Pensions, More Than Just About the Tax Breaks!
It’s not yet too late to make your pension contribution for 2017
With the self-assessment income tax deadline extended for online filing until midnight on the 16th of November this year, for many self-employed people a pension contribution remains high on the agenda and is usually fuelled by the significant tax reliefs associated with pension contributions.
While I am never one to shirk away from a client wishing to make a pension contribution, I do need to remind my clients constantly that while there are significant tax savings to be made by contributing to a pension, they need to look beyond this alone as the deciding factor and take the long-term view that there is more to building a pension pot than just the tax breaks.
Pensions appear to most as a very complex area, unnecessarily so in my opinion. However, in an endeavour to simplify things I find it useful to have my clients think of them as long-term, tax efficient savings accounts that will give you an income when you are no longer working.
While many people cite confusion as a reason not to start a pension I have no doubt in saying at this stage that most people are aware to some level of the tax benefits of pension planning. Apart from the obvious need to secure your lifestyle in retirement; are the tax benefits the only reason you would think that pensions are useful, or do you think there are other reasons to start or continue your pension planning?
The tax benefits of pension planning are not to be dismissed:
- Full tax relief available at your marginal rate on contributions (20% or 40%).
- Your fund grows free of tax with the benefit of compounding (no DIRT, CGT etc.)
- A portion of your fund can be taken as a tax free lump sum at retirement.
- Tax efficient wealth transfer to your estate on death of your remaining fund if you choose the ARF (Approved Retirement Fund) option at retirement.
- Aside from the generous tax relief, there are many other factors that make pension planning important and necessary.
Increased life expectancy and the longer wait for the State Pension
Life expectancy has been increasing steadily in Ireland and is now into our 80’s with estimations that those born of recent may reach average life expectancy beyond 100! While this is undoubtedly good news, the downside is that it means the need for a larger nest egg can tarnish the shine of our golden years as more and more people will now be retired for 25+ years.
When you consider your current lifestyle and the lifestyle you would ultimately desire in retirement, what size pension fund would you need to maintain your lifestyle for that period? Most people seriously underestimate the size of the fund they required to maintain them over such a long period of time.
The only reaction to the facts of increased longevity by our government has been to raise the retirement rate with an increase to the state retirement age to 66, which began in 2014, and this will increase to 67 from 2021 and 68 from 2028.
These changes in comparison to pre-2014 entitlements mean that you have lost out on 3 years State Pension (approximately about €36,000 in today’s terms). If you are planning on retiring at age 65 or before, you will need to fund for the lack of state benefits for these years yourself.
Chances are; that If you are 25 years old today and you think the state will provide you with a pension when you retire, you should expect to be working until you are in your 70’s.
All this is of course dependent on a large assumption that there will be a State Pension by then, given that the current pensioner support ratio is currently close to 5 workers for every retiree and expected to be around 2 workers for every retiree by 2050.
When it comes to planning your own future financial security, it is important to take matters into your own hands and as with most things in life, you must make it happen.
While I may be biased, you cannot underestimate the value of the advice that a Real Independent Financial Planner (i.e. one who works for you and not a financial institution or a bank) can provide you when it comes to the bigger picture financial decisions in your life.