Should I Cancel My Company Pension Plan to Invest in ETFs or a Home?
In short, this calculator helps you to determine - if it makes sense to enrol in your direct company pension plan (known as 'betriebliche Altersvorsorge' or 'bAV' in German) or to continue paying into your existing company pension plan and - if you are better off using the money to buy a home or invest in ETFs ideally through a private pension plan.
Let’s calculate how much your company pension plan returns:
Figure 1. Your expected net pension is 95 € per month
You can see the extra pension you get from your company pension plan in green on the right-hand side. The extra pension you will get is low (see the red parts on the right-hand side) because:
Your public pension (GRV) declines. Part of your gross salary is used by your employer to pay for the company pension plan instead of the public pension. At age 67, the loss in monthly public pension is 51 €. At 87 the cut in your public pension is even higher an estimated 75 € per month, as the public pension keeps growing.
The effective costs charged also take a sizable bite of 49 € per month out of your pension.
You have to pay tax and social security contributions on your company pension plan of 79 € per month. The "employer contribution" you get are taxes and social security contributions your employer pays into the company pension plan instead to the tax office, and now you owe them, and this will reduce your pension.
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Your Company Pension Plan earns only a meager return
One of the biggest problems with the company pension plan is, that it forces you into guaranteed products that have low returns and high costs as we explain in detail in the referenced article. The impact of the low return you can simulate in the calculator above. Instead of guaranteed products you should, for your pension, invest in a wide-ranging basket of stocks (e.g. an ETF invested in a big stock market index) and hold them for a long time. This will earn you a high return with a very high degree of certainty – see the figure and table below. This is why the alternatives we discuss in the later sections show a much higher pension for the same contribution you make.
Canceling your Company Pension Plan
If you already have a direct company pension plan, you will want to consider canceling it.
Consider this. In the first 5 years, you pay 2,5% of your lifetime contribution. If you would pay 40 years of 1.000 € per year, this upfront contribution amounts to 1.000 € or a full 20% of the 5.000 € you contribute in these five years. The sooner you cancel, the more of these costs you avoid! Even after the 5 years is over you are better off canceling, as your return is so low. If your HR department or the insurance company argues that by withdrawing that you forgo your subsidies, then ask them to state clearly which of these subsidies you have to pay back in retirement. The answer should be: nearly all unless you lose money on your company pension plan. We recommend that you just compare the expected monthly pension under a company pension plan with the alternatives below.
Figure 2. Buying your one home is expected to increase your net pension to 161 € per month
The net effect on your retirement of buying a home is quite good because:
Rents increase every year, including in retirement, and that is what you save. At age 87 your rent saved will be 175 €!
Note that any valuation gain of your house is tax-free, and on top of the saved rent you can leave a big asset behind for your heirs.
In case you are interested in the fine print. We don't think most make a material difference, but nonetheless want to explain additional underlying assumptions:
In the above, we assume that investing exactly the same amount as in the company pension plan and from your net income. First in a house and if that is paid off in a private pension plan (known as 'private Rentenversicherung' or 'private Altersvorsorge' in German).
We also assume that you choose a mortgage that is fully paid off when reaching the age of 67.
We assume a house rental yield of 3 %, one percent above inflation. A lower or higher yield proportionally affects your pension. This is a critical assumption. Check if it applies to you!
The current mortgage rate is about 3 %.
Also relevant is the assumption that the investment in stocks yields about 6% in the long term but you would stop taking this risk when you would have a chance of no longer preserving your assets.
Instead of buying a home for yourself, you could instead purchase a home to rent out. The main difference is that you will have to pay income tax on your rent, reducing your net return. The benefit of a rental property is that you can sell it at some point in life and then invest it for returns.
If you have already invested in a home or would rather pursue other options than a long-term mortgage, another way to supplement your pension is through ETFs. We will explain how this compares to the company pension plan option.
Figure 3. Investing in ETFs (through a private pension plan) makes more sense than a company pension plan
The net effect on your retirement by investing in ETFs is high because:
The return of a properly selected ETF portfolio is much higher than the guaranteed company pension plan;
Even though you have no upfront tax benefits, the low cost and high returns, result in a very high investment outcome;
Using a Private Pension Plan optimizes your taxation (you pay capital gains tax only once so your full assets grow tax and you pay tax on half the gains after 62), and provides flexibility: you can put in flexibly, you take the money out to buy a house or you can use it as collateral when buying a house, you can let it run to retirement and take it out in different lump sum, as a monthly pension, or both.
We suggest delegating and automating the investment. Self-investment does not work well for 98 % of the people as studies show, due to well-known biasses: lack of a disciplined framework, taking profit too quickly while letting losses fester, and attempts to time the market which is exceedingly hard).
As we realized that the private pension plan is the superior savings plan solution, we spent a lot of time developing the Pensionfriend Pension Plan to be the lowest cost, avoid upfront fees, and find the best ETF benchmark. And more, but this gets technical, so you need to read more about it: with the best rebalancing rules, currency hedging, and tracking difference. Yes, it's technical. But here you can see the impact.
