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Category : Pensions

5 reasons it’s time to review your pension

At the start of a new year and as outlined in our other article this month, we all tend to take stock of how we manage our finances. We look at our financial habits, ways of saving money and managing our spending better. This is also a great time of year to take a hard look at our retirement planning, to ensure it is in the best shape possible.

Here goes on five reasons why we think it’s a good time now to do so.

 

The State Pension picture is far from rosy

Where do we start on this one! There is a lot of uncertainty over the long term viability of the state pension due to the fact that the ratio of people working compared to retired people is reducing from 5 to 1 today, to 2 working to 1 retired by 2050. As the numbers of those working reduces in relation to the numbers of pensioners receiving benefits, there will be less money coming in to the central government coffers, with more going out. Who is going to pay for the benefits, as the government actually hasn’t saved any money for future pensions?

In any event you can’t rely on the state if you want any more than a subsistence lifestyle.  The maximum state (contributory) pension is currently €243.30 per week for a single person and €442.30 per week for a couple. While this will increase marginally from March 2019 as announced in the most recent budget, it’s not a lot of money if you fancy going on the odd holiday!

The state is looking to address this problem – we’ve already seen retirement dates and eligibility for state pensions pushed out. For anyone born in 1961 or later, they won’t get their state pension until age 68. We’re likely to see further such developments in the future. Could we possibly see retirement ages being pushed out further again, benefits being reduced / means tested or stricter qualifying conditions? Nothing can be ruled out.

The government has recently announced a move towards mandatory pensions to also help address the situation, so watch this space… The reality is that it’s up to each of us individually to look after our own retirement needs, if we want a nice lifestyle to enjoy later in life.

 

Life Expectancy

We’re all living longer now and can thank our healthier lifestyles, better diets and medical science for this! While this is certainly good news, it also comes with a price. If you live longer, you need a bigger nest egg to see you through these years. Savings in retirement will need to last on average for at least 20 years in retirement for female clients who are aged 66 and 17 years for males when they retire, based on current mortality rates. Indeed more and more people will now be retired for 30 – 35 years. What size of pension fund would you need to maintain your lifestyle for that period? Many people seriously under-estimate the size of their required fund to maintain a chosen lifestyle over such a long period of time.

 

It’s time to take Control

Well it’s probably quite obvious but the longer that you pay into a pension fund, the more you can expect to receive when you retire and the more likely you are to achieve your financial goals. Be realistic about how much it will take to achieve your goals. As a very rough rule of thumb, you should aim to save “half your age”. So if you are 40 years old, you should aim to save 20% of your income each year from now until retirement to build up a decent fund. If you wait until you are aged 50 to start, you should then aim to save 25% of your income each year.

Of course, this is only a rough calculation. We will help you develop a far more tailored picture for you, taking account of any existing benefits that you have already built up, and will help you to implement a plan that is right for your particular circumstances.

 

Compound interest is your friend

The “Rule of 72” is a simple maths equation to determine how long an investment will take to double, given a fixed annual rate of interest. All that you have to do is divide 72 by the expected rate of return. The answer is the number of years it will take for the amount of money to double.

  • If you are aiming for a return of (say) 8% p.a., it will take 9 years for your investment to double (72/8% = 9 years)
  • However if you are more cautious, you may only be aiming for a return of (say) 3% p.a. In this case it will take 24 years for your investment to double (72/3% = 24 years).

So starting early, having the opportunity to take on a bit more risk in the hope of achieving higher returns and then having the benefit of time can have a seriously positive impact on your pension fund. It really is a case of starting sooner rather than later.

Then there’s the question of how to achieve higher growth rates. First of all, a long-term perspective is critical, particularly if you are investing in the likes of stock markets. For example, according to historical records, the average annual return for the S&P 500 since its inception in 1928 to 2017 is approximately 10% p.a. Now there have been a number of crashes along the way and of course previous returns are not a guide to future performance, but they give a sense of what can be achieved over a long timeframe when one is willing to accept a level of risk.

 

And then there’s the Tax Benefits

Clients who are paying income tax at the higher rate of 40%, effectively receive a 66% increase on their pension contribution when investing, i.e. by foregoing €6,000 in net pay, €10,000 is invested in your pension. Pensions are pretty much the final frontier for such generous tax reliefs. Also any contributions paid before 31 October next can be used to reduce your 2018 tax bill. This applies to contributions to personal pension plans (e.g. PRSAs, Retirement Annuity Contracts) and employment pension schemes (i.e. AVCs – Additional Voluntary Contributions).

In addition to tax relief on contributions and your fund growing free of any tax (DIRT, CGT etc.), clients can also avail of a tax free retirement lump sum up to €200K. In most circumstances, a structure (Approved Retirement Fund – ARF) can also be put in place at retirement that enables tax efficient wealth transfer on death to your estate of any remaining fund.

 

There’s 5 good reasons to review your pension now. Please give us a call and let us help you achieve the lifestyle that you want in retirement.

Is it time to save regularly for your retirement?

Paying tax bills can be a challenging time for both business owners and sole traders alike. Of course if your business is very successful, tax is simply an expense that needs to be met when your tax payment deadline rolls around. However, there are also many small enterprises that don’t enjoy the comfort of high levels of excess cashflow. For these businesses, the tax payment deadline can be a stressful time, gathering all expenses together and working with your accountant to identify ways in which you can legitimately reduce your tax liability.

Pension contributions are rightly viewed as one of the most effective ways of reducing your tax liability. The challenge is often having the spare cashflow to make that pension contribution while also being able to meet your tax payment! And as a result, the pension contribution often gets reduced or indeed removed in order to meet the tax liability. The unintended consequence of this is that your retirement plans and future lifestyle are now at risk.

So what’s the alternative?

The approach that many sole traders and business owners take to overcome this problem is to make pension contributions regularly (usually monthly) throughout the year, rather than leaving the pension contribution until the last minute. This approach has a number of advantages.

 

You’re putting yourself at the top of the queue

Leaving your pension contribution until the end of the year results in this payment being based effectively on money available, rather than your retirement plans. The outcome is often a reduced pension contribution and when this happens, the loser is your future self. Your retirement plan is being paid after everybody else, putting you right at the back of your cashflow queue.

The alternative is to work with us on identifying a sustainable regular amount. By then making this contribution regularly each month, you have accelerated yourself to the top of the queue, putting your future self before other expenses. After a while, this simply becomes another regular expense of the business (like your rent, salaries, power and other monthly payments) but now you are truly working for yourself and not just to pay other people’s bills.

 

Life is easier at year end

Consider an individual business owner who wants to put aside €20,000 – €25,000 into a pension plan each year. That is quite a significant amount to find at year end at the same time that your tax bill is due. The alternative is to pay maybe €1,500 per month into a pension plan. At the end of the year, you are then only looking to find the balancing amount of €2,000 – €7,000. If your company has had a very good year, a larger balancing pension payment might also be possible.

Yes, by adopting this monthly payment approach you are increasing the regular overhead of the business. But you are doing this now with your own interests at heart. The flip side of this coin is in how you are making life so much easier for yourself at the end of the year, when your tax payment is also due.

You also need to consider though your options in case your business goes through a difficult period. We always advocate flexible retirement plans that enable you to change your regular contribution amounts or indeed take a break from them if needed. We want you to fully look after your future self, but we also recognise that you can’t do this while blindly ignoring your current business environment.

 

You gain from Euro Cost Averaging

Making a single payment each year increases your investment risk. We never suggest that you should try and time the markets and indeed investment risk works both ways – sometimes you gain and sometimes you lose. But the situation that you want to avoid is being up against a deadline (for example the tax deadline) to make a pension contribution at a time when you feel uncomfortable with the investment conditions.

Making a regular contribution significantly reduces this risk. If markets have been performing poorly, well then you are buying in when prices are low – just where you want them to be when you are entering the market. Of course if instead markets have been steaming ahead and you have a nagging doubt that they may be near their peak, they are now relatively expensive. With a monthly contribution, you are now only committing one twelfth of your full year’s pension contribution into the market at that time, rather than potentially the full amount. So in effect your regular payment strategy is smoothing your entry points into the market and as a result reducing your investment risk.

 

We all like to avoid incurring more regular expenses in our business. However this is one instance where it makes sense. Because you’re bringing yourself to the top of the queue.

 

We would welcome the opportunity to discuss your own pension contribution strategy – please give us a call and we will help you to put your future self first.

Retirement Planning is about more than money

When you think of retirement, what do you think about? Is it those additional games of golf, spending a few months every year in the sun and lots of time with the grandkids? Or instead do you think about your pension fund and silently worry that you might not have enough money to do all the things that you want to do?

Yes, we recognise the important role that we play in minimising that financial worry and helping you to build up a pension fund that will allow you to live your life in retirement on your own terms. We do this with clients every day and to be honest, this is “meat and drink” to us! However we also recognise how important it is for us to help you to take a much more holistic view of retirement, and that is our focus here.

So let’s assume that together we’ve done the best job possible on the financial side and that you have the financial means to live your life to the full in retirement. What else do you need to think about?

 

Being together fulltime

Think about it – day one of your retirement. You wake up, not to the sound of the alarm clock but at your leisure. Your spouse who has been at home fulltime for the last few years is busy about his/her usual routine. Where do you fit in?

There are of course many ways to approach this. The wrong way is probably to just assume everything is now changed because you’re around! Instead you need to recognise that your partner may love their routine and don’t want this changed too much. Equally they need to be aware of the momentous shift in your life, and that you may struggle for a while to build your own new routine, both of your own activities and hopefully shared activities.

This is not the time for the “bull in a china shop” approach! Instead awareness of each other’s space, routines and hopes for the future together are crucial. The key to this is talking about it and working through it together.

 

Long days

The thinking around this needs to begin long before retirement. The working day, including your commuting time often punched in 11 or 12 hours every day. That’s a lot of time to fill now, so how are you going to do it? Are you going to play lots of golf? Are you going to study or do voluntary work? Are you going to spend time out and about visiting all those places you’d been promising to see, but never had the time?

Have a plan and fill as many of your days as possible with activities that interest you and make you feel good about yourself. Keep your mind and body active. Your life will be one long day after another if you end up falling asleep in front of afternoon TV shows!

 

Mind your health

The simple task of getting up and going to work was good for your health, often followed by some exercise in the evenings. Now is the time to increase the focus on healthy habits, not cut back on them. You have more time now to exercise than ever before, so use it. That might be golf, it might be a brisk walk or a visit to the local gym – the instructors there will devise a fitness programme suitable for you.

Apart from the physical benefits, this will also be very important for your mental health. Physical exercise makes you feel better about yourself, so reap the rewards both physically and mentally.

Stay aware of maintaining your mental fitness too. Spend time with friends, do the crossword, read and study. Stay sharp.

With more time on your hands, you also have the opportunity to spend more time preparing healthier meals for yourself. The excuse of another takeaway because you’re late home just won’t wash anymore! Make good food a hobby – taking the time to get fresh, healthy ingredients and then spending a bit of time on food preparation.

 

Remember your value

You have so much to offer in terms of experience, expertise and time. Some people can retire with a perceived loss of value. Previously a company and colleagues relied upon you, and now that is gone. All that actually needs to change here though is that previously you were paid for your time and expertise, while now you can still offer this but maybe without payment. You will do it on your terms, only in areas that interest you, at times that suit you and in ways that make you feel good about yourself. You will add enormous value, whether that’s to a voluntary organisation, coaching a sports team or mentoring less experienced business owners.

 

Having your finances in order is very important for a happy and satisfying retirement. But it’s the other factors that will make you feel good about yourself and will help you live your life to the full for many years to come.

What’s the story with SME’s and pension schemes?

Small & Medium Enterprises (SME’s) and pensions schemes… they don’t appear too often in the same sentence! Pensions are a real issue for employees working in these small businesses and a headache for their employers. So what is the current situation and what needs to be done?

 

Pension coverage is at historically low levels

With the economic crash, pension coverage levels fell dramatically in Ireland. At the end of 2005, 56% of the working population in Ireland were in pensions schemes. Roll on a decade later and this figure had fallen to just 46%.

However these figures include public servants who we know are all included in pension schemes. So when you look at the private sector only in Ireland, the coverage figure at the end of 2015 is a lowly 33%.

We also know that almost all large employers in the private sector have pension schemes for their employees, which in turn means that pension coverage for SME workers is a lot less than this one third figure…

 

Do SME workers need pensions?

The answer to this is a resounding yes! The maximum state contributory pension for someone aged under 80 in Ireland today is €238.30 per week. While politicians like to increase this figure, it is becoming ever more difficult to do so. Unfortunately old age pensions and pensions for public servants are paid out of tax receipts; there is no pot of money that has been saved to pay for these. Today there are approx. 5 people working (and paying tax) for every retired person (taking money from central funds). But by 2040 this ratio will have halved, so there will be less money coming in and more going out.

Old age pension rates are very unlikely to ever provide more than subsistence benefit levels. Workers need to plan their retirements themselves.

 

Why is the problem so acute among SME’s?

There are a number of reasons for this, and all of them valid. However that fact doesn’t make the problem go away…

First of all, many SME businesses started from nothing. Many started in the owner’s kitchen or garage, as they pursued their wish or need to build a business themselves. Taking earnings out of the business was a challenge in itself, never mind funding a pension! Employees were then hired as needed, often pushing the earnings of the owner back again for a period of time until the new employee became productive. Funding pensions remained down the priority list. If the owner didn’t have a pension scheme, the employees were unlikely to have one either.

Then as SME’s moved on to a more sound footing, why were pension schemes not introduced? Some of the reason may be down to the increased flexibility that exists within SME businesses. The owner decides how much will be paid to an employee in total – usually he / she will be happy for the employee to decide the split between salary and pension. More often than not, the employee wants to maximise income today, so they take all of their earnings as salary. So part of the reason is down to choices made by employees in SME businesses. Corporates on the other hand are much more rigid. When you join a large organisation and agree a salary figure, you are also automatically enrolled in the pension scheme. You’re not given the option to opt out of the pension scheme and take the money as cash instead.

We also know that SME businesses were very hard hit during the economic crash as they don’t tend to have deep pockets or wealthy shareholders behind them. As a result, they slashed costs in their businesses simply to survive. Pension contributions were one of these costs.

 

So what needs to be done?

Unfortunately the problem is not going to go away for employees in SME businesses. There are a few stakeholders to bringing about change.

Employers in SME businesses need to start thinking a bit more like large companies. Pensions are a social requirement for workers today. They are doing a disservice to employees to look after them while working, but to then effectively set them adrift in their later years. SME employers often also underestimate the value of pensions in recruiting the best people into their businesses and then retaining them. Pension schemes are a really important and valued employee benefit.

Employees need to take ownership themselves too. This is not their employer’s problem. If employees want more than simply eking out an existence in retirement, they need to take some pain today. This is either in the form of lower earnings and a pension contribution by their employer, or saving for retirement themselves.

The state has a role to play too. First of all, tax relief must continue to play an important role in encouraging people to save for retirement. However more needs to be done… And this may be in the form of mandatory pensions, where employers are obliged to provide pensions for their employees. This system operates in a many countries around the world, and is currently being studied by policy makers in Ireland. Watch this space – you’re going to hear a lot of discussion about auto-enrolment in pension schemes in the coming years.

 

If you are an SME owner or an employee and want to start taking control of this issue yourself before being forced by auto-enrolment, give us a call. We’ll be delighted to guide you.

What’s all this talk about auto enrolment in pension schemes?

You might have heard references in the media to “universal pensions” and to “auto enrolment” of employees in pension schemes. So we thought it might be useful to give you some thoughts about our thinking on these concepts.

 

What are universal pensions and auto enrolment?

Universal pensions are pretty much what it says on the tin. It is a concept of every adult (or at least every working adult) having retirement savings in place to help fund their old age, when they are no longer working.

Auto enrolment is a similar concept, but this time aimed at all employers who would be obliged to include all of their employees in a pension scheme. At the moment, some do and many don’t. An employee would automatically have to be included in a pension scheme by their employer, with contributions paid by the employer, the employee and the state (via some form of tax relief). The employee could then choose to opt out if he/she so wished.

 

Why might auto enrolment be introduced?

Because Ireland has a looming retirement crisis. State old age pensions, which provide subsistence level benefits only, are likely to be under significant pressure in the future as they are paid out of current tax revenues – there are no savings in place to pay them. So today’s workers pay tax, which funds the payments to pensioners today. Currently there are 5 people working for every pensioner. However this rate will halve by 2040. There will be less money coming in and more going out – the cost of state pensions are increasing by approx. €200m each year.

So the government has a problem and needs people to save for their retirement themselves. And this challenge is only getting bigger too, as a result of the collapse of the economy. In 2009, private pension coverage in Ireland (those with pension funding in place) was 51.2% of workers. However by the end of 2015, this figure had fallen to 46.7% coverage. When you look at the private sector alone (excluding all public servants), coverage levels are down at less than one third of employees. So the issue is that under the current voluntary system, a great proportion of workers simply don’t (or are unable to) make provision for their future needs. The government has articulated that auto enrolment is the main plank of a potential solution to driving up coverage levels.

 

When might it be introduced?

This is the big question! Auto enrolment is certainly a number of years away as it’s one of those nettles that successive governments have failed to grasp. However it appears to now be on the horizon within the Dept. of Social Protection. There’s no doubt that it will take some time to design a scheme, gain agreement with all social partners and then implement the scheme. Maybe we’ll see it in the early 2020’s?

 

Is auto enrolment the way to go?

First of all, Ireland is not the only country with this ageing population and retirement challenge. Auto enrolment has been introduced successfully in a number of countries around the world, and as recently as 2012 in the UK. As a result, pension coverage in the UK jumped from 47% in 2012 (similar to our coverage today) to 66% last year. So the results have been very encouraging there and in other countries such as Australia, New Zealand and Singapore.

The benefit also of following these countries is that there are also lessons to be learned from mistakes that they made. Any system that is introduced needs to minimise the administrative burden for employers. Any new system also needs to avoid a “race to the bottom” where employers with good pension schemes in place for employees might reduce benefits to the minimum allowed under auto enrolment.

 

How will it impact you?

We work hard with all of clients, encouraging structured retirement planning. After all, our goal is to help you to live the life that you want to live, without money being an insurmountable hurdle. Retirement planning is central to the achievement of this goal. So if you’re following a structured retirement plan, then auto enrolment will not impact you at all as it is aimed at people with no retirement funding in place. If you have no pension funding in place, auto enrolment will get you started, through your employer setting up a scheme.

But waiting for auto enrolment is not the answer. This has been one of the biggest political cans kicked down the road by successive governments. Don’t risk your future waiting for this to stop. Come and talk to us and we’ll help you to start taking control of your financial future in retirement.

How much control do you have of your retirement plan?

The government, pension providers and financial advisers such as us expend quite a bit of time and energy encouraging individuals to take control of their retirement planning. After all, we’re all becoming more aware of the folly of relying on the state if we want to maintain even a half decent lifestyle in retirement.

But how much control can you actually take of your own retirement planning? We recently came across a really interesting piece of research from JP Morgan (Guide to Retirement – 2016 Edition) in USA that explored this topic, and we are now adding our own thoughts to this.

There are some factors over which you have full control, some for which you can influence but don’t have full control and finally there are some factors over which you have no control at all. We’ll examine these in turn and how we can help you with each of the factors.

You’ve full control

While your earnings potential may limit your financial resources available for retirement purposes, you retain control over how your money is allocated. Do you live for today and worry about tomorrow when it comes around? Or do you live frugally today with the view to being able to kick back early and in style in later years? Of course most of us are somewhere in the middle, but the balance of how much to spend and how must to save is our own to decide.

Similarly we each have control of how our money is invested. Do we lock it down in a savings mechanism that is 100% guaranteed but that will not achieve any meaningful growth, or are we willing to take some risk with the aim of greater reward over the long-term? The decision is yours.

Of course we will help you in both of these areas. We’ll guide you towards getting the balance right between living today while planning for tomorrow, and also getting the right risk adjusted portfolio in place to enable you to achieve your goals.

You have partial control

Then there are factors that you can influence, but where you don’t have full control. The first is in relation to your earnings power. Yes you can work longer hours and harder, increase your qualifications and work until later in life. All of these are likely to increase your lifetime earnings and capacity to save. But you don’t have full control over these. Some companies unfortunately close down, many have standard retirement ages and sometimes the value of qualifications is not fully rewarded. Some will assist you in your retirement planning, some won’t. So you can influence the level and duration of your retirement savings, but without full control.

Likewise you can influence how long you will spend in retirement. Live life as a hell raiser today and the chances are you won’t last very long! But if you eat well and look after yourself, you are increasing your chances of a long retirement. But of course none of us have full control over our health. The increasing longevity that we are seeing is a huge challenge for retirement planning. It is accepted wisdom that the first person to live to be 150 years old has been born – that person will need some retirement fund to see them through retirement!

We can help you clarify your own situation with regards to these factors. We’ll help you to look at your employee benefits and make the best financial decisions around these. We’ll also help you to understand the impact your potential longevity will have on your retirement plan.

You’ve no control

And then there are factors over which you have no control. Governments set policy; they decide the levels of tax relief available for retirement planning, the size of funds allowed and other important factors. You’ve no control over these (outside of your vote!) and must just plan within these constraints.

And then there are investment markets. Sometimes these change with alarming speed and with no warning – just look at the short-term turmoil that Brext caused! Again you have no control over these macro factors.

But on the other hand we can help a lot here. We can make sure you are maximising the opportunities available in our pensions system today and also as policy changes, that your approach to retirement planning remains the best way. We also don’t have any control over markets. But what we can do is make sure that you have a risk appropriate, diversified retirement portfolio in place.

 

At the end of the day, you have some control over your future. With our help you can give yourself the very best chance of dealing with all of these factors, whether you have control or not.

Do Irish Pensioners Get a Raw Deal?

We received quite a number of comments after the article in our last newsletter about Ireland’s future €440bn state pension issue. A number of our readers were shocked about the size of the problem facing the country.

They were also shocked that this problem is not being faced up to at all by politicians of any hue; it really is an enormous can being kicked down the road to be dealt with by future generations. And this begs one big question – are our expectations of what the state provides (or should provide) too high in comparison to other countries?

So we’ve examined this issue from two different perspectives before drawing some conclusions. First of all we look at some figures that were released at the end of 2015 by McKinsey that compared “pensioner poverty” levels in different countries. The second perspective is how much we have to pay while we’re working, to actually qualify for a state pension.

Poor pensioners or golden oldies?

How do the over 65’s in Ireland compare to other countries? A measure that is used to compare the wealth of pensioners in different countries is to look at the percentage of over 65’s who have an income that is below half of the national median household income. These people are considered to be living in pensioner poverty.

This research found that on average 12.6% of pensioners in OECD countries are living in income poverty. The graph below shows that the Netherlands is the best place to be a pensioner – only 2% of their pensioners live in income poverty. At the other end of the scale, you don’t want to be retired in South Korea, where half of all pensioners live in poverty.

Ireland fares pretty well on this measure, with less that 7% of pensioners living in income poverty, placing us as a strong performer. This is far better than the UK at over 13%, and a good number of our European partners.

But of course this begs the question; with a €440bn future liability, how can we afford to be performing so well here?

pensioner poverty (1)

But what’s the cost?

This is maybe where reality bites a little… We also looked at OECD figures that show how many years you have to contribute towards your state pension (through PRSI in Ireland) in order to qualify for the maximum available state pension. And guess what? Ireland is top of the charts here – with workers having to contribute an average of 48 contributions per year for 43 years to qualify for the maximum state entitlement! In the UK, you have to contribute for 35 years, in Australia for 10 years only.

Now it has to be said that the pension amounts in Ireland are actually quite generous. Currently the state pension is €233.30 per week in Ireland as compared to the equivalent of €197 in the UK.

The question of course again is – can we afford these levels of old age pensions? The answer unfortunately is no.

In Ireland you also need a minimum of 10 year’s contributions to qualify for any contributory state pension at all. Of course if you don’t have this, you might qualify for a means tested old age pension.

So where does this leave us now?

Well with the huge future liability being faced by the state, we’re certainly not going to see any reduction in the number of years you need to contribute to PRSI, in order to get a full state pension. We can (or should?) also expect to see a reduction in the amount of state pension payable – Ireland just can’t afford to be near the top of the class here! But this will take lots of political courage…

What we are more likely to see is gradual, further increases in the qualifying age for the state pension and greater incentives to help people financially plan for their retirement themselves. This is likely to include an element of mandatory private pensions in the future.

We’re constantly tuned into this changing landscape on your behalf. We’ll monitor the impacts that any changes in state pensions will have on your own retirement plan, and will help you alter your plan accordingly. At the end of the day, our goal is the same as yours – to help you live the life you want to live when you retire.

What’s the Problem with Ireland’s State Pension System?

Ireland needs €440bn to address its pensions problem. Now has that got your attention? Particularly when you compare this to our National Debt figure, a (not so) meagre figure of €208bn that gets so much attention, and was such an important input into the policies of all of the parties in in the recent election.

The reason the pensions figure gets so little attention is because it is tomorrow’s problem, not today’s. But we can’t escape the fact that €440bn is the “hidden” state liability for public servant pensions and the shortfall in the Social Insurance Fund, which is used to pay old age pensions. If nothing changes, this money will have to be found in the future to pay all of our old state pensions and the pensions of all our public servants.

So how have we got here?

Changing demographics is a significant cause

There are a number of demographic factors that are exacerbating the problem in Ireland. Today we have 5 workers for every pensioner. These workers pay PRSI, which goes towards the payment of the pensions mentioned above, and even at this, the full cost of those pensions is not covered. However Ireland is ageing and by 2050, there will only be 2 workers for every pensioner. Which means much less PRSI going in, and much more pensions coming out. It just doesn’t add up.

And apart from this, we’re all living longer. In fact it is anticipated that 20% of people in their 30’s today will live to see 100 years of age! So pensions will need to be paid for longer.

So what’s being done about it?

Well, not enough really… There were some attempts made; the National Pensions Reserve Fund was set up to address this issue and had built up to a healthy €22bn. But this was then emptied to help address the economic collapse.

The qualifying age for the state pension has also been pushed out to 67 from 2021 and 68 from 2028. This is definitely a step in the right direction but not enough on its own.

Unfortunately it is estimated that the state pension needs to be reduced by 35% to become sustainable. Now what about all those election promises to raise the old age pension….


So what needs to be done?

Well if you found the above depressing, I’m afraid it gets no cheerier! But if we want a sustainable economy into the future, solutions such as the following will need to be implemented.

  1. State benefits will need to reduce. Both for state old age pensions and for public servants. They are simply unsustainable. Rather than cut benefits, could we instead increase PRSI? Well we could, but it would take a brave politician to do so! And any increase in PRSI contributions would impact the economy and would limit the ability to introduce other measures to boost savings. There are simply no easy choices here.
  2. We will all need to save more for retirement. As old age pensions decrease, we will need to personally make up the shortfall if we want to avoid poverty in retirement. At the moment in Ireland, it is estimated that 29% of working households are on track to retire without a significant adjustment in their lifestyles. Should old age pensions fall by 35%, this figure will increase to 52% of households. To avoid this negative adjustment in our lifestyles, we simply need to save more.
  3. Employers will need to play their part in helping to address the problem. Some form of auto-enrolment in a pension scheme, where both the employer and the employee pays is probably inevitable too. Yes people will always be able to opt out. However the default position should be that every worker is automatically included in a pension scheme.
  4. The progression from work to retirement will change. The days of the gold watch on your 65th birthday are gone. Instead we will see people easing into retirement over a period of time. People in their 60’s and their 70’s will continue to work, albeit working reduced hours. So careers will change as people work for longer and also work differently into the future.

And the biggest issue is that the longer we take in making these hard choices, the worse the problem gets. We simply can’t afford this €440bn problem.

Are pensions only good for tax breaks?

I think it’s true to say at this stage that most people are aware at some level of the significant tax benefits of pension planning. However, apart from obviously securing your lifestyle in retirement, are the tax benefits the only reason that pensions are good for you, or are there other reasons to start or continue your pension planning?

Quick recap of the tax benefits

The tax benefits of pension planning are significant and except for high earners, have been left relatively untouched. The main benefits (within certain limits) are;

  • Full tax relief available at your marginal rate on contributions
  • Your fund grows free of tax (no DIRT, CGT etc.)
  • A portion of your fund can be taken tax free at retirement
  • A structure can be put in place at retirement (Approved Retirement Fund – ARF), which enables tax efficient wealth transfer to your estate on death with any remaining fund.

However there are many other factors that make pension planning very attractive. Here are a few factors that increase the need for pensions, followed by an opportunity that is available to many self-employed individuals and company directors that passes some people by.

Life expectancy

Life expectancy has been increasing steadily in Ireland and is now 78 years for males and 82 for females. While this is undoubtedly good news, unfortunately it means that we will all need a bigger nest egg to see us through our golden years. More and more people will now be retired for 25-30 years. What size pension fund would you need to maintain your lifestyle for that period? Many people seriously under-estimate the size of their required fund to maintain a chosen lifestyle over such a long period of time.

State pension rates not increasing

Unfortunately long gone are the days when the annual budget heralded a small increase in the state contributory pension in line with inflation. In fact there hasn’t been an increase since 2009, with it currently stubbornly stuck at €230 per week and little prospect of an increase coming any time soon… Indeed in recent budgets, we saw a further whittling away of benefits enjoyed by pensioners, with more restricted access to medical cards and the removal of the phone allowance etc. This basically devalues the pension every year, making it even more important for people to carry out their own retirement planning.

Waiting longer for the State pension

One of the cutbacks in recent years, which received little attention, was the pushing out of the State pension age from 65 to 68, in instalments. The first cut happened in January 2014 – since then individuals have to be aged at least 66 to qualify for the Pension. From now on it increases in instalments to 68, depending on when you were born. The bottom line is that if you were born after 1960, the changes in comparison to pre-2014 mean that you have lost out on 3 years State Pension (say about €36,000 in today’s terms) or 2 years (say about €24,000) if you’re self employed. So if you are still planning on retiring at age 65 or before, you will have to fund for this lack of state benefits for these years yourself. A pension plan is probably the most appropriate and tax efficient way to do so.

And now for that opportunity!

Employing your spouse and gaining valuable tax and pension benefits

If you work for yourself but your spouse currently doesn’t work in the business, it may make financial sense for him or her to get involved in the business. There are a number of tax and pension planning advantages in your spouse working in your business in return for a taxable income:

  • As a married couple with two incomes, up to €67,600 of taxable income is subject to standard rate tax, but the limit for a married couple with one income is just €42,800. This means more of your total income is taxed at a lower rate if you are both working.
  • If you’re in a partnership or your business is a company, your spouse’s employment by your business may be insurable for PRSI purposes, which means he or she may qualify for a State Pension, or for a higher pension, in their own right in respect to these additional PRSI contributions.
  • The business may be able to set up an employer pension arrangement for him or her, and any contributions the business pays into it will be tax deductible as a business expense, within certain limits, without causing a Benefit in Kind for your spouse. Some or all of this retirement fund could be taken tax free by your spouse when he or she retires, subject to certain restrictions.

The Need for Advice

These are just a few thoughts on the value of pensions, over and above the much heralded tax benefits. Pensions are a very complex area, unnecessarily so in our opinion! As a result, it is our job as an adviser to clarify and find the right solution for clients. Please give us a call to help us find the right pension solution for you.

Budget 2015 – Good or Bad News for Pensions?

So Budget 2015 has come and gone and everyone is now getting a little clearer about the impact that it will have on his or her income. Of course the budget is about a lot more than income tax and USC rates though, so we’ve taken a look at how Budget 2015 will impact an area that is close to our hearts – your pension fund and future pension planning.

So let’s take a look at all of the impacts;

 

Some areas of “no change”

First of all, there were a large number of areas that remained untouched in the budget in relation to pensions. The main ones of note are;

 

  • Marginal Rate Tax Relief: This is the one we always breathe the biggest sigh of relief about! The government have wisely continued the allowance of tax relief at your marginal (highest) rate on your pension contributions. This is really important to encourage people to save for their future.
  • Tax Relief Contribution Amounts: There are no changes to the percentage amount of your income that you can attract tax relief on, in respect of pension contributions. This percentage amount is driven by your age.
  • Net Relevant Earnings Limit: The percentage amount identified above is then applied to your income, in determining your individual maximum pension contribution that is allowable for tax relief. However there is a limit of €115,000 of your income or “Net Relevant Earnings” that can be used in calculating the maximum contribution allowable.
  • Standard Fund Threshold: This is effectively a cap on the size of pension fund that you are allowed to build up. There was no change to this in Budget 2015, the limit remains at €2m.

 

The Dreaded Pension Levy

The pension levy attracted a huge amount of commentary prior to the budget. This was an extremely penal levy applied to pension funds that was introduced in 2011. At that stage, the exchequer took 0.6% of the value of everyone’s private pension funds to fund jobs initiatives. This was then increased to 0.75% for 2014.

The good news is that the government have stuck to their promise of reducing the levy to 0.15% in 2015, and then totally abolishing it at the end of 2015.

This levy was really bad news for pension holders and was seen as a very unjust way for the government to raise revenue. First of all, there was a belief that it unfairly impacted private sector workers as the levy applied to all of their pension funds, unlike public sector workers. And secondly, on the one hand the government wants everyone to take responsibility and provide financially for themselves in retirement, and then they turn around and raid your savings!

While the percentage amounts might appear small, they really add up. If you ignore any investment gains or losses, a pension fund of €100,000 at 30th June 2011 will have been reduced by €2,700 as a result of the levy, by the time it ends in 2015. Good riddance to the pension levy!

 

Changes in income tax rates and USC rates

The top rate of income tax is reducing from 41% to 40% (good news), while USC rates are changing – reducing at the lower levels and increasing for earnings in excess of €70,000 and again for earnings in excess of €100,000 for self employed people.

Income tax relief is allowable on pension contributions. However there is no relief from USC. As a result of the reduction in income tax rates and the increase in USC rates, the effective tax relief on pension contributions for higher rate tax payers is reduced by about 2%.

What does this mean for you? Well, if you are a higher rate taxpayer and are in a position to make a personal / AVC lump sum payment to your pension, you are better off doing this in 2014 and indeed you can backdate this against 2013 taxes if paid before the Pay & File deadline.

 

So our overall verdict is that this was a good budget for pensions because of the reduction in the pension levy from 1st January next. Thankfully approved pension products remain as the most tax advantageous method of looking after your financial challenges in your later years.