State to hit pensions again

Limiting tax relief on pensions is on the agenda as preparations intensify to frame the Budget

IT WOULD be exaggerating the point to suggest that accountants are twiddling their thumbs at what is traditionally their busiest time of the year, but there is little of the usual frenetic public exhortation to act now to minimise your exposure to income tax as the deadline for 2011 returns looms.

In part, of course, this is down to the ongoing difficulties in the economy. Recent figures show that six businesses are closing every day and unemployment remains stubbornly high – more than 14 per cent.

But uncertainty is not helping either – especially in the area of pensions. Despite changes over recent years, tax relief on pensions remains one of the most effective ways of reducing your exposure to tax.

But people are nervous. A series of changes in recent years means that these reliefs are not as generous as heretofore. More importantly, the Government has signalled plainly that it sees pension funds as fair game as it seeks to replenish State coffers in an environment where a commitment to Croke Park means it cannot address the bulk of spending (on salaries) in the public sector, and a promise not to interfere with income tax rates gives it little scope to raise the revenue necessary to meet the deficit targets under the State’s bailout programme.

It was for this reason that, when the Government last year outlined a plan to create 100,000 jobs in the economy over the next four years, the chosen method of funding the initiative was the introduction of a levy of 0.6 per cent on private sector pension funds.

Minister for Finance Michael Noonan said this would raise €470 million a year for four years, or €1.9 billion in total.

What was most radical about the initiative was that, for the first time, the Government retrospectively taxed its citizens.

The money targeted had been put aside by tens of thousands of private sector workers to provide for their retirement.

When they chose to lock that money away for up to 40 years, it was on the premise of the prevailing tax regime. And, while changes to pension tax reliefs are not unheard of, never before has the State dipped into funds already invested.

Defending the move, Mr Noonan said the Government was “pulling back a very small proportion” of the tax relief enjoyed by the industry over the years, and accused the pension industry of reacting in a “quasi-hysterical” manner to the levy. Earlier this month, he indicated that pensions were once again on his agenda as he frames the terms of what looks set to be a very tough Budget.

He told a recent Oireachtas Joint Committee on Finance that the troika would like the Government to bring forward proposals on pensions. “So we are considering that among our options,” he said.

The troika has been pressing for amendments to the current regime. In fact, the previous government in its Recovery Plan, set out a path to cut relief on pension contributions from 41 per cent to 34 per cent initially and then to 27 per cent and finally 20 per cent in successive years, bringing relief down to the standard rate of tax. And it was under Brian Lenihan’s watch as minister for finance that relief from PRSI was removed on pension contributions.

However, in last year’s budget, Mr Noonan declined to implement the commitment in the troika bailout programme to reduce relief to 20 per cent.

The pensions industry says such a move would mean an effective increase in taxation of €800 for pension investors and would fatally undermine the system of private pension provision to which successive governments have committed themselves without ever taking the steps necessary to deliver on that commitment.

Of course, the industry itself has little to be proud of. Pension performance over recent years has been brutal. The most recent figures from Rubicon Investment Management show that over the past five years the average annual return on a group managed pension fund has been -1.7 per cent – that’s right, even before the albeit modest impact of inflation, funds have lost about 1.7 per cent of their value every year. Going back to the turn of the Millennium, the annual return has been a distinctly underwhelming 1.3 per cent annually – not enough to offset inflation.

Of course that period has seen two spectacular pension busts in stock market terms – the bursting of the dotcom bubble and the financial sector meltdown that triggered our most recent recession. Property assets in pension funds have also been scarred by the troubles in that sector – in Ireland but also across Europe – in recent years.

The industry will claim that it has fared no worse, or no better, than others in the face of cataclysmic market conditions. The problem is that pension fund investors are paying dearly for their expertise.

This week, the Department of Social Protection – with help from the Central Bank, the Pensions Board (the industry regulator) and PricewaterhouseCoopers – published the first ever study of charges in the Irish pension sector. The good news was that, on average, pension scheme members here were slightly better served than their peers in the UK, at least in group defined contribution (DC) schemes. But that average was compiled from a very wide range of charges.

A DC scheme member saving over 30 years could expect to see charges reduce the value of their fund by up to 17.4 per cent – or €1 in every €6 in the fund.

People with individual pension arrangements fared even worse with charges accounting for between 21 and 31 per cent of the final fund value.

It’s an expensive business – at least for the customer – and better returns might be expected.

As that pensions charges report was being published, the Minister for Social Protection, Joan Burton, suggested that in place of a blanket fall in relief the Government might look to incentivise saving to the extent that it would provide pension income of €60,000 but not above. It remains to be seen what approach will be taken.

For the moment, the existing reliefs are in place. The Government still allows older workers – over the age of 60 – to invest as much as €46,000 from their gross income in their pension fund without paying a penny in tax.

Those with the resources might be advised to act now before the rules change again.

TAKING ADVANTAGE OF TAX RELIEFS AVAILABLE ON INVESTING IN A PENSION: MOVE FAST AS DEADLINE FOR FILING A TAX RETURN FOR 2011 IS APPROACHING

ASSUMING SOMEONE does want to take advantage of what, for the moment, remain reasonably generous reliefs on pension contributions, how do they go about making the most of the opportunity?

DEADLINE

October 31st is the deadline for filing a tax return in relation to the 2011 tax year (you get the benefit of a couple of extra weeks if you are filing online to ROS). By investing a lump sum in your pension before the cut-off date, you can boost the size of your pension pot while also reducing your tax liability in the return for 2011.

HOW MUCH RELIEF CAN I GET?

You can claim relief at your marginal rate of tax – 41 per cent for higher rate taxpayers. You can no longer claim exemption to PRSI or the universal social charge as in previous years.

WHO CAN AVAIL OF THIS?

Anyone, whether they are self-employed or operating under the PAYE system. The money can be invested in an individual pension account or by way of additional voluntary contributions (AVCs).

I’M ALREADY STRUGGLING TO INVEST MY PLANNED AMOUNT IN THE PENSION THIS YEAR. HOW IS THIS ANY ADVANTAGE TO ME?

Access to your tax reliefs for 2011 (and thus the means of lowering your tax bill) expire with the tax return deadline.

You’ll still be able to avail of benefits in relation to 2012 by investing lump sums right up to the deadline for the 2012 tax year, which is at the end of October 2013.

AND ARE THERE ANY LIMITS ON HOW MUCH I CAN PUT AWAY?

There are always limits. In this case, it depends largely on age.

In broad terms, anyone under the age of 30 can get relief on contributions of up to 15 per cent of gross salary.

This rises to 20 per cent for those between the ages of 30 and 40, and to 25 per cent between 40 and 50.

As you get older, the amount of salary invested in pension funds on which you can get relief continues to rise.

Over 50 the proportion increases to 30 per cent, rising to 35 per cent at 55 and 40 per cent at 60.

In reality, few people max out these thresholds, especially when they are juggling mortgage and childcare/education costs in middle age, but the opportunity is there if you have the money.

AND THERE’S NO UPPER THRESHOLD IN ACTUAL EURO?

Well, there is. The percentages listed above relate to a maximum annual salary of €115,000.

Regardless of whether you earn above the amount, if you are, say, 39, you can only get relief on pension contributions of €23,000 (20 per cent of €115,000).

This article was amended to correct an error.