Our bi-weekly Opinion provides you with latest updates and analysis on major capital market and financial investment industry issues.
Growth of Retirement Plan Assets: Key Factors and Implications
Publication date Oct. 08, 2024
Summary
By the end of 2024, the size of retirement plan assets is estimated to surpass KRW 430 trillion. The growth of these assets is primarily driven by wage increases, investment returns, and the number of plan participants. Between 2011 and 2023, the total value of retirement plan assets significantly increased 7.7 times from KRW 49.9 trillion to KRW 382.4 trillion. Meanwhile, the growth of defined benefit (DB) plan assets is expected to decelerate as many large corporations with DB plans are increasingly approaching a 100% funding ratio. Looking ahead, two factors will shape the future expansion of retirement plan assets: the proportion of retirees opting for annuities and the rate at which severance pay is converted into retirement plans. The rise in employer contributions, fueled by increased pension enrollment, has been a critical driver of asset growth. Going forward, investment returns are anticipated to play an increasingly pivotal role. In this context, efforts should be concentrated on enhancing returns. One potential approach is to provide retirement plan providers with greater discretion in asset management, facilitating a shift from the individual-driven investment approach.
Despite fluctuations in returns, total retirement plan assets have consistently grown, reaching KRW 382.4 trillion by the end of 2023. The size of these assets is determined by several factors, including wage growth, the number of participants, and investment returns. This article examines the primary drivers behind the growth of retirement plan assets and their implications.
Trends and contributing factors of retirement plan assets
As of the end of 2023, retirement plan assets in Korea posted a year-on-year increase of KRW 46.5 trillion (13.8%) from KRW 335.9 trillion, totaling KRW 382.4 trillion. Over the past five years, these assets have doubled.1) If this growth trend continues, the total amount is projected to surpass KRW 500 trillion by the end of 2026 (Figure 1(a)). Since 2011, the growth of defined benefit (DB) plan assets has slowed, largely due to the weakening effects of participant growth following the introduction of the retirement pension regime. In contrast, the assets of defined contribution (DC) plans and individual retirement pension (IRP) plans have experienced more robust growth, fueled by an increasing number of plan participants (Figure 1(b)).
The size of retirement plan assets is primarily influenced by the number of plan members, wage growth, and investment returns, albeit with variation depending on the plan type. The calculation of retirement benefits is based on the severance pay system, where an employee’s final salary is multiplied by the years of service to calculate severance pay. Since plan assets at the end of each year represent the sum of severance pay accumulated for individual employees, the total amount is determined by the number of employees enrolled in the plan. The assets accumulated by the end of the previous year are adjusted based on investment returns. Thus, the size of retirement plan assets changes mainly due to the number of plan members and investment returns.
As companies that have adopted retirement plans contribute an amount equivalent to one month’s salary for each plan member annually, plan assets increase in proportion to participant growth (Figure 2(a)). For DB plans, if a plan’s returns fall short of the wage growth rate, the shortfall is covered by the company that introduced the plan. As a result, DB plan assets grow in tandem with wage growth, rather than through investment returns. On the other hand, the assets of DC and IRP plans are directly linked to investment returns (Figure 2(b)).
The effect of returns on the growth or reduction of plan assets can be better understood by analyzing the annual changes in plan assets. In 2023, plan assets rose by KRW 46.5 trillion. The growth was primarily driven by contributions from employers and plan members (mainly through IRP-type plans), which amounted to KRW 45.6 trillion and KRW 8.2 trillion, respectively, while KRW 26.6 trillion was paid out in retirement benefits. Additionally, investment returns of KRW 19.1 trillion were realized, resulting in a total increase of KRW 46.5 trillion for 2023. As a result, total plan assets grew from 335.9 trillion at the end of 2022 to KRW 382.4 trillion by the end of 2023 (Table 1). By plan type, DB plans posted the lowest growth rate at 6.7%, while IRP plans saw the highest growth rate of 31.2%. Notably, retirement benefits for DB and DC plan members are transferred to their IRP accounts before being withdrawn. Thus, IRP plans have a substantial amount under the “other” category and pay out the largest amount of retirement benefits. As a considerable portion of these retirement benefits transferred to IRP accounts is often withdrawn as a lump sum, the extent to which retirement benefits are annuitized has a significant impact on the future growth of plan assets.
An analysis of changes in plan assets reveals that the factors driving growth or reduction in IRP plan assets are quite different from those affecting DB and DC plan assets. Since IRP accounts are opened by individuals through financial institutions, employer contributions are not involved. Participation in IRP plans is primarily motivated by tax incentives, leading to a surge in contributions, particularly toward the end of the year.
In the case of DC plans, the steady growth in the number of plan members has led to a continuous increase in employer contributions (Figure 3(a)). In 2022, a decline in returns resulted in a modest increase in total DC plan assets, while the increase became larger when returns improved in 2023. For DB plans, employer contributions, which had steadily risen, dropped to KRW 23.4 trillion in 2023, a sharp decrease of KRW 13.3 trillion from KRW 36.7 trillion in the previous year (Figure 3(b)). The decline in employer contributions in 2023 may be attributed to three factors. First, the strong investment returns in 2023 could prompt employers to adjust their new contributions downward. Second, the growth rate of plan members, which was above 4% from 2017 to 2020, fell to 2.80% in 2021 and 1.38% in 2022. If the growth rate remained similarly low in 2023, this also would result in a reduction in employer contributions.2) Third, many large corporations that introduced DB plans were likely to achieve full funding status by the end of 2022, suggesting that contributions were made primarily to cover new retirement benefit payouts in 2023.3) The second and third factors indicate a potential slowdown in the growth of DB plan assets going forward. As of the end of 2022, there were 6.534 million members in DB and DC plans, while roughly 5.747 million employees were still covered by the severance pay system. The extent to which these employees transition to retirement plans, as well as whether they opt for DB or DC plans, will determine the future growth of retirement plan assets.
Investment returns and retirement plan asset management system
In 2023, investment returns accounted for 41.1% of the overall increase in retirement plan assets, and this proportion is likely to rise as assets are accumulated. Therefore, investment returns on plan assets play a crucial role, and the asset management system that generates these returns becomes even more essential.
Currently, investment decisions in DC and IRP plans are made by individual plan members. However, not all members possess the financial expertise required to make informed decisions, and even those who do may face limitations, such as insufficient asset size, which can impede effective diversification. As of the end of 2023, investments in target date funds (TDFs) took up 21.1%, or KRW 9.0 trillion, of the total collective investment securities worth KRW 42.8 trillion, suggesting the growing interest in TDFs. TDFs provide a potential solution for plan members to go beyond some of the limitations they face with investment decisions. In addition, investments in exchange-traded funds (ETFs) have been increasing, which can offer another alternative for portfolio diversification, regardless of individuals’ asset size.
To improve returns on retirement plans, it is important to increase the proportion of investments in dividend-paying products over the long term, though this presents a significant challenge. It is difficult to recommend that plan members take on investment risks. Recently, collective defined contribution (CDC) plans have attracted increased attention as a means of helping plan members overcome investment limitations.4) One example is the SME retirement pension fund plan. Collective investment tools like CDC plans enable individuals to benefit from professional asset management and offer an opportunity to restructure asset composition, which is often concentrated in principal-protected products. It is desirable to expand the collective investment approach, either by redefining the role of existing retirement plan providers or encouraging new financial institutions to enter the market.
1) Ministry of Employment and Labor & Financial Supervisory Service, 2024, Statistics on retirement plan contributions under management in 2023 and 2024.
2) The 2023 statistics of retirement plan members will be announced around the end of December 2024. Thus, the exact growth rate of DB plan members is unavailable.
3) Article 16 of the Act on the Guarantee of Employees’ Retirement Benefits (the Act), Article 5 of Enforcement Decree of the Act, and Article 4-2 of Enforcement Rue of the Act (Calculation of minimum assets for DB plans 3: 100% as of January 1, 2022)
4) As is the case with DC plans, a CDC plan does not require the employer to guarantee the amount of retirement benefits; however, plan assets are managed collectively by experts, rather than independently by individuals.
Trends and contributing factors of retirement plan assets
As of the end of 2023, retirement plan assets in Korea posted a year-on-year increase of KRW 46.5 trillion (13.8%) from KRW 335.9 trillion, totaling KRW 382.4 trillion. Over the past five years, these assets have doubled.1) If this growth trend continues, the total amount is projected to surpass KRW 500 trillion by the end of 2026 (Figure 1(a)). Since 2011, the growth of defined benefit (DB) plan assets has slowed, largely due to the weakening effects of participant growth following the introduction of the retirement pension regime. In contrast, the assets of defined contribution (DC) plans and individual retirement pension (IRP) plans have experienced more robust growth, fueled by an increasing number of plan participants (Figure 1(b)).
As companies that have adopted retirement plans contribute an amount equivalent to one month’s salary for each plan member annually, plan assets increase in proportion to participant growth (Figure 2(a)). For DB plans, if a plan’s returns fall short of the wage growth rate, the shortfall is covered by the company that introduced the plan. As a result, DB plan assets grow in tandem with wage growth, rather than through investment returns. On the other hand, the assets of DC and IRP plans are directly linked to investment returns (Figure 2(b)).
In the case of DC plans, the steady growth in the number of plan members has led to a continuous increase in employer contributions (Figure 3(a)). In 2022, a decline in returns resulted in a modest increase in total DC plan assets, while the increase became larger when returns improved in 2023. For DB plans, employer contributions, which had steadily risen, dropped to KRW 23.4 trillion in 2023, a sharp decrease of KRW 13.3 trillion from KRW 36.7 trillion in the previous year (Figure 3(b)). The decline in employer contributions in 2023 may be attributed to three factors. First, the strong investment returns in 2023 could prompt employers to adjust their new contributions downward. Second, the growth rate of plan members, which was above 4% from 2017 to 2020, fell to 2.80% in 2021 and 1.38% in 2022. If the growth rate remained similarly low in 2023, this also would result in a reduction in employer contributions.2) Third, many large corporations that introduced DB plans were likely to achieve full funding status by the end of 2022, suggesting that contributions were made primarily to cover new retirement benefit payouts in 2023.3) The second and third factors indicate a potential slowdown in the growth of DB plan assets going forward. As of the end of 2022, there were 6.534 million members in DB and DC plans, while roughly 5.747 million employees were still covered by the severance pay system. The extent to which these employees transition to retirement plans, as well as whether they opt for DB or DC plans, will determine the future growth of retirement plan assets.
In 2023, investment returns accounted for 41.1% of the overall increase in retirement plan assets, and this proportion is likely to rise as assets are accumulated. Therefore, investment returns on plan assets play a crucial role, and the asset management system that generates these returns becomes even more essential.
Currently, investment decisions in DC and IRP plans are made by individual plan members. However, not all members possess the financial expertise required to make informed decisions, and even those who do may face limitations, such as insufficient asset size, which can impede effective diversification. As of the end of 2023, investments in target date funds (TDFs) took up 21.1%, or KRW 9.0 trillion, of the total collective investment securities worth KRW 42.8 trillion, suggesting the growing interest in TDFs. TDFs provide a potential solution for plan members to go beyond some of the limitations they face with investment decisions. In addition, investments in exchange-traded funds (ETFs) have been increasing, which can offer another alternative for portfolio diversification, regardless of individuals’ asset size.
To improve returns on retirement plans, it is important to increase the proportion of investments in dividend-paying products over the long term, though this presents a significant challenge. It is difficult to recommend that plan members take on investment risks. Recently, collective defined contribution (CDC) plans have attracted increased attention as a means of helping plan members overcome investment limitations.4) One example is the SME retirement pension fund plan. Collective investment tools like CDC plans enable individuals to benefit from professional asset management and offer an opportunity to restructure asset composition, which is often concentrated in principal-protected products. It is desirable to expand the collective investment approach, either by redefining the role of existing retirement plan providers or encouraging new financial institutions to enter the market.
1) Ministry of Employment and Labor & Financial Supervisory Service, 2024, Statistics on retirement plan contributions under management in 2023 and 2024.
2) The 2023 statistics of retirement plan members will be announced around the end of December 2024. Thus, the exact growth rate of DB plan members is unavailable.
3) Article 16 of the Act on the Guarantee of Employees’ Retirement Benefits (the Act), Article 5 of Enforcement Decree of the Act, and Article 4-2 of Enforcement Rue of the Act (Calculation of minimum assets for DB plans 3: 100% as of January 1, 2022)
4) As is the case with DC plans, a CDC plan does not require the employer to guarantee the amount of retirement benefits; however, plan assets are managed collectively by experts, rather than independently by individuals.