihood
The occupational pension plan in Switzerland must be organized by the employer. For this purpose, the employer joins a pension fund. Large companies sometimes maintain their own pension funds. The pension fund manages the pension assets and invests them in accordance with legal requirements. It is also responsible for administration and pays out pensions.
Every employee with an income subject to AHV contributions of CHF 21’510 or more is obligated to join the 2nd pillar. Between the ages of 17 and 24, coverage is provided against death and disability. From the age of 25, additional savings contributions are paid. From these savings contributions, the pension is calculated and paid in old age. The savings contributions are age-dependent:
As in the 1st pillar, at least half of the contributions in the 2nd pillar must be paid by the employer. In the 2nd pillar, however, there is more room for maneuver and the employer can take over more than 50% of the contributions and thus relieve the employee or voluntarily increase the savings contributions and thus enable the employee to receive a higher pension.
How the 2nd pillar works
The 2nd pillar operates on a funded basis. Each employee builds up his or her own pension capital. It is true that the pension fund invests the savings contributions of all insured persons in a large pot and thus takes advantage of economies of scale and costs. The pension fund keeps its own assets for each insured person with the savings contributions paid in and the annual interest credits. The pension funds must pay interest on the assets at a minimum interest rate set by the Federal Council. This is currently 1%. If a pension fund generates higher returns, it can pay interest on the pension assets at a higher rate.
The annual pension fund pension is calculated from the pension assets saved up to retirement using the conversion rate. Currently, the conversion rate is 6.8%. For each CHF 100’000 of retirement capital, an annual pension of CHF 6’800 is paid out. This conversion rate should be treated with caution. On the one hand, it only applies to the compulsory pension fund and on the other hand, the conversion rate will decrease in the future. This is a consequence of the fact that we are all getting older and older, which means that pension funds have to fulfill pension promises that are too high. Corresponding political initiatives to reform the pension system provide for corresponding reductions in the conversion rates.
The legal requirements, such as the minimum interest rate of 1% or the conversion rate of 6.8%, always refer to the so-called mandatory contributions (mandatory portion). These apply to salaries and salary components up to CHF 84’600 per year.
Mandatory and extra-mandatory portion
For salary components above CHF 84’600, the legislator no longer provides for a mandatory contribution and, accordingly, there is more freedom in the design of the occupational pension plan in this extra-mandatory portion. Pension funds handle this differently. There is the so-called enveloping solution. In this case, a mixed calculation is made from the mandatory and the extra-mandatory, and corresponding average rates are made for the minimum interest rate and the conversion rate. In addition, there is the split solution, in which two pension funds are maintained for the mandatory and the extra-mandatory and for which different conditions also apply. In the extra-mandatory plan, there is also more flexibility regarding the savings contributions, which can be increased to a maximum of 25%. This extra-mandatory plan is often also referred to as a management pension or 1e-plan.
3rd pillar – voluntary provision ensures standard of living
From experience, pension benefits from the 1st and 2nd pillars can be expected to amount to about 60% of the last salary. Although the basic idea is that the accustomed standard of living can be maintained from the two pillars, this is hardly possible with 60% of the last salary. Moreover, it can be assumed that this value will fall to below 50% over time. Accordingly, it is important that the possibilities of the 3rd pillar are also used in order to be able to continue the accustomed standard of living after working life.
In order to create an incentive, voluntary pension provision under pillar 3a is tax-privileged. Thus, the annual payments can be deducted from taxable income. In addition, the assets are not subject to wealth tax and interest and dividends are not taxed as income. These advantages also come with some restrictions. For example, employees may pay in a maximum of CHF 6’883 per year. For all employees who are not affiliated with a pension fund or for self-employed persons, an upper limit of 20% of the net earned income or a maximum of CHF 34’416 applies. In addition, the pension assets can be withdrawn at the earliest 5 years before the regular retirement age. Exceptions include the purchase of owner-occupied residential property, taking up self-employment or leaving Switzerland permanently. The payment of the pension capital is taxed separately at a reduced rate and depends on the canton of residence and the amount paid out.
Pillar 3b includes all other savings efforts that are freely available. These include, for example, savings accounts, securities investments, real estate, precious metals and life insurance.