What is the conversion rate?
The conversion rate is used to calculate the annual BVG pension from the available retirement capital. Anyone who wants to find out what pension is realistic after retirement should know these important facts regarding the conversion rate and BVG regulations.
A rate of 6.8% means that if you have retirement capital of CHF 100,000, you will receive an annual pension of CHF 6,800 in retirement.
But it's not quite that simple, because first you need to know whether the available retirement assets belong to mandatory or extra-mandatory pension provision. This example would be correct if the pension fund covers minimum benefits and the average annual salary is less than CHF 88,200. This salary amount is covered by the mandatory portion of the BVG (Federal Act on Occupational Retirement, Survivors' and Disability Pension Plans). Portions of salary over that amount are assigned to extra-mandatory employee benefits insurance. The pension fund determines this conversion rate. This varies from fund to fund and can be found on the pension fund statement or regulations. It is generally lower than 6.8%.
Calculation of BVG pension using the conversion rate
Source: Credit Suisse
Where do the conversion rates come from?
Various parameters are used when calculating the conversion rates. The most important ones are:
- Life expectancy of current and future pension recipients In 1980, the remaining life expectancy for a 65-year-old man was 15.3 years. By 2005, this rose to 18.2 years and the life expectancy of the younger generation is even higher.1
- Technical interest rate
This is based on the projected returns for the pension fund capital on the capital markets. Pension funds anticipate how much interest they can expect to pay on the pension capital at the time of wealth attrition (during which the pension will be paid out). The minimum conversion rate of 6.8% actually requires a return of 4.5%, or a technical interest rate of 4%2 – a condition that has not existed for a long time.
Can the conversion rates change?
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Mandatory portion
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The minimum conversion rate of 6.8% is legally determined in the BVG. It can only be changed by a legal amendment. With this in mind, the Swiss parliament approved the BVG reform on March 17, 2023. As part of the reform, the minimum conversion rate is to be reduced from 6.8% to 6.0%. Further aims are to lower the level of retirement credits for older workers, switch to a percentage-based coordination deduction, and reduce the minimum income required for people to join a pension fund.
It is not yet possible to predict when the reform will enter into force.
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Extra-mandatory portion
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This conversion rate is set by the pension fund, which can set individual rates within the framework of insurance guidelines. For some larger funds, the rates have already fallen below 5%.
Split or enveloping conversion rate: What is the difference?
If salary amounts are insured in the mandatory and the extra-mandatory pension, the pension fund can either use the split or enveloping conversion rate. The result for the pension recipient may differ depending on the distribution of mandatory and extra-mandatory retirement assets. Here are two calculated examples to illustrate the difference:
A future pension recipient saved CHF 300,000 in pension fund assets.
CHF 200,000 thereof represents the mandatory portion.
CHF 100,000 thereof represents the extra-mandatory portion.
Split conversion rate
In case of a split conversion rate, the pension is calculated using two different conversion rates
- CHF 200,000 at 6.8% (mandatory according to BVG)
= an annual pension of CHF 13,000 - CHF 100,000 at 5.2% (sample rate for the extra-mandatory portion of the pension fund)
= an annual pension of CHF 5,200
Overall, it results in an annual pension of CHF 18,200.
Enveloping conversion rate
In this case, a combined conversion rate is used for calculation.
The BVG only stipulates that the end result may not be lower than the 6.8% of the mandatory portion – in this case, no lower than CHF 13,000.
- CHF 300,000 at 5.5% (on this scale, the enveloping conversion rate is usually shifted)
= CHF 16,500
Overall, this results in an annual pension of CHF 16,500. This is higher than CHF 13,000. Therefore, the enveloping conversion rate is in line with BVG.
Outlook: Development of conversion rates
Because life expectancy is rising steadily and return prospects in the low interest environment are not expected to be sufficient for stable financing, most pension funds urge reducing the minimum conversion rate. Experts agree that 6.8% is too high. Anyone who is not about to retire soon can expect a lower conversion rate.
The referendum on the BVG reform gives the Swiss people the final say on whether the conversion rate should be lowered from 6.8% to 6.0%. One of the aims is to stem the currently high level of undesired redistribution from today’s workers to pension recipients. This would restore the solidarity principle and generational fairness in employee benefits insurance.
