The Big Budget Debate - Pensions
October 2009
HR & Recruitment Ireland
By Fionan O’Sullivan - IFG Corporate Pensions, Stephen McCormack - IFG Private Clients, Richie O’Farrell - IFG Self-Administered Pensions
There has been much discussion and speculation in the pensions industry as to what will change in the 2010 budget.
The indication from Brian Lenihan in his last budget speech was that radical change was imminent:
“The Commission on Taxation is examining various aspects of Pension tax treatment including the treatment of Lump Sums and I expect to be dealing with their recommendations in the 2010 budget next December.”
However recent media speculation suggests that Senior Ministers now believe that given the current economic and political environment, such radical reform is unlikely as the measures would have a disproportionate effect on certain categories of tax payers.
In light of the recent Commission on Taxation Report, in this article our panel of experts discuss what changes they would propose for the 2010 budget and offer their views on the Report’s key proposals.
Reduced Tax Free Lump Sum
The Commission Report proposes a reduction of the tax free lump sum to €200,000, down from €1.3 million. There is little justification for applying a tax to most people’s tax free lump sum. Given that all classes of assets have been decimated by the recent market turmoil, the majority of people coming up to retirement have already lost a large amount. However, if this threshold is reduced, it is unlikely that the average employee will be affected (i.e. will be below the €200,000 limit) and the Government can still achieve their political aim of ‘taxing the fat cats.’
Anyone approaching retirement (or indeed over 50) should talk to their pension adviser and tax adviser about the possible impact of the above change as it may be worth considering drawing down benefits before their normal retirement age.
Abolition of Tax Relief on Pension Contributions
The Commission Report is proposing the abolition of tax relief on pension contributions in favour of a direct
State contribution. At present you can receive tax relief on pension contributions at your marginal rate of tax (e.g. 41%). It is proposed to amend this so that the State will provide €1 for every €1.60 contributed from after tax income.
Pensions are, in simple terms, deferred income you put away some of your income now so that you can enjoy a comfortable retirement and not just depend on the State pension. The Government have spent many years and much money trying to convince the Irish population that a pension is both a necessary and beneficial asset.
The abolition of tax reliefs would be a completely retrograde step. Not alone will it deter new pension investors, but we believe the majority of current pension savers in the higher tax bracket would cease to contribute and thus it may be a self-defeating measure. It may lead to a large reduction in pension contributions, create an even bigger pension gap to be filled in the future and lead to more dependence on the State for income in retirement.
We would, however, urge the Government to look at the issue of public sector pensions as they are a huge draw on the tax system due to the fact that they are not funded and are paid directly out of tax revenue.
Huge savings could be made by a thorough review of this area to bring it in line with the changes they are considering for the private sector. Despite this fact, the Commission’s Report is devoid of any recommendations in this regard.
Reducing the Standard Fund Threshold
At present you can build a pension fund to €5.4 million. The Commission Report would strongly suggest that this will change. This will not affect the majority of people as their pension fund balance is much lower than the standard fund threshold. Individuals who have accumulated pension funds approaching the current standard fund threshold should consider options (i.e. further funding for retirement) prior to the December budget.
Annuity vs Approved Retirement Funds
The Commission’s Report proposed that Approved Retirement Funds should be extended to all members of Defined Contribution Schemes and not just director’s pensions, self-employed pensions and AVC’s.
With annuity rates at very low levels, combined with the fact that many funds have suffered losses over the past 2 years, it would make for a more equitable system.
In addition, the tax take on ARF’s will be more beneficial to Revenue in the long term as the assets are continually taxed on the deemed distributions, and when passed to the estate there is an additional tax take of 20-25%.
Currently, where an individual has an annuity, the tax take ceases on the death of the annuitant or his wife where there is a provision for a spouse’s pension.
Personal Retirement Savings Accounts (PRSA’s)
We feel that the Government may bring PRSA’s into the imputed distribution regime.
Under current PRSA legislation there is no onus on an individual to draw down 3% and this is a loophole Revenue are both aware of and have made known they are reviewing.
Another area which needs to be addressed is the treatment of employer contributions to PRSA’s in the context of the Government levy. Unlike employer contributions to an occupational pension scheme, employer PRSA contributions are deemed to be a Benefit in Kind and are therefore subject to the Government levy of up to 6%. This would appear to be an oversight on the part of the legislator and is being lobbied by the industry to be rectified.
Reduce Tax Planning Opportunities
The Government may also close ‘gaps’ in pension legislation (e.g. Standard Life’s Flexible Retirement Options plan, commonly referred to as the Heathrow ARF).
What people need to consider is that a pension is an asset and should be treated as such, with regular reviews and on-going monitoring of its performance. The days of being blissfully unaware of aspects of your pension are well over. There is a distinct need for people to understand what their pension is invested in and how it is performing over time.
Any of the changes discussed in this article would have the potential to significantly impact on a person’s retirement fund. Individuals should consider how any proposed changes in this year’s forthcoming budget may affect their pension balance and discuss a plan of action with their pension adviser.
So until December we will all have to sit tight and see whether the Government will proceed with many or indeed any of the changes proposed by the Commission’s Report in the forthcoming 2010 budget. We hope that those currently taking steps to adequately prepare for retirement will be rewarded with some type of incentive, rather than be further penalised.
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