Saturday 1 October 2016

Do I have to buy an annuity with most of the money in my pension fund when I retire?

Jerry Moriarty

Published 31/01/2016 | 02:30

When you retire from a defined contribution arrangement here, you also have the option of taking tax-free cash and using the balance to buy a pension. Photo:Depositphotos
When you retire from a defined contribution arrangement here, you also have the option of taking tax-free cash and using the balance to buy a pension. Photo:Depositphotos

I have about another 15 years or so until retirement. I am wondering if there are any plans in Ireland to follow the recent changes to the pension rules in Britain, whereby you can take your pension pot - and not have to buy an annuity when you retire?

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John, Lusk, Co Dublin

Traditionally when you retired from a defined contribution pension scheme, you were able to take some of your fund as tax-free cash and the rest had to be used to buy an annuity - that is, a pension from an insurance company which paid you an income for the rest of your life.

In Britain since last April, people have been able to take all their fund as cash and do whatever they want with it. There is already a version of this here in Ireland, although it isn't quite as liberal as Britain.

When you retire from a defined contribution arrangement here, you also have the option of taking tax-free cash and using the balance to buy a pension. Alternatively, you may be able to transfer the balance to an Approved Retirement Fund (ARF - a personal retirement fund where you can keep your money invested after retirement, as a lump sum) instead of purchasing an annuity. To be able to use this option, you either have to have a certain amount of guaranteed income (that is, €12,700 a year) or you must put €63,500 aside until the age of 75 - or use that money to purchase an annuity now. Once that is done, the balance of the funds can then be transferred to an ARF and can be invested - and funds can be drawn down as you need them. Tax is paid as income is taken. It is worth noting that you will be deemed to take 4pc out of your ARF each year and taxed on that - whether you take the 4pc out or not.

Many people haven't been buying pensions as the cost of doing so has risen. This is partly because as people are living longer, they need to be paid pensions for longer. Low interest rates also increase the cost of pensions. A pension that is payable for life does provide a lot of security and many people worry that if they invest the funds in an ARF, the money in those funds could run out before they die. On the other side, people worry that if they died soon after buying an annuity, there may be no further pension payments made - whereas an ARF can be left to their dependants. In either case, it is a big decision and shouldn't be taken lightly.

You should talk to your employer, trustees or a financial adviser now about the options you are likely to have at retirement as it may be relevant to how you invest your savings now.

I'm 44 with a wife and three kids and have just started with a new firm. I don't have that much existing pension from previous employments and because of this, my new employer has offered to double the contributions it would normally pay into a worker's pension - from 5pc to 10pc - if I double mine. While my salary is over €100,000, life's expenses seem to eat it up, so I'm not sure if I can really afford my boss's offer even though I may regret it later on. Any advice?

Denis, Howth, Co Dublin

From the tone of your question, I suspect that you already know the answer. Firstly, don't assume that the State pension will remain at the current level relative to the cost of living. It is designed to keep people out of poverty and not to maintain your standard of living in retirement. It is also currently solely based on the ability and willingness of the next generation (a shrinking group) to be able to pay the pensions of you and your peers (a rapidly growing group).

So with a strong salary, a desire for a high standard of living in retirement, and little previous saving, you really should consider this offer from your employer. If you have to contribute €10,000 a year, this will cost you about half of that after tax and your employer will also put in €10,000 to bring the total to €20,000 a year. So it will cost you €5,000 a year to have €20,000 invested in your pension. It is hard to see why you wouldn't want to take that up.

My employer has a defined contribution pension scheme. I have heard they are worse than defined benefit schemes - is there any point in me joining it?

Derek, Donegal Town

It's not really a case of one being better than the other. Defined benefit schemes have often been described as "Rolls Royce" pension arrangements. This was due to the perception that they 'guaranteed' you a pension of two-thirds of your salary at retirement. The reality is somewhat different.

People living longer in retirement - as well as today's low interest rates - have made the cost of pensions much higher. Most employers are no longer able or willing to pay these costs. As a result, defined benefit schemes are disappearing and many have cut the benefits they pay.

In a defined contribution scheme, both you and your employer pay in a percentage of your salary and the combination of that and any investment growth is available for your benefits at retirement. It is hard to think of any situation where it wouldn't be in your interest to join a pension scheme when your employer is also paying into the scheme. Some employers also will pay more in if you pay more. This is worth considering if you can afford it, as the more you save, the more likely you are to be able to continue your lifestyle in retirement.

I will be retiring next year - at the age of 66. Do I need to apply for the State pension or does it kick in automatically?

Peggy, Dingle, Co Kerry

You need to apply for the State pension - it doesn't kick in automatically.

You can get an application form from your local post office, Intreo centre or social welfare office - or you can download it from the Department of Social Protection's website (www.welfare.ie). You should apply for your State pension three months before you reach 66 - or six months beforehand if you have worked abroad and paid social insurance contributions in a different country.

There are rules about the number of PRSI contributions you must have paid to qualify for and get the full State contributory pension (which is now €233.30 per week). If you have worked outside of Ireland, social insurance contributions you have made while abroad may also count towards determining whether or not you will qualify for the full State contributory pension.

If you don't qualify for the full amount, you might be able to qualify for a lower pension.

If you aren't going to qualify for the State contributory pension, you might be able to claim the State non-contributory pension - which is means tested. That pays €219 per week but depends on any other income and assets you might have.

It would be worth checking with the Department of Social Protection now to make sure you know what you are likely to receive. You can call it on 1890 500000.

Email your questions to lmcbride@independent.ie or write to 'Your Questions, The Sunday Independent Business Section, 27-32 Talbot Street, Dublin 1'.

While we will endeavour to place your questions with the most appropriate expert to answer your query, this column is a reader service and is not intended to replace professional advice.

CEO of the Irish Association of Pension Funds

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