Contradictions at heart of pension system highlighted

ANALYSIS: Report makes some very welcome suggestions on how this dated system can be improved

THE CONTRADICTION at the heart of Government policy on pensions is highlighted in the commission review of options for tax relief on pensions.

Stating that a proposal to allow relief on all pension contributions at the higher income tax rate had “considerable merit”, the report says it would act as a strong incentive to those on lower incomes to start saving for their retirement while not disincentivising higher earners who have been used to receiving relief at the 41 per cent rate.

It would also meet one of the commission’s key criteria in being “equitable”. However, it felt ultimately unable to recommend the approach because of the potential cost. The killer blow in terms of cost would emerge from a related proposal to introduce auto-enrolment, a “soft mandatory approach to push up the number of people with private pension coverage by automatically signing everyone up to an employment-based pension scheme with the option to opt out at some point”. Auto-enrolment would account for €590 million of the €756 million estimated annual cost of the proposal, according to figures provided by the Department of Finance.

Cost versus coverage has been the battle that has effectively paralysed reform of the Irish pension system in the 11 years since the National Pensions Policy Initiative set as a target private pension coverage for 70 per cent of the workforce over 30.

In the interim, coverage for this group has inched up to 62 per cent, a figure which is skewed significantly by the near blanket coverage for workers in the public sector which has spread over the period.

It is now four years since the publication of the National Pensions Review – an exercise that was brought forward by then minister Séamus Brennan, so urgent was the perceived need for reform. A subsequent Green Paper has now languished through the tenure of a number of social and family affairs ministers.

To be fair, the Commission on Taxation makes clear that its remit extends only to determining how the tax system might best encourage long-term savings to meet the needs of retirement and to examining existing tax expenditure in the area for the economic and social benefits it delivers and whether such benefits justify their continuation.

The authors of the report make clear that the tax system alone cannot address the shortcomings of the pension system, although it is a necessary part of any solution.

And they do make some very welcome suggestions. Chief among these may be the suggestion that the flexibility existing in Approved Retirement Fund schemes – where people are not tied into a sometime inappropriate annuity contract at the point of retirement – should be extended to defined-contribution occupational schemes.

If we now accept the future shape of the industry will revolve around such defined-contribution schemes – rather than the more traditional “promise to pay” defined-benefit model – pension scheme members need to retain reasonable flexibility in the approach to retirement income.

Other proposals, such as a cap on the size of lump sums on retirement that can be exempt from taxation are inevitable and there are several proposals actively targeting savings from lower income groups.

However, it remains the case that successive reports, including this one, see no way of achieving the Government’s stated policy of extended pension coverage without some form of mandatory coverage – and the Department of Finance continues to hold the line against the cost of such a scheme. Indeed, contrary to the stated aim of the commission’s report – that tax reform should be revenue neutral – the only measures introduced in recent times by the Government have seen it cap exchequer exposure to wealthier citizens’ pension coverage without spending that money on the lower earners it purports to target.