Tax plan looks to raise relief on large lump sums
THE Commission on Taxation is set to court controversy by proposing generous tax arrangements for those in a position to take a large lump sum from their pension when they retire.
The changes in pensions tax relief proposed by the Commission on Taxation mean that 'fat cats' will be able to retire with a lump sum of €1.12m.
At the moment someone with the largest pension pot allowed for tax purposes can take a tax- free lump sum of €1.35m. But the commission is proposing that anyone with a private pension will be able to take a tax-free lump sum of up to €200,000.
In addition, it is proposed that the remainder be taxed at just 20pc, and not the marginal rate of 41pc. This would mean that those with the maximum pension pot allowed for tax purposes would find it hugely advantageous to take a lump sum out of their pension fund.
Currently, someone with a personal pension can accumulate a maximum pension fund for tax purposes of €5.4m. This is known as the standard threshold.
A quarter of the standard threshold can be taken out tax free on retirement.
This means that for those with the maximum-sized pension funds, a tax-free lump sum can be taken of up to €1.35m.
Those in defined benefit pension can take one-and-a-half times their final salary as a tax-free lump sum.
The commission is proposing that this is changed so that only €200,000 can be taken out as a tax-free lump sum.
The remainder -- which is a quarter of the fund in the case of personal pensions or one and a half times' final salary for defined benefit pensions -- would be taxed at 20pc.
This would mean that those with the largest pensions would no longer get a tax-free lump sum of €1.35m.
Instead they would get €200,000 tax free. They would then pay tax of 20pc on €1.15m, which works out at a tax payment of €230,000, to leave €920,000. Combining the tax-free €200,000 amount with the after-tax lump sum amount would work out at €1.12m for those with maximum-sized pensions. The commission has reasoned that the generous lump sum arrangements would go some way to making up for the fact that higher-rate taxpayers would get less tax relief, if its proposals are implemented.
This is because the commission wants, in the medium to long term, to lower the tax relief to around 30pc for those paying tax at the higher or marginal rate.
Currently, higher-rate taxpayers can claim relief at 41pc and claim back the health levy (4pc) and PRSI (4pc). This means for every €100 in pension, the net cost is €51.
But the pensions relief rate proposed by the commission would mean middle-income earners would be less inclined to put money into a pension as they would get relief of just 30pc but taxed at 41p, plus levies and PRSI, when they draw it down.
The commission is also advocating that it would be easier for those in defined contribution pensions to transfer their pension fund into an approved retirement fund (ARF).
Currently it is easiest for those with PRSAs, executive pensions and AVCs, among others, to put pension money into an ARF.
- Charlie Weston Personal Finance Editor
