Kristi Saare and Tõnu Pekk have helped cut through the clutter of information about pension pillar reforms. Below you’ll find a summary that outlines how to withdraw from the second pillar and how to maximize its benefits.
The second pillar is truly your asset
While the second pillar was always legally your own, many didn’t feel it was theirs. Access to these assets was restricted, details on returns and fees were opaque, and there were no choices. Unsurprisingly, half of the Estonian population knew very little about their second pillar. However, those who continue to save in the second pillar until retirement age now stand to gain the most.
Thanks to recent pension reforms, the second pillar funds are undeniably yours. At any moment, you can submit an application to transfer the accumulated money to your bank account or direct it to your personal pension investment account, where you can buy stocks or funds by your choice. You can monitor on your pension account how much income this asset has generated for you and how much in fees is deducted from your investment each year. Essentially, the second pillar now operates just like any other financial account you might hold.
Go ahead, log into your pension account, and take a look!
Gaining the most from the second pillar by continuing to save
The second pillar isn’t a ticket to paradise, but as Tuleva founder Jaak Roosaare puts it—it forms the foundation of a strong financial house. A great feature of the second pillar is that it’s already set up for you, continuously accumulating wealth every month without requiring any active effort on your part. Those who maintain their contributions until retirement age reap substantial benefits. Upon retiring, you’re no longer obliged to hand over the accumulated assets to an insurance company. Instead, you enjoy flexible access to your funds.
The law now allows individuals of pre-retirement age (currently 60 years old) to withdraw as much money as they need all at once. This can be particularly useful for significant expenses like insulating your home’s facade or covering essential medical costs. Withdrawals at this stage are subject to a reduced tax rate of 10%. Alternatively, you can opt for a fund pension, where payments are gradually disbursed to you while the remainder continues to earn returns in the pension fund. If this fund pension extends over a sufficiently long period, the tax on it can be zero. Ultimately, any money you don’t use in your lifetime will be passed on to your heirs.
If you’re over 55-60 and pondering what to do with your second pillar as retirement nears, check out our episode ‘What to do with pension pillars as retirement approaches?‘
The high cost of accessing second pillar capital prematurely
We’ve received numerous inquiries about whether it might be wise to withdraw from the second pillar to buy an apartment, forest land, renovate, settle debts, and so on. Before you make such a withdrawal to finance your dreams or business ideas, consider the cost. Generally, tapping into your second pillar funds before retirement age is an expensive decision.
For example, if you are currently 35 years old and earning the average salary in Estonia, you’ve likely accumulated just over 10,000 euros in your second pillar. Withdrawing these funds now would mean the state withholds 2,000 euros in taxes, and you would receive 8,000 euros. This might cover a thorough renovation of your kitchen or the purchase of a hectare of middle-aged forest land. However, if you delay this withdrawal, your second pillar funds could grow to about 35,000 euros in ten years. With this larger amount, you could undertake more extensive renovations or purchase more land—even if inflation increases prices in the interim. Conversely, the cost of that kitchen renovation or hectare of forest land would be substantially higher than it appears today.
What’s the rush? There’s no need to act immediately.
Remember, the chorus of intermediaries and advisors often urges you to ‘do something!’ However, when it comes to investments, sometimes the best action is inaction. Banks and financial institutions typically profit when you make moves with your money. The pension reform didn’t set any deadlines that require immediate action. You can withdraw assets or switch funds anytime.
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(1) For this example, I am assuming that your salary grows by 3% per year and your pension fund’s return is 5% per year. If inflation is 2% per year, as it has been on average over the last 10 years, then 35,000 euros would be worth 28,700 euros in today’s money. If it’s 4% per year, then it would be 23,600 euros.
