IFG Pensions Blog

People nowadays don't grow old like they used to. We want to have fun in retirement: travel, spend time with family and friends, learn new skills and stay active. Enjoying this huge segment of our life depends to a great extent on how well we plan for it financially during our active working life. It is therefore crucial to build up a Future Fun Fund – this is our responsibility, no one else is going to do this for us.

At IFG we believe it is important to raise the issues people may need to think about in relation to pensions. In our Blog we provide straightforward answers to topical questions and dispel the myth around pensions to give you a better understanding and highlight the importance of having a plan in place for your retirement.


Budget 2014 Update - A Pensions Perspective

15 October 2013

IFG Corporate Pensions

The Dail

Budget 2014 contained two important  pension changes, in addition to eliminating top slicing relief on termination payments:

(1) the pension levy has been increased for 2014 to 0.75% and will continue for 2015 at 0.15%.

(2) the pension limit system has been radically changed by introducing higher age related multiples to value defined benefit pensions and by reducing the Standard Fund Threshold to €2m. This will likely encourage higher earners in Defined Benefit schemes to opt out of further accrual of pension and seek alternative remuneration structures.

The Pension Levy lives on…

In Budget 2013 last year the Minister for Finance stated:

“The Pension Levy announced as part of the Jobs Initiative will not be renewed after 2014.”

However in a U-turn this year, the Minister has indicated that while the existing 0.6% levy will end at the end of 2014, a new levy of 0.15% will apply for 2014 and 2015:

“I will … introduce an additional levy on pension funds at 0.15%. I am doing this to continue to help fund the Jobs Initiative and to make provision for potential State liabilities which may emerge from pre-existing or future pension fund difficulties. The levy within the existing legal framework will apply to pension fund assets in 2014 and 2015 .” 

If the new additional 0.15% is to partly or fully fund the Waterford Glass and other insolvent DB scheme deficits, on foot of the recent judgement by the European Court of Justice, it's hard to see this new levy ceasing in 2015.

Pension levies

 

Existing

New

Total

2014

0.6%

0.15%

0.75%

2015

-

0.15%

0.15%

2016+

-

???

???

Applying the new additional 0.15% levy on DC funds will be extremely unfair if the funds are then to used to plug holes in insolvent funded DB schemes.

Applying a 0.75% levy in 2014 and another 0.15% in 2015, i.e. a total of 0.9%, to DB schemes which already fail to meet the funding standard, will may be the tipping point for such schemes and accelerate the wind up of DB schemes. In such a scenario, the 0.15% could increasingly become a DC tax used to fund historic deficits in DB schemes.

Changes to the pension limits systems  …the end of DB accrual for high earners?

The Standard Fund Threshold limit is being reduced from €2.3m to €2.0m with effect from 1st January 2014. While any reduction is unwelcome, the new SFT is probably higher than most people feared.

The impact on those with defined contribution (DC) only benefits is therefore relatively limited; the real action and impact will be on those with defined benefit (DB) benefits, particularly higher earners.

The link between the new €2m SFT limit and the €60,000 pa pension limit, announced by the Minister in last year’s Budget speech, appears to be the following:

30 x €60,000 pa + €200,000 = €2.0m

The 30:1 factor is the new multiple to be used to value DB pensions, at age 60.

Those whose uncrystallised and crystallized (since 7th December 2005) retirement benefits at 31st December 2013 exceeding €2m, and who don’t already have a 2005 or 2010 PFT, can apply for a 2014 PFT, to a maximum of €2.3m.

DB pensions are converted to a notional fund for the purposes of the Threshold limit. Up to now, DB pensions were converted at a fixed 20:1 regardless of age or type of pension.

This will still be the case for DB pensions accrued prior to 31st December 2013,  but for DB pensions accrued after this date, a new higher factor will apply depending on the individual’s age when he or she retires and draws on their pension.

So for those who accrue DB pensions after 31st December 2013 and who retire after that date, it will be necessary to split their pension into two parts, to calculate the value of that pension for Threshold limit purposes:

DB pension accrued up to 31st December 2013

DB pension accrued after 31st December 2013

Value = 20 x Pension

Value = Age Factor x Pension

The new factors to value DB pensions for the purposes of the Threshold limit system vary from 37:1 at age 50 to 30: 1 at age 60 and 22:1 at age 70. The new factors appear to be broadly based on the Statement of Reasonable Projections (SORP) annuity rate assumptions, using the 3% pa interest rate applying in 2014, specified for PRSA and defined contribution schemes.

Example:

This individual is assumed to be an active member of a DB scheme, accruing further DB pension after 31st December 2013.

DB pension accrued at 31st December 2013

€45,000 pa

DB pension accrued after 31st December 2013

€15,000 pa

PFT at 1st January 2014?

No. Total value = 20 x €45k = €900k, and hence under €2m

Let’s say this individual retires at age 57; the DB multiple at that age is 32.0.

The calculations of the benefit crystallisation event (BCE) value and thresholds are:

BCE Value for Threshold Limit Purposes*

20 x €45k (accrued prior to 1st January 2014)

+

32 x €15k (accrued after 1st January 2014) = €1,380k

Standard Fund Threshold

€2,000k

Chargeable excess

Nil

* option to commute pension for lump sum ignored for simplicity sake

In the example above, the maximum additional pension he or she can accrue after 1st January 2014 and stay within the Threshold limit is about €35,000 pa. For example:

Value for Threshold Limit Purposes*

20 x €45k (accrued prior to 1st January 2014)

+

32 x €35k (accrued after 1st January 2014) = €2,020k

Standard Fund Threshold

€2,000k

Therefore higher earners in defined benefit (DB) schemes need to carefully analyse their potential to accrue additional pension benefits without going over the new €2m Threshold value limit.

Such individuals may therefore seek additional remuneration from their as an alternative to additional pension accrual in their employer’s DB scheme.

Deferred DB pensions may contain a hidden danger

Those with deferred DB pensions who are no longer active members of DB schemes should be aware that statutory revaluation increases to such pensions will be considered to be post 1st January 2014 DC pension accrual, which will be valued at the higher age related multiples at retirement and not at 20:1.

The longer the period of deferment and the more statutory increases are added over time, the higher the risk that such increases could trip an individual over the Threshold limit at retirement. Individuals with deferred DB pensions should therefore be aware of this risk.

Example:

This individual is assumed to have a deferred DB pension and a DC fund at 31st December 2013 and to accrue additional DC benefits (through investment growth and additional DC contributions) after this date.

DB pension accrued at 31st December 2013

€60,000 pa

DB pension accrued after 31st December 2013

€8,000 pa (through statutory revaluation increases on deferred pension)

DC fund at 31st December 2013

€300,000

PFT at 1st January 2014?

No. Total value = 20 x €60k (DB) + €300k (DC) = €1,500k, and hence under €2m

Let’s say this individual retires at age 63; the DB value factor at that age is 27.0. Their DC fund at 63 is assumed to be €800k, i.e. increased by €500k since 31st December 2013.

The calculations of the benefit crystallisation event (BCE) value and Thresholds are :

BCE value for Threshold limit purposes*

20 x €60k + 27 x €8k (DB)  + €800k (DC) = €2,216k

Standard Fund Threshold

€2,000k

Chargeable excess

€216k, which can be fully attributed to the €8k statutory revaluation increases applied after January 2014 to the deferred DB pension

* option to commute pension for lump sum ignored for simplicity sake

Recording pre and post 1st January 2014 DB pension accrual

It will be necessary for administrators of all DB schemes to take a snapshot of member’s accrued DB entitlement at 1st January 2014 in order that the split of DB pension for future retirements as between the part accrued prior to 1st January 2014 and the part accrued after that date,  can be accurately determined in the future.

This will be necessary not just for active members but also for deferred members.

Pension lump sum limits reduced

A knock on effect of the reduction in the Standard Fund Threshold limit from €2.3m to €2m is a reduction in the level of pension lump sums chargeable to standard rate income tax, from the previous limit of €375,000 to €300,000.

The limits from 1st January 2014 onwards on all pension lump sums received since 7th December 2005 will be:

  • €200,000 tax free; this has not been changed.
  • €300,000 chargeable to standard rate income tax; this was previously €375k.
  • Balance, subject to PAYE at marginal rate, PRSI and USC.

Reducing the Standard Chargeable Amount from €375k to €300k also has a knock on effect in reducing the maximum level of standard rate tax deducted from a member’s pension lump sum,  which  can be set off against chargeable excess tax. 

DC high earners need to establish a glide path to the Threshold limit

DC high earners with accumulated DC benefits also need to become more careful about their future contributions and investment growth, in order to try not to overshoot the €2m Threshold at retirement.

This table shows the potential ‘overshoot’ point for a 45 year old, at different levels of accrued DC funds, assuming a future net of charges return of 4.75% pa:

potential point for a 45 year old, at different levels of accrued DC funds, assuming a future net of charges return of 4.75% pa

Top slicing relief abolished

Top slicing relief afforded to the taxable part of ex gratia termination payments, which had the impact of reducing the tax rate to the average effective income tax rate over the last 3 years prior to termination of employment, will be been terminated fully from 1st January 2014. The relief had been abolished in 2013 for ex gratia payments over €200,000.

  • Click here to read the Financial Statement by the Minister
  • Click here for further details in the Taxation Annexes (Annex B detailing changes to the SFT)
  • Click here for a summary presentation from the Department of Finance

With any queries on the above please contact your IFG Corporate Pensions consultant.

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