Financial Planning Insights October 2013
Budget 2014 - Pension Update
Head of Retirement Solutions
FOR FINANCIAL ADVISORS ONLY
Pension changes for 2014 as outlined in yesterday’s Budget speech suggest that the new pensions taxation regime is now settling down after a period of much uncertainty since the concept of a capped pension fund threshold was first introduced in December 2005.
The Minister yesterday announced details of the tax structure changes required to support the €60,000 pa. maximum pension figure announced in last year’s budget speech. This is good news for financial brokers and pension consultants who may now get on with the job of planning efficient retirement funding and drawdown strategies for pension fund investors.
SUMMARY OF CHANGES
Standard Fund Threshold (SFT)
The Standard Fund Threshold (SFT) is reduced from €2.3M to €2.0M with effect from 1st January 2014. Penalty tax at an effective rate of 65% in addition to PRSI / USC applies to funds in excess of SFT.
Defined Benefit (DB) Conversion Factors
Current DB to SFT conversion factor is 20:1. This factor will continue in respect of all DB pensions crystallised up to 1st January 2014 and also to DB benefits accrued up to this date but crystallised after 1st January 2014. DB benefits accrued after 1st January 2014 will convert at new conversion factors ranging from 37:1 for retirements at age 50 or below to 22:1 for retirements at age 70 and over.
Existing pension levy of 0.6% of pre- retirement funds will continue for 2014 and will be abolished thereafter. However, an additional pension levy of 0.15% of funds within the same legal framework has been introduced for 2014 and 2015. The new levy is to further assist job creation and to make provision for potential state liabilities in the event of pre – existing and future pension fund difficulties. In effect, this means that aggregate levy will now be 0.75% instead of 0.6% for 2014 and 0.15% instead of zero for 2015.
Likely impact of changes to Standard Fund Threshold (SFT) and DB conversion factors
The impact on Defined Contribution (DC) pension planning is that all pre - retirement clients are negatively impacted by €300k in terms of future scope to maximise tax efficient retirement funding. The following review points are relevant:
- Reduced threshold will not take effect until 1st January 2014 – so where funds are available it makes sense to evaluate scope for additional funding from now until year end.
- No reductions in earnings cap of €115k for individual contributions (including AVCs) and opportunity still open for contributions against 2012 and 2013 tax liabilities. Marginal tax relief remains at 41% for both years.
- Employer maximum funding remains highly attractive with opportunities for once off special contributions which do not attract USC or PRSI.
- Maximum retirement lump sum drawdown will decrease from 1st January 2014 from €575k (25% of current SFT) to €500k (25% of new SFT). The first €200k remains tax free with balance of lump sum (up to €375k until 1st January 2014) taxable at an attractive flat rate of 20%. Where funds exceed €2M early drawdown options should be investigated and may avoid levies in 2014 and 2015. If early drawdown is not an option, then a Pension Fund Threshold (PFT) should be applied for, following publication of Finance Bill.
- What is position on death prior to retirement drawdown. Are funds payable to estate or will spouse annuity purchase be required? What transfer options are available?
The impact on DB pension planning is that benefit position now needs to be considered at 1st January 2014 and at likely subsequent retirement date. The following review points are relevant:
- For example client aged 52 on salary of €120,000 has 30/60ths years pension accrued in DB scheme on 1st January 2014 and has AVCs of €240k. Retirement age is scheduled for age 62 after 40 years of service. DB conversion factor at age 62 is announced as 28:1. Assuming zero future salary increase and no further AVC growth then value of retirement fund at age 62 will be €60K x 20 = €1,200k (accrued pre 2014) plus €20k x 28 = €560k (accrued post 2014) plus €240K (AVCs) = €2M. This means that any salary increase or growth in AVC fund is likely to bring client into penalty tax territory. Pension funding review and pension scheme exit strategy needs to be reviewed.
- AVC funding should be revisited. Opportunities to consider refund less tax / USC of up to 30% of AVC fund and possible replacement with after tax investment strategy.
- Again need to consider early retirement of funds relating to previous employments - transfer of same to post retirement vehicles means that future growth will not count for SFT purposes and funds may avoid future pension levies.
- Will PFT application be required post Finance Bill?
- Is DB scheme likely to be still in place by scheduled retirement age. If not should transfer be considered now?
- What is position on death prior to retirement drawdown?
We feel that yesterday’s budget signals a return to stability in terms of pension taxation and reopens the door to meaningful tax based retirement planning.
Please click here for additional Important Information
The information discussed in this article does not purport to be comprehensive or all inclusive. It does not constitute an offer for the purchase or sale of any financial instrument, trading strategy, product or service. No one receiving this email should treat any of its contents as constituting advice or a personal recommendation. It does not take into account the investment objectives or financial situation of any particular person.