Two myths about our unfair pensions system

If there were no State pension, over 200,000 older people in Ireland today would rely on their families to support them financially; and a significant number of older people – with no children or other close family – would be destitute or reliant on the kindness of strangers.

A number of major reports (OECD, McKinsey) have judged Ireland’s pension system to be unsustainable. This is not just about the State pension but includes occupational and private pensions too. Serious reforms are needed to prevent widespread pension failure that would turn the clock back to a scenario where the elderly have to rely on their families to survive – with a huge loss of autonomy for all concerned.

The central question is how to ensure everyone has an adequate income in retirement so they can meet their basic needs. Crucially, pension policy has to strike a balance between holding us individually responsible and redistributing wealth. However, successive administrations have been unwilling to tackle powerful vested interests.

As it stands, occupational pensions are in decline – or go bust. Individuals are being given more and more responsibility to fend for themselves, while economic reality means that they have very little ability to save to the extent required to provide themselves with an adequate income in retirement.

Standard of living

The explicit goal of policy should be to ensure everyone can meet a minimum essential standard of living in retirement. That means an income sufficient to meet basic physical, psychological and social needs. For a single person over 65 that currently means spending about €310 per week – or €16,120 per year – not including housing costs (budgeting.ie). This compares to the maximum contributory State pension of €233 per week or the means-tested non-contributory state pension of €219 per week.

Currently, generous tax breaks mostly benefit people who will have a retirement income well over the minimum essential level, while they do little for those who will rely exclusively on the State pension on retirement because they will not receive an occupational pension and cannot afford to save for an additional personal pension. Those wholly reliant on the State pension are also least likely to have inherited wealth.

The current regime of tax breaks – costing over €1.5 billion in 2014 according to Revenue – should be greatly curtailed, so that they cease to be available once someone has saved enough to provide an adequate level of retirement income. This would generate much of the resources needed to strengthen the State pension.

One way to restructure the pension tax break would be to give everyone a fixed, lifetime supply of pension-linked tax credits, a proportion of which can be used in any one year. An assessment by actuaries and accountants would provide the evidence for how much money one needs to top up the State pension in order to provide oneself with an adequate retirement income.

Beyond that, tax breaks are unfair as they allow a minority of people to enjoy much higher pension incomes by paying less than their fair share of taxes.

There are two myths that are used to defend the inequitable status quo. First, the myth that people pay the full price for their pensions. In fact, although they are making contributions, very few people cover the full cost. Social insurance contributions are too low to cover the full benefit of the State pension, levies towards public service pensions do not cover their full cost and tax breaks for personal pensions savings are a major subsidy – paid for by other citizens.

Citizens pay

In reality, the State pension, public service pensions and tax breaks are paid for annually, from tax and social insurance receipts. Each generation pays for the one that came before. If ever the economy declines too much, or there are too many demands on the system, the level of pension coverage will simply fall – as we saw with the cuts that followed the 2008 economic crisis.

The second myth is that the tax breaks are “deferred” taxes, because pension incomes are subject to income tax. This is wholly untrue for the vast majority of people as the money that goes into providing a lump sum on retirement– up to €200,000 – is never taxed, and even when taxes are paid on pension incomes, much of the tax will be covered by tax credits or paid at the standard rate of 20 per cent, not the higher rate.

Yet most of the tax break is given on income that would have otherwise been liable for the 40 per cent rate. In other words, it is mostly a tax giveaway, a small proportion of which is recovered by taxing the highest retirement incomes.

Where the buck stops

It should hopefully be clear that all pension policy is underpinned by the public purse to a great extent, including personal and occupational pensions. As such, we need to ask far more searching questions about how fair is the redistribution of wealth involved.

Everyone should have a minimum adequate income when they come to a point in life when they are unable to work. Ireland has the resources and the opportunity to create a much fairer pension system to achieve just that. But the Government needs to take on powerful vested interests in the pensions industry and loud voices from those on the highest incomes who benefit most from the current, inequitable and unsustainable pension system.

Dr Nat O’Connor is a lecturer in Ulster University and a member of UU’s Institute for Research in Social Sciences