The most wide-ranging changes ever proposed for pensions in Ireland were announced by the Government earlier this year. The Roadmap for Pensions Reform 2018-2023 comprises six strands which cover everything from the State pension to the validity of a compulsory retirement age.
While the proposals in the roadmap in relation to an auto-enrolment pension have received a warm reception generally, there are some concerns in relation to affordability, as noted by KPMG pensions actuary Joanne Roche.
“Affordability of pension contributions for both employees and employers, particularly those employers with no pension scheme in operation currently, will represent a very significant headwind in the years ahead,” she says. “Small and medium enterprises in particular are worried about the double whammy facing them over the years 2022-2028, whereby for the first time they will need to contribute on behalf of staff under the new auto-enrolment scheme. The proposed rates ratchet up very quickly such that a 6 per cent contribution is payable by year six. At the same time, the same firms may be facing pay demands by staff struggling to afford the required employee contributions under the system.”
After years of dithering and prevarication, Ireland is to get an auto-enrolment retirement saving system to encourage employees to provide for additional retirement income to supplement the State pension. The Government has committed to the scheme by 2022, fully 15 years after the concept was first mooted.
Joanne Roche agrees that the relief should be retained. “We recommend that the current pension tax relief system is retained for the non auto-enrolment group of savers, whether under occupational schemes or personal pension products,” she says.
“With regard to the question of how any financial incentive system and existing marginal relief system may operate in the future, we are of the opinion that two potentially viable options exist. One is a new and distinct ‘financial incentive’ for the new cohort of pension savers enrolled through automatic-enrolment, which could sit side by side with the existing system, which would remain unchanged. The other is to apply a Government contribution of say €1 for every €4 contributed to all pensions at source and permit higher-rate taxpayers to claim additional relief in their tax returns.”
“We recommend that the current pension tax relief system is retained for the non auto-enrolment group of savers, whether under occupational schemes or personal pension products,” she says.
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Tax relief plays a significant role in affording people the chance to fund their pension “but people need to be aware of how to maximise the tax relief available”, says Eoghan Quigley of KPMG.
“The actual level of tax relief on pension contributions is restricted to certain limits and where you do not contribute the maximum amount for tax relief purposes on an annual basis, the balance does not roll forward to a year when you are in a healthier financial position – it’s a use-it-or-lose-it regime. One of the challenges individuals face is the competing demands that are placed on income at different points during a career and that it is not always possible for people to fund their pension on an annual basis.”
The maximum annual pension contribution allowable for tax relief purposes is calculated as a percentage of earnings (with a maximum earnings level of €115,000) and the percentage is set by reference to your age.
For example, an individual under 30 years can claim tax relief on contributions of up to 15 per cent of their earnings. This increases, with the maximum contribution percentage being 40 per cent for individuals aged 60 and over.
Tax relief is granted at the marginal rate so for maximum tax efficiency you should contribute up to the point of receiving higher-rate relief only, currently 40 per cent. For example, where a 60-year-old earns more than €115,000 and contributes the maximum amount based on age, the maximum pension contribution for tax relief purposes is €46,000. For a higher-rate taxpayer, the tax relief is €18,400.
Certain sportspersons under the 50-years-of-age category are permitted to contribute at 30 per cent “This is welcome as it reflects the precarious nature of the occupation and the potentially stronger earnings level at different stages in a sportspersons career. However, for the rest of the pension population, the age-related limits are not aligned with the real costs of funding even a modest level of pension in retirement,” says Quigley.
“We have recently advocated to Government that the design of limits placed on tax relief for funding pensions should take a whole-of-working-life approach – supporting higher provision earlier in the working life if the taxpayer is in a position to fund, as well as in a ‘lumpy fashion’ throughout the working life as the individual’s financial resources and life stages allow.”
Ireland currently has one of the largest pension gaps in the OECD, lagging only behind the UK, which has already put an auto-enrolment (AE) scheme in place. AE will be introduced in Ireland in 2022.
Great demands will be placed on SMEs, and entrepreneurs in particular, in the years ahead. Two thirds of private-sector workers have no pension arrangements currently and most of those are in SMEs, Joanne Roche, director, KPMG says.
“This group will be most impacted by the funding requirements under the auto-enrolment, which ratchet up very quickly over the six years starting in 2022.
“In practice, the competing financial demands of funding the business are likely to mean that the entrepreneur begins to make pension provision, or at least meaningful pension provision, at a later stage in their working life than an employee. In those instances, the tax system needs to cater for late and lumpy pension contributions. The current age-related limits on employee contributions are restrictive in that regard,” she says.
She advocates a “whole-of-life” approach to pension tax relief, in other words, “if you don’t use it, you will not lose it” when it comes to tax relief on pension contributions.
The dissemination of information around pensions is also vital, if the bridge is to be gapped, Roche says.
“Given the relative immaturity of the ARF [approved retirement fund] market and associated advice propositions to date, there is an opportunity to develop and roll out high-quality, low-cost advice to the mass market. This could be done through an independent State-sponsored body such as the Citizens Information Board.
“As Ireland’s population ages and individuals retire out of defined contribution schemes, an increasing number of individuals need good-quality and low-cost advice on their retirement options. This includes advice on the most appropriate investment choices and the taxation implications of choices.
“We recognise that the question of providing adequate advice to consumers is a challenging one to address. Even if the future pension environment is more streamlined, with a reduced number of products, there is a risk that those consumers most in need of advice may seek it least and affordability is an issue.
“Many consumers who do not understand the differences between products will have a need for information on various product choices and when each can come into play for them through early, middle and late retirement phases as their needs evolve,” she says.
KPMG partner Eoghan Quigley points out, “In practice, the competing financial demands of funding the business are likely to mean that entrepreneurs begin to make pension provision, or at least meaningful pension provision, at a later stage in their working life than an employee. There are design features of the supplementary pension regime that are at risk of adversely affecting entrepreneurship and more generally those with atypical careers.”
In particular, the rules around tax relief mitigate against entrepreneurs and others catching up later in life or, indeed, making earlier provision. “The age-related limits which set maximum allowable amounts are not aligned with the real costs of funding even a modest level of pension in retirement,” Quigley continues.
“They should be adjusted to support higher contributions at an early stage in the working life if the individual’s financial resources allow. Also, there is no facility to carry back unused relief which does not support funding contributions in a ‘lumpy fashion’.”
With the Government proposing major reform of the pension process, professionals give their views on the future of retirement funding.
The future of pensions in Ireland has become an increasingly thorny issue, due to challenges of an ageing population that’s living longer, the gradual demise of defined-benefit (DB) schemes and the future arrival of an auto-enrolment pension system. It’s a topic with a lot to digest, and below we’ve asked representatives from four companies and institutes for their perspective on the challenges the pension question poses.
Joanne Roche, Director, KPMG Ireland explains “One of the main challenges we foresee is the need for the roll-out of good-quality, low-cost advice to individual pension savers. With the increasing proliferation of DC [defined contribution] schemes, the shift is towards an onus on the individual to manage his/her own fund from an investment and taxation perspective. The level of responsibility will depend on the product chosen through early, middle, and late retirement, reinforcing the need for quality advice.
“By contrast, in occupational defined-benefit schemes, which are increasingly the preserve of the lucky few, the oversight and investment management role is taken by trustees, with a largely predictable pension income.
“Separately, the funding challenge for the State, employer, employees and self-employed is ever-present and well-documented. One sector for whom headwinds will be felt strongly is the small- and medium-enterprise sector. The proposed contribution requirements under auto-enrolment for employers and staff are set to pose additional financial pressure on this already challenged segment.
“In our response to the recent Government consultation, we advocated for the design of a tax system flexible enough to accommodate the needs of entrepreneurs and those with atypical career structures for whom pension funding occurs in a ‘lumpy’ fashion. This group needs a ‘you don’t use it, you don’t lose it’ approach to pension tax relief at their marginal rates. While auto-enrolment is expected to be challenging to implement, international experience shows it will result in increased engagement and better retirement outcomes for those not yet engaged with pensions.”
An abridged version of this interview originally appeared in The Irish Times and is reproduced with their kind permission.