Most sensible people give an occasional thought to their eventual old age. Those of us who fall out of bed every morning to face another busy day sometimes cannot help but envy friends who have retired and are free to fill their day any way they choose. While not wishing our lives away, we sometimes think how nice it would be to have the freedom simply to potter about, pursue our hobbies, spend three days per week on the golf course or go anywhere we want, whenever we want.
With no more rush-hour traffic, ringing phones or deadlines to meet, retirement seems like one enormous holiday, and so it should – that’s the whole point. But there is one aspect of retirement that is a major concern for most of us and that is the thorny subject of how we will manage financially when we no longer have a steady wage coming in.
While the state-provided old age pension will keep the wolf from the door, it will not provide for life’s little luxuries and it is certainly not enough to allow us to enjoy our freedom as we wish.
The obvious solution is to make some provision during our working lives in order to create a nest egg for the future and to this end people have different ways of approaching the problem. Some invest in property, such as second or third houses let out to provide rental income. The self-employed may build a business that they can either sell or from which they continue to receive a residual income even when they are no longer working.
The vast majority of us, however, simply do not have those options available. For many, the most convenient method of creating a worthwhile retirement income is to make regular contributions into a pension plan. Given the substantial tax breaks involved, this can be a very attractive proposition, even for those who are also creating funds through other channels.
The purpose of this article is not to explore every technical highway and byway of pension planning, rather it is merely to highlight that this is an issue we all need to address and that an easy solution is readily available. Hopefully the following FAQs will help to clarify the salient points and dispel some of the myths.
What is a pension plan?
It is nothing more than a regular savings programme managed by an authorised financial institution such as a life assurance company. If you got your head around the SSIAs, then a pension plan is a piece of cake. You choose whether you wish to make your contributions on a monthly, quarterly, half-yearly or annual basis. You choose what level of contribution you are comfortable making, complete the Direct Debit mandate and that’s it.
The point is that a pension plan is not some hugely complicated investment instrument that will involve you in all manner of financial wheeling and dealing, brown envelopes, uncomfortable encounters with the revenue commissioners or regular trips to the Cayman Islands.
What are the tax allowances?
You get full tax relief (at your highest rate) and PRSI relief on all of your contributions up to a pretty generous limit. For example, a person under 30 can contribute up to 15% of their taxable earnings and get full relief on every cent. The tax relief limits increase with age.
But that’s not all. Your fund is managed in a tax shelter and as such is not subject to DIRT or capital gains tax, no matter what level of growth it achieves.
Furthermore, on retirement, you can withdraw a quarter of your total fund as a tax-free lump sum and the balance can then be used to provide you with a regular pension for life.
How do personal and occupational plans differ?
The principle is the same – save regularly, watch it grow and have a decent pension to look forward to. The main difference is in the method of making the contributions. A personal pension plan is very simple and is designed for the self-employed sole trader or professional and for PAYE workers who are in non-pensionable employment.
An occupational or company scheme is aimed at directors of limited companies and employees for whom an in-house pension is a perk of the job.
Admittedly this is a slight simplification, but if you have an option of going with one or the other a broker will help you choose which is right for you.
Can I make withdrawals from the fund whenever I wish?
The generous tax allowances are given to encourage people to save for their retirement years and the rule is that a pension plan can be used for that purpose alone. So the answer is ‘no’; you cannot access your fund to buy cars, diamond earrings, flat-screen TVs or anything else, until the age of 60.
This does not mean that you actually have to retire in order to start receiving your pension benefits. You must begin to accept your pension sometime between the ages of 60 and 70 but you can continue working if you so wish.
What if I die before I retire?
The full value of your fund, at the time of your death, is paid into your estate as a tax-free lump sum.
What am I committing myself to?
Absolutely nothing. People sometimes worry that contributing to a pension is like taking on a mortgage and that if they sign up to making a particular level of contribution each month, they are committed to doing so for the rest of their working lives. Rest assured, your contributions are flexible. You can raise or lower them to suit changing circumstances. You can even suspend them or take a contribution holiday if you hit a bump in the road.
Any other good news?
Well, there are all kinds of extra benefits that you can build into your pension plan. It can include life assurance, illness benefits and income replacement during times of sickness or injury. You can insure your contributions so that they continue to be paid for you while absent from work through illness and you can even arrange to have your pension pass to your spouse if they outlive you in retirement.
So, whether you are self-employed or in employment, it is worth exploring what a pension plan can do to lower your taxes and provide for a happy and prosperous retirement. If you would like to receive further information without obligation, we have a number of independent advisors available.