Friday 9 December 2016

Why have recent Budgets squirrelled away the pain for the future by making it tougher for ordinary people to save for retirement?

After taking some of the biggest hits in recent years, it's time to rescue pensions from the vicious cuts of the budgetary knives

Paula Finlay

Published 11/10/2015 | 02:30

'It is difficult to recall any sector which has been as hard hit as pensions - and yet the more unattractive we make it for people to save for their retirement, the fewer people who will do so, thus greatly increasing the eventual burden on the State'
'It is difficult to recall any sector which has been as hard hit as pensions - and yet the more unattractive we make it for people to save for their retirement, the fewer people who will do so, thus greatly increasing the eventual burden on the State'

The flurry of kites being buffeted by political winds is a sure sign that we're right in the middle of Budget season.

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There has been so much speculation on cuts to the Universal Social Charge, to PRSI and to marginal tax rates and on increases to some welfare payments that the electorate might now be disappointed if any of these measures fail to appear on Budget day.

Despite taking some of the biggest hits during recent Budgets the pension system has received relatively little pre-Budget attention.

Perhaps we find retirement saving a less accessible or engaging topic than income tax but that hasn't saved pensions from successive budgetary knives?

Since the mid 2000s the maximum tax-relieved pension fund has been reduced from €5.4m to €2m while the earnings cap (which limits tax relief on personal and employee contributions) was more than halved from €275,239 to €115,000.

Over the same period the PRSI exemption on personal and employee contributions was withdrawn, minimum withdrawals from approved retirement funds (ARFs) were phased in from 1pc to a current top rate of 6pc of asset values, the pension levy brought in a stamp duty charge on pre-retirement pensions, and the maximum tax free lump sum at retirement has shrunk from €1.35m to €200,000.

It is difficult to recall any sector which has been as hard hit as pensions - and yet the more unattractive we make it for people to save for their retirement, the fewer people who will do so, thus greatly increasing the eventual burden on the State.

There are a number of measures the Government could take improve our relatively low (42pc) participation rates while also introducing more equity into the system.

Stop pillaging pension funds

From 2011 until 2015, the Pension Levy essentially robbed approximately €2.32bn of assets from private pension funds. This had a huge psychological impact on the average private pension investor. Government needs to commit to not applying ad-hoc levies on private pensions.

The current perception is that there is a lack of transparency on fees applied to pensions. A policy needs to be put in place to ensure all pension fees are clearly disclosed from the outset. Such a policy should be adhered to by all providers in the pension industry.

Make auto-enrolment a viable option

The financial sustainability of the Irish State pension system doesn't look good. Our population is aging, we're living longer, and public spending on pensions is comparatively low.

Secure more pension funding by introducing an auto-enrolment system. This could be earnings-related, be phased in incrementally over a number of years and would help supplement the State pension.

Remove inequitable restrictions for the self-employed

Why should self-employed individuals have to incorporate their business to be able to access the same maximum funding levels as employees? Remove the earnings cap of €115,000 and the age-related percentage limits to allow all individuals to contribute equally to their pensions. The same criteria should apply to both self-employed individuals and employees when funding their pensions for retirement.

Company contributions to pensions are exempt from PRSI and USC. Why aren't employee contributions also exempt? Restore PRSI relief and introduce USC relief on individual pension contributions to incentivise more individual pension contributions.

Flexible investment choices

Small self-administered occupational schemes are the only individual pensions which are restricted on the total amount they can invest in direct private equity. In addition to this, all pension products are penalised if their funds invest in connected party transactions.

To provide a boost into the Irish SME sector, lift the private equity restriction for small self-administered schemes.

Take it a step further and allow individuals to use their pensions to support small businesses, even if they have a vested interest in the business. Similar rules in place in the US will permit an individual to use 401K pension funds to start up a business. In the UK, the self-invested pension fund can purchase and lease a commercial property back to the individual's employer company.

Simplify pensions

Currently, defined-benefit scheme members who are not proprietary directors are the only group of pension contributors who are not allowed to access the ARF option at retirement. Remove this restriction and allow access to the ARF for all pension contributors.

A retirement bond is the only pension that is not permitted to transfer to a PRSA.

An occupational scheme can only transfer to a PRSA if the PRSA owner has been a member of the scheme for less than 15 years.

Why have these restrictions when it is possible to legitimately put some pension structuring in place in order to bypass the restriction?

Allow all retirement bonds to transfer to a PRSA and remove the 15-year rule for occupational to PRSA pension transfers.

With so many to choose from, it's virtually impossible to predict what pension measures will be announced with Budget 2016. What is clear though is that there is an underlying lack of fairness in the Irish pensions system.

In particular, there is a disparaging inequality in the tax reliefs granted to self-employed and company-employed pension contributors.

One final thought for Mr Noonan could be to seek to address this inequality in some shape when he is allocating out the planned €1.2bn-1.5bn giveaway this year.

Paula Finlay is a financial planning expert at Davy

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