Pension Investing vs. Pension Saving: What suits you?

Pension investing or pension saving: what is the difference?

Many young investors and working people wonder how best to save for later: do you choose pension investing or pension saving? The same tax regime, two very different outcomes. After this article you will know exactly where the difference lies, which risk belongs to which choice, and which question to ask yourself before you decide.

What is pension investing and what is pension saving?

Pension investing is investing for later in a blocked account. You pay money into an annuity investment account, that money is invested in funds, and the value moves with the market. The mechanism: when the prices of the underlying investments rise or fall, the value of your account changes with them straight away. There is no intermediary absorbing that movement.

Pension saving, also known as bank saving for retirement, uses a savings account instead of investments. You pay money into a blocked pension savings account and receive interest on your balance, either variable or fixed. The mechanism: your principal stays intact in nominal terms and grows with the interest the bank pays. Market movements do not touch your balance.

Both fall under the third pillar: the part of your pension you build up yourself, alongside the Dutch state pension (AOW) and any pension through your employer.

Similarities

The two options are similar in setup and serve the same purpose: you build up an extra pension pot yourself, the third pillar of the Dutch pension system. Some important similarities:

Tax benefit: Both pension saving and pension investing take place in a blocked annuity account, which means your contribution is deductible within your annual allowance (jaarruimte) and reserve allowance (reserveringsruimte), and the accrued capital is exempt from the wealth tax on assets.

Blocked account: In both cases your money is earmarked for an annuity payment and you cannot freely dispose of it. The payments do not have to start exactly at your AOW age, there is some room to start earlier or later, but that room is bounded and the rules on duration get stricter if you start early. Take the balance out early and the full surrender sum is taxed as income in box 1, usually with revisierente on top: an additional levy of up to 20% of the surrender value that reverses the tax benefit you received earlier.

Supplementary pension: Both products are intended to top up a pension shortfall. They are relevant if you have a pension gap, for example if you are self-employed or do not build up a full pension through your employer.

Payout phase: At retirement, the accrued capital must ultimately be used for an annuity payout: a periodic payment on top of your AOW and any employer pension. This applies to capital from pension saving and pension investing alike, and the tax rules around it are the same. You pay income tax on the annuity payments later on. The advantage is that after retirement you usually fall into a lower bracket.

Differences

Despite the similarities, there are clear differences between pension investing and pension saving. The most important ones concern risk and return.

Risk. With investing you take market risk: the value can fall and you can lose part of your contribution. With saving you do not take that risk, but your balance does depend on the interest rate the bank offers. Savings are also covered by the deposit guarantee scheme up to €100,000 per person per bank. Investments are not covered by that scheme. Investments do have statutory asset segregation: they are held separately from the provider's own assets.

Expected return. Equities and corporate bonds carry a higher expected risk premium than a savings account. That is not a promise, it is the other side of dispersion: the possible outcomes lie further apart, both upward and downward. With saving, the range of outcomes is narrow, and therefore close to the interest rate you see today.

Costs. With saving you usually pay little to nothing in ongoing costs. With investing you pay service costs and fund costs, which come off your gross return. So always look at the net amount, not the gross return.

Flexibility. With saving you choose between a variable rate and a deposit with a fixed term. With investing you choose a risk level, or you let it wind down automatically towards your end date. That last approach is called a lifecycle.

Which risks are easy to overlook?

With investing, the risk is visible. You see it when your balance drops, and that is exactly the moment people stop contributing. A drop shortly before your end date has more impact than a drop at the start, simply because there is less time left. Vive limits this risk as far as possible by automatically shifting towards a safer portfolio as your retirement date approaches. How quickly we do that, though, is something you can adjust to your own preferences.

Saving carries risks too, they are just less visible. If the savings rate is lower than inflation, the purchasing power of your balance falls while the number on your screen keeps rising. Your nominal contribution is intact, your real wealth is not. And with a long fixed rate you are locked into the rate that applied when you signed, even if market rates rise afterwards.

What does this mean for you?

The question is not which product is better, but how much time sits between now and your end date, and how much movement you accept along the way.

In the short term: investing means your value can fall, sometimes sharply, and that you have to be able to sit through it without changing your plan. Saving means you avoid that swing, but you do run the risk that your contribution slowly loses purchasing power.

Over the long term that reverses. The longer your horizon, the more time there is to absorb a bad year, and the more heavily the inflation risk weighs on a savings account.

At Vive, that is the reasoning behind the lifecycle: we gradually reduce the risk in your portfolio as your end date approaches, and we rebalance when the actual portfolio drifts too far from the strategic portfolio. That way, the choice between taking risk and reducing risk does not have to happen at a single moment.

Finally

Whatever you choose, the biggest variable is not the product but your behaviour. Keep contributing, hold on to your horizon, and do not change your plan on the basis of a single quarter.

Investing involves risk. You can lose part of your contribution. Past results are no guarantee of future performance.