Tax relief on pensions savings should be extended to allow for larger retirement funds, according to KPMG. It says inflation, changes in life expectancy and interest rates mean the rules put in place a decade ago are no longer fit for purpose.
It says the current €2 million upper limit on a pension fund for tax relief purposes – the standard fund threshold – should be raised to as much as €3.475 million simply to stand still. The Big Four firm was commenting in the context of the review of the threshold announced last December by Minister for Finance Michael McGrath.
“The €2 million threshold has remained unchanged for a decade. It needs to be rebased to take account of economic, social and demographic changes that have occurred,” the firm says. “Going forward, it will be important that the threshold is rebased on a regular basis.”
The cap on pension savings subject to tax relief was introduced in 2005, originally at €5 million. That was cut after the financial crash to €2.3 million in 2010 and then to €2 million in 2014, with an upper limit of €200,000 on the value of any tax-free lump sum that could be taken on retirement. Designed to allow a maximum annual pension of €60,000, it has remained unchanged since.
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Anything above this €2 million level in the fund is taxed at 40 per cent, with the same money being taxed again when drawn down in retirement that, including universal social charge, means the excess is liable to tax at 68.8 per cent, KPMG notes.
The firm says inflation – as measured by the consumer price index – has jumped 21.5 per cent since 2014, and by 34 per cent if measured by wage inflation. It adds that people are now living, on average, to 83 – two years longer than in 2014.
“In practical terms, this means that an individual’s pension pot will need to stretch over a longer period than was assumed in 2014,” KPMG says. “A failure to adjust the assumptions underlying the calculation of the standard fund threshold to take this into account may leave pensioners short funded at a vulnerable time in their lives.”
KPMG also adds that annuities – guaranteed lifetime income from an insurance company bought with your pension fund – have become more expensive in the intervening decade, and points to ESRI data indicating that a third of those currently aged between 35 and 44 will not be homeowners by the time they retire, adding accommodation costs to financial pressures in retirement.
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All of these factors, it says, mean those pension funds at the standard fund threshold no longer stretch as far as they did 10 years ago.
It says the standard fund threshold should be raised to €3.16 million – if based on the consumer price index – or €3.475 million if assessed against the rise in average national earnings. That would include more than doubling the tax-free lump sum to €460,800 or €500,800, depending on the basis used.
The KPMG report says a rise in the €115,000 salary cap currently used for tax relief on pension contributions will also need to rise to somewhere between €182,000 and €200,000.
It argues that high earners should be able to secure tax relief also on contributions to the pension fund of their spouses “or spousal equivalent”.
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