Thursday 27 October 2016

The three steps to saving enough into your pension

Set a target, make a plan and make the most of all the available tax breaks

Published 25/10/2015 | 02:30

Having a private pension offers more cash to survive on rather than relying solely on the state pension
Having a private pension offers more cash to survive on rather than relying solely on the state pension

The recent recession prompted many people to put off starting a pension - while others stopped paying into their pensions altogether because they simply could not afford to save.

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It makes sense to pay into a private pension. Doing so means you won't have to survive on the State pension of €233 a week when you retire - assuming you're eligible for it. Pensions are also one of the most tax-efficient ways of saving money - particularly for higher-rate taxpayers. Every €100 you pay into a pension will only cost you €60 if you're a higher-rate taxpayer - or €80 if you pay tax at the standard 20pc rate.

Now that the economy appears to be getting back on its feet, it could be the ideal time to make up for those lost years of saving into a pension. So how would you go about doing that?

Step 1: Set your target

Before deciding how much you should save into a pension, set your target - that is, what kind of income do you want when you retire? Most pension advisers recommend you aim to have an annual income equivalent to between 50pc and 66pc of your final salary on retirement.

Step 2: Save to hit your target

Let's say you're on a salary of €50,000 and you want to retire on a pension equivalent to two-thirds of that salary. That would give you a retirement income of €33,000. You haven't yet started to pay into a pension. You expect to retire at the age of 68. The amount you must save to hit your pension target will depend on your age.

A 20-year-old would need to save €683 a month - which would cost €433 after tax relief - to secure a pension of €33,000 a year, according to the Pensions Authority. A 30-year-old would need to save €963 a month - or €629 after tax relief - to hit the same target. A 35-year-old would need to save €1,171 a month - or €838 after tax relief. A 40-year-old would need to save €1,358 - or €942 after tax relief. A 50-year-old would need to save €2,367 a month - or €1,867 after tax relief. A 55-year-old would need to save €3,488 a month - or €2,926 after tax relief.

Unless you're realistic about the amount you're saving into your pension, you'll be shocked come retirement date. For example, let's say you're 35 years old and you have just started paying into a pension. You're paying 5pc of your €50,000 salary into your pension - and your boss isn't paying any contributions. At that rate, you'd only have a pension equivalent to about €16,000 a year by the time you retire - and that includes the State pension. So you'd have to survive on a pension of about €300 a week (before tax).

Step 3: Get all your tax breaks

Take full advantage of the tax breaks on pensions when saving for your retirement.

You can get tax relief on pension contributions at your highest rate of income tax - but you cannot claim relief for PRSI or the Universal Social Charge. This means you can claim back 20pc or 40pc of your pension contributions in tax relief, depending on the rate of tax you pay. There are limits to the amount of tax relief you can get on your pension contributions, depending on your age and earnings. It makes sense not to exceed those limits - but to increase your contributions once you reach an age that entitles you to a greater amount of tax relief.

Those under 30 can get tax relief on pension contributions equivalent to no more than 15pc of their earnings. Those aged between 30 and 39 can get tax relief on contributions of up to 20pc of their earnings. This rises to 25pc for those aged between 40 and 49; 30pc for those aged between 50 and 54; 35pc for those aged between 55 and 59; and 40pc for those aged 60 or over. Furthermore, there is a €115,000 cap on the maximum annual earnings that pensions tax relief can be claimed on. This means you could put €46,000 worth of pension contributions into your pension a year once you turn 60 - and get tax relief on all of those contributions.

Should you save more than €46,000 a year into your pension when aged 60 or older, you won't get tax relief on all your pension contributions that year but you may be able to apply for tax relief on these contributions in the future - or you could backdate the relief. "You can backdate your pension contributions for one year," said Jim Connolly, head of pensions with Standard Life. "This means that you could put €92,000 of pension contributions (which qualify for full tax relief) into your pension pot in 2015 - if you can afford it and salary permitting."

Self-employed individuals and others who are busy filing their tax return ahead of this October's tax deadline still have time to make a contribution to their pension - and chop their tax bill as a result.

"You can make a once-off contribution to your pension around the time of your tax return," said Eoin McGee, chief executive of Prosperous Financial Planning. "If you are self-employed, once the tax year [which is the calendar year] finishes, you have until October of the new year to file last year's return. At any point before you file your return, you can make a payment into a pension plan and claim it against the previous year. This is not just for the self-employed - PAYE workers can also make a contribution this year in respect of last year before they do a return."

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