China's State Council has announced a new private pension scheme that will allow individuals to make voluntary deposits into a pension account and invest their pensions in stable financial products. The new scheme seeks to address shortcomings in the current China pension system as the country's population aging accelerates and the national pension fund comes under increasing pressure. Under the scheme, individuals will be able to invest their pensions in a range of financial products, providing more options for wealth building and financial stability while opening up a lucrative new market for banks and financial companies.
UPDATE: At the weekly State Council meeting on September 26, 2022, Premier Li Keqiang announced new tax incentives to spur the development of private pensions. The new tax incentives are pre-tax deductions of up to RMB 12,000 (US$1,667) from the annual taxable income of participants in private pension schemes and a reduction of the tax burden on pension benefits from 7.5 percent to 3 percent. In addition, income from investments will not be taxed for the time being. The new tax policy will be implemented retroactively from January 1, 2022.
On April 21, 2022, China’s State Council released a document titled Opinions on Promoting the Development of Personal Pensions (the “opinions”) (link in Chinese), which details the development of China’s first-ever private pension scheme.
According to the opinions, the new pension scheme will supplement the current basic pensions and annuities provided by the state and employers while helping to develop commercial pension financial services. Under the scheme, people can make annual contributions of up to RMB 12,000 (US$1,846) into a pension account set up through a centralized platform.
The private pension scheme seeks to address an urgent need for pension reform as China goes through one of the most extreme incidents of population aging seen in the world and the current state and employer-sponsored pension plans fall short.
China's aging population and strained pension systemThe new private pension scheme is being rolled out in part in response to an urgent need for pension reform as the country faces a massive demographic shift stemming from a plummeting birth rate and a rapidly aging population.
China recorded the lowest ever natural population growth rate in 2021 at just 0.34 per one thousand, down 1.11 percentage points from the prior year. Dependency ratios are also rapidly increasing as the population ages. The proportion of over-65s has grown from 9.1 percent of the population in 2011 to 14.2 percent in 2021, which means the working-age population is shrinking rapidly.
China’s existing pension system is ill-suited to address these demographic changes. The system is formed of three pillars, in which the first pillar is the basic state pension and the second is the voluntary employee pension plan in which the employer and employee make monthly contributions. The third pillar is private pensions, which is currently very underdeveloped. The vast majority of people in China are covered by the first two pillars.
Moreover, as the population continues to age, the first two pillars of the pension system are coming under considerable pressure and may be unable to support the population in a couple of decades' time.
The state-sponsored pension is partly funded by individual income tax, but this source will become smaller as the working-age population shrinks. The national pension fund is expected to go into a deficit of RMB 118.13 billion (US$18 billion) in 2028, according to research conducted by the Chinese Academy of Social Sciences (CASS) (link in Chinese).
Meanwhile, the employer-sponsored pension scheme only covers approximately 20 million employees, according to a report by McKinsey. According to the report, the majority of small and medium-sized enterprises (SMEs) are unable to pay annuities to employees due to high operational costs, and many don’t even pay the mandatory social security for their employees.
Falling birth rates also mean that many elderly will have no children to lean upon for financial support, who have traditionally taken up the role of main family breadwinner after their parents retire.
This situation is further exacerbated by the very early legal retirement ages in China - 60 for men, 55 for female white-collar workers, and 50 for female blue-collar workers - as earlier retirements mean less tax collected on wages and fewer years of contributions from the employer.
The third pillar of private pensions is therefore urgently needed to ensure financial security and stability for the country’s elderly population. But the need for pension reform goes beyond ensuring the basic necessities of the population. As income and standards of living rise across the country, there is a growing social demand for better pensions.
Many people in China, especially the growing urban middle class, have come to expect more from their golden years and will want to ensure a similar quality of life as the one they have become accustomed to throughout their working years.
It is also in the interest of the country itself to ensure that the population will continue to have access to disposable income after retirement. It is estimated that around 28 percent of the population will be over the age of 60 by 2040, according to the WHO, meaning that the elderly will be an increasingly important driver of consumption and economic growth. As China seeks to improve equality and boost consumption through national strategies, such as common prosperity and dual circulation, ensuring that the elderly have sufficient spending power, in addition to financial stability, will become ever more important.
Overview of the private pension scheme
Who can participate in the private pension scheme?According to the opinions, workers who participate in the basic pension insurance for urban employees or the basic pension insurance for urban and rural residents in China can participate in the personal pension scheme. According to China’s National Bureau of Statistics, there were 1.03 billion people in the basic national pension scheme as of the end of 2021.
How does the scheme work?To take part in the scheme, individuals can make voluntary contributions by setting up a personal pension account. The personal pension account must be opened through the “Personal Pension Information Management Service Platform” (the “Information Service Platform”). Yearly contributions are capped at RMB 12,000 (US$1,846). This limit will be adjusted in the future by the Ministry of Human Resources and Social Security and the Ministry of Finance (MOF) based on factors such as economic and social development.
After setting up an account, participants can use their pension contributions to purchase financial products from eligible financial institutes.
Only one account can be set up per participant, through which all transactions will be handled, including contributions, earnings from investments, payments, and tax payments. The personal account can be designated or opened in an eligible commercial bank or through an eligible financial product sales agency.
On September 26, 2022, the State Council announced (link in Chinese) new tax incentives for participants in private pension schemes. The tax incentives are:
- Deductions of up to RMB 12,000 (US$1,667) from the annual taxable income of participants.
- Reduction of the tax burden on pension benefits from 7.5 percent to 3 percent.
Participants can withdraw the money from the pension account once they reach the legal retirement age, have lost the ability to work, or have settled abroad. Some other conditions to access the pension may also be sanctioned by the state. The pension can be accessed either through monthly installments or a one-off payment depending on the conditions, which must be verified by the information service platform. The pension funds will be transferred to the individual’s social security bank account.
Which companies can participate in the pension scheme?As previously mentioned, the funds in the personal pension accounts can be used to purchase eligible financial products, such as wealth management products, savings deposits, commercial pension insurance, and public funds.
According to the opinions, the financial institutions and financial products permitted to be involved in the operation of individual pensions will be determined by the relevant financial regulatory authorities and released to the public through the service platform. However, no criteria for the permitted financial institutions or products have been given at this time, other than that the financial products must be "safe, mature and stable, standardized, and focusing on long-term value preservation".
The opinions specifically call on various government departments to formulate relevant guidelines and regulations to facilitate the growth of the industry.
The Ministry of Human Resources and Social Security and the MOF will be expected to provide macro guidance for the development of personal pensions and formulate specific policies for matters such as establishing accounts, payment caps, treatment receipts, and tax incentives.
Meanwhile, the relevant financial regulatory authorities will be required to supervise and guide the business aspects of the industry, including overseeing the participation of financial institutions in the operation of personal pensions. They will also help to urge relevant financial institutions to optimize products and services, provide product risk warnings, supervise the risks of products, and strengthen investor education.
In a sign that more policy guidance is soon to come, a newsletter (link in Chinese) released on the official China Securities Regulatory Commission (CSRC) website stated that the financial regulator would work to formulate and implement supporting rules and regulations for personal pension investment in public funds.
Opportunities in the China pension marketFinancial companies have been eagerly anticipating the announcement of private pension funds in China for many years. Now that it has come, and once the criteria for participation in the market have been clarified, financial companies stand to profit greatly. Foreign financial asset companies with decades of experience in pension funds may also enjoy a competitive advantage over domestic players who are relatively new to the field.
The market is expected to grow from US$300 billion today to US$1.7 trillion in 2025, according to Reuters, quoting independent consultancies.
Public fundsIn the newsletter released on its official website, the CSRC stated that public funds are well-positioned to “serve the public in financial management and help the preservation and appreciation of pensions”.
According to the newsletter, public funds have already served over 540 million investors with total entrusted pension assets under management of over RMB 4 trillion (US$611.2 billion). It also stated that the public fund industry should “focus on improving investment and research capabilities, strengthen pension financial investment and education” in order to “achieve greater achievements in serving the national pension cause”.
BanksApproved banks will be uniquely positioned to benefit from the private pension scheme as they will be able to provide a full end-to-end suite of services and products to the customers, from providing pension accounts to financial products to wealth management and investment consulting.
However, it remains unclear whether foreign banks will be able to provide account services to customers in China and may currently be limited to providing financial products and consulting services.
Wealth management companiesFinancial companies approved for participation in the private pension scheme will be able to profit off of the market by providing wealth management products (WMP) and pension investment consulting for customers.
Foreign companies have already made moves into the wealth management and private pension industry in China. In February of this year, BlackRock’s wealth management JV with China Construction Bank (CCB), called BlackRock CCB Wealth Management, was approved by the China Banking and Insurance Regulatory Commission (CBIRC) to provide WMPs in two Chinese cities as part of a private pension pilot program.
China has recently approved a host of wealth management JVs. These include a foreign-controlled wealth management JV between Goldman Sachs and ICBC and Amundi BOC Wealth Management, a JV between French asset management company Amundi and Bank of China’s wealth management subsidiary. Given the approval of BlackRock CCB Wealth Management to participate in the pension pilot scheme, it is likely more asset management JV corporations will be approved to provide WMPs to private pensioners.
Insurance companiesIn addition to financial companies, insurance companies are also expected to benefit hugely in the new private pension market. Insurance companies are included in the Catalogue of Industries Encouraged for Foreign Investment (2020), which lists securities, futures, and insurance companies as areas in which foreign companies are encouraged to participate.
Foreign insurers have already begun to make moves into the China market. In 2019, the CBIRC approved for Heng An Standard Life, a JV between the UK life insurance company Standard Life and the Tianjin-based TEDA International, to establish a pension insurance company in China. This was the first foreign pension insurance provider to be permitted to enter the China market.
China has also been loosening restrictions on foreign insurance companies over the past few years. Last year, Allianz China Holding Co., a subsidiary of the German financial services company Allianz, became the first wholly foreign-owned life insurance company in China after a 49 percent equity transfer from its JV partner CITIC Trust was approved by the Shanghai bureau of the CBIRC.
A huge growth marketGiven, the genuine and somewhat urgent need for private pensions in China, the market is ripe for growth and innovation. Early movers with experience in providing products and services for pension funds are particularly well-positioned to gain from the opening of this market.
At the same time, good policy directives and guidance will be required to ensure active participation by the public in the scheme. Policies such as tax incentives and education campaigns will be important to encourage the uptake of private pensions.
Many potential customers will be unaccustomed to the idea of pension investments, as most private investment in China has traditionally gone into real estate. Building consumer trust and improving investment understanding and education will therefore be important strategies for companies seeking to make inroads into the space.
Investors are also advised to closely monitor announcements from relative regulatory departments, including the CBIRC, CSRC, MOF, and MOHRSS, who are expected to provide more clarity and guidance on permitted and encouraged activity in the industry.
This article was originally published on April 25, 2022 and last updated on September 29, 2022.