Israel Faces Fears of Government Seizing Pension Surplus Funds

Israeli institutional bodies are concerned that the next government may attempt to access approximately 30 billion shekels in surplus funds accumulated in pension funds' yield guarantee mechanism. These funds, generated by high capital market returns, are intended as a safety net for savers during periods of lower yields. However, due to a high deficit and increased defense spending, managers at these institutions fear that the Treasury's Budget Department, under pressure from lawmakers, might seek to divert these funds to reduce the deficit or finance state expenditures. Such a move would necessitate legislative changes.

Israel is facing significant budgetary challenges, with recent wars substantially increasing defense costs. Future years are also expected to see much higher defense spending than pre-war levels, in addition to reconstruction expenses, rising government debt interest payments, and the need to boost civilian budgets. The government deficit remains high, and the debt-to-GDP ratio has sharply increased since the war's outbreak, reaching an estimated 68% by 2026, with cumulative war costs around 405 billion shekels. The incoming government must decide whether to fund these growing expenses through tax hikes, cuts to public services, or further debt accumulation.

According to pension fund managers, as of the end of the second quarter of 2026, the surplus in the yield guarantee mechanism reached about 30 billion shekels. The first reconciliation between the state and pension funds under the reformed designated bonds mechanism is scheduled for October 2027. This initial reconciliation will cover funds allocated in October 2022. If the returns generated by pension funds exceed the guaranteed 5.15% annual real yield, the surplus will be transferred to a dedicated state account to cover shortfalls in weaker years. Subsequent monthly reconciliations will occur as additional tranches of funds complete their five-year investment period.

The Treasury's Budget Department stated that as of the end of 2025, the insured value of assets eligible for yield guarantee for 2022-2025 was approximately 135.8 billion shekels, while their actual value stood at about 157.3 billion shekels, resulting in a calculated credit balance for the state of around 21.4 billion shekels. The positive returns in the first half of 2026 reportedly increased this surplus by approximately 8.5 billion shekels. The department emphasized that these funds are legally restricted to supplementing pension fund yields and are not for general government use, nor do they impact the deficit as they are budgeted separately.

To utilize these accumulated funds for current expenses, the Knesset would need to amend the law. This mechanism is compared to Israel's sovereign wealth fund, which receives state revenues from natural resource profits, with both being managed separately from the state budget and legally restricted to prevent immediate use for budgetary needs. The fear among pension fund managers stems from potential attempts to change the purpose of these funds, despite the legal requirement for legislative amendment.

The gradual transfer of these funds, potentially starting in October 2027, could see billions of shekels withdrawn from the capital market. With roughly half of these pension funds invested in stocks, and half of that in the Israeli market, an estimated 8 billion shekels could be sold on the Tel Aviv Stock Exchange. Such a withdrawal from Israel's relatively small stock market could create selling pressure and negatively impact stock prices over the five-year transfer period.