The Lithuanian Free Market Institute has completed a Freedom House-funded project "Private Pension Funds: Balancing Sound Operational Principles and Prudent Supervision." The project was carried out in co-operation with the Centre for the Study of Democracy (Bulgaria), the CASE Foundation (Poland), and the Jaan Tonisson Institute (Estonia).
The goal of the project was to promote sound and effective supervision of pension funds by formulating and disseminating a conceptual framework that would create a proper balance between self-regulatory market mechanisms and state control.
An overview of the main provisions of the Lithuanian Law on Pension Funds related to supervision of pension funds follows. The next issue of The Free Market will present the conceptual framework for prudent supervision of pension funds created by LFMI.
Licensing of pension funds
Because pension funds may only be established as joint-stock companies, only the founders of the fund have the right to acquire the first issue of the pension fund's shares. The purpose of this is to allow the government to better determine the founder's willingness to begin pension fund activity and to prevent them from selling shares to the public before they have established a credible reputation. Further, pension contributions may not be collected by the fund until official permission is granted by the relevant regulatory agencies.
The Law on Pension Funds requires that specific criteria be met in order to establish a pension fund. The main requirements are as follows:
A company applying for permission to begin pension activity must submit information about their depository and management company to the Securities Commission. Permission or denial to begin pension fund activity must be granted within three months.
If, in the course of its activity, the pension fund violates the law or the rights of the insured, the supervisory institution may restrict the fund's activities or appoint an administrator to oversee operations for up to three months. During this period, a decision must be made whether to lift the restrictions or revoke the fund's license.
Regulation of pension fund documents
Pension fund by-laws must adhere to the same requirements as other joint-stock companies; however, there are additional requirements, related to formulation of pension programs, distribution of investment income, and information disclosure to fund members that must be met as well.
Pension programs may vary by investment strategies, payment of contributions, and other conditions, all of which are regulated by law and must be approved by the Securities Commission and the Ministry of Social Welfare and Labour.
Pension fund members, or persons designated by the members to act on their behalf, may make contributions to the fund based upon a pension agreement. Pension funds have no right to terminate a pension agreement without the consent of the member, but members are allowed to do so. Breaches of the terms of payment of contributions do not warrant termination of a pension contract. Further, concurrent contribution or benefit payments are not allowed under the same pension program.
If contributions are to be paid by an employer on behalf of an employee, the employer may not shift the responsibility of making these payments to the employee.
Pension fund members may switch to another pension program or pension fund once per year without penalty; however, repeated transfers may incur a fee from the quitted pension fund. If a member withdraws his savings before retirement age, without transferring them to another fund, a penalty will be imposed. The retirement age is defined in the pension program, but it may not be lower than the official retirement age by more than five years, though an exemption is applied in the case of disabled individuals.
Pension funds are not allowed to pay annuities, though benefits may be payable for the purchase of an annuity in an insurance company.
Financial activity and investment
The assets of pension fund members are financially segregated from the fund's assets. In order to prevent creditors' claims to pension assets, the fund is not allowed to extend loans, guarantee with or mortgage its assets, except when a pension fund takes a short-term loan guaranteed with its assets to maintain liquidity.
Pension funds are obligated to ensure a minimum return on investment for their members. Pension funds are allowed to set this level themselves. They are required to form a guarantee reserve fund in order to discharge liabilities. If investment income or the reserve fund is lacking for the discharging of liabilities, equity capital must be used.
Investment income must first be used for discharging liabilities. Any remaining income is apportioned as follows: 80 percent to fund members, and 20 percent to the pension fund.
Pension funds may outsource some or all of the activities of the funds. The Securities Commission must approve management companies and they must be specialized institutions prohibited from performing any other activity. A management company may be related to the pension fund, but the depository must be independent.
Investment Restrictions
Investment portfolios may comprise securities, real estate, deposits in commercial banks, and deposit certificates issued by banks. Pension funds may not acquire more than 10 percent of securities from one issuer and no more than 5 percent of total portfolio assets may be invested in any single issuer or item of property, except in the case of government securities.
Pension funds may invest in the following securities: treasury bills, issues quoted on the Official List of the National Stock Exchange of Lithuanian, and other securities recognised by the Securities Commission. There are no limitations on the amount of investments abroad.
Pension funds may not invest in their own securities or those issued by other pension funds. Real estate may comprise no more than 20 percent of pension assets, and no more than 25 percent of assets may be invested in related persons.
The safekeeping of assets
All assets belonging to pension fund members must be held in a depository, which not only safeguards the assets, but also ensures that all pension fund transactions comply with the law.
If the pension fund is liquidated by the decision of the Securities Commission, all assets of members must be transferred to other pension funds. Any remaining assets are sold and apportioned between the fund's shareholders.
In the event of bankruptcy, the depository must return individual member's assets to their rightful owners before creditors' claims are satisfied. As soon as bankruptcy proceedings are instituted, all pension fund operations are suspended, except for accrual of investment income and any operations necessary to proceed with liquidation.
Management and responsibility
The establishment of the pension fund's board and council, as well as the definition of their powers and responsibilities, is regulated by the Law on Joint Stock Companies. Members of the board and council are liable for compliance with statutory provisions, and they must compensate the pension fund for damages incurred through failure to perform duties. A yearly independent audit of a pension fund is mandatory.
Information disclosure
If a pension program is being replaced, the fund is obligated to inform its members no less than 30 days before the changes come into effect. Further, the Securities Commission is obligated to announce the reorganisation or liquidation of a pension fund to ensure that all members are informed.
A pension fund's annual audit reports and semi-annual reports must be submitted to the Securities Commission and announced publicly. The pension fund is required to provide information about account statements and changes in law related to pension funds, depositories, and management companies to all pension fund members at least once per year.