To maximize your pension contributions in Ireland, there are several strategies you can consider of which if used holistically can help build effective long term wealth. Increasing your pension contributions is not only an effective way to boost your retirement income but is also very efficient in minimizing your tax obligations by utilizing the tax breaks available through pensions.
Here are some steps you can take:
Pension Tax Relief
One of the main benefits of contributing to a pension in Ireland is the tax relief you can receive. Contributions to a pension scheme are eligible for tax relief at your marginal rate of tax, subject to the annual limits mentioned below. This means that if you are a higher rate taxpayer and are paying 40% in income tax you can claim back the same amount of tax by way of a pension contribution.
I.e., If you contribute €1,000 to your pension it will only cost you a net amount of €600.
The three essential tax incentives that pensions offer are as follows:
1. Tax relief on contributions – You can claim tax relief on contributions at your higher rate of income tax, 20% tax relief for lower earners and 40% tax relief for higher earners on all pension contributions.
2. Tax free growth – You do not pay tax on investment growth within your pension fund (No CGT, DIRT, or income tax).
3. Tax free lump sum – At retirement, you can take a tax free lump sum up to 25% of your fund when you reach age 60 (and in certain arrangements, age 50) up to a maximum of €200,000. The balance of your fund would then need to be taken as either an Annuity or Approved Retirement Fund (ARF).
Pension Contribution Limits
There are annual limits on the amount you can contribute to your pension while receiving tax relief. Contributions are limited by your age and income level, and full tax relief within these limits may be obtained. The maximum amount of earnings allowable for calculating tax relief is €115,000 per year.
Fiona is 45 and earns €60,000 per year. The maximum she can contribute to her pension is 25% of €60,000, which is €15,000.
In this example, Fiona is in the higher tax bracket, and has a marginal rate of tax at 40%.
This means she can claim 40% tax relief (€6,000) back from the state on all her contributions, and will only being paying a net amount of €9,000, while realizing the total €15,000 contribution into her pension.
Max earnings example:
John is 51 and earns €200,000 per year. The maximum he can contribute is limited to €34,500, that is, 30% of €115,000 (max earnings allowable).
This means she can claim back 40% tax (€13,800) from the state on his total contribution of €34,500.
It’s important to keep updated on any changes to these limits, as they may vary over time.
Employer Pension Schemes
Whether you are an employee or an employer (business owner), it is definitely worthwhile considering contributing to an employer pension scheme. Employer contributions are subject to different contribution limits which are usually much higher than individual limits. This can significantly boost your pension savings especially if you are a key or executive employee in the company.
Employer contributions to occupational pension schemes
Employer contributions to an occupation pension are subject to different contribution limits regarding your earnings, years of service, and current or retained benefits. The maximum pension you can receive from an occupation pension is 2/3 of your final salary where the limit may be higher or lower depending on your years of service.
An example of the max pension contribution through an employer is illustrated using the ‘Ordinary Annual Contribution calculation’ referred to in the below case study.
Employer pension contributions to a PRSA
PRSA’s are becoming a popular option for retirement planning for both employers and employees. As of January 2023, employer contributions to a PRSA do not count as a Benefit in Kind charge. This means that contributions will not attract an income tax charge if your contributions are more than the personal tax relief percentage.
Darragh is 40 and earns €60,000 per year. He contributes 10% of his salary, or €6,000 annually, to his PRSA. His employer contributes 15% of the value of his salary, or €9,000 per year, to his PRSA.
At age 40, Darragh’s tax relief limit is 25%. He can still make an AVC of 15% of his salary to his PRSA.
What is now significant is that “the employer” will now be able to make unlimited BIK free contributions to the PRSA if you are a Company Director and want to extract wealth (profits) from the business without being taxed on them. Contributions will, therefore, not be limited by salary and service rules and full tax relief can be taken on the contribution in the year it is paid!
If your employer does not offer you a pension scheme or if you want to contribute additional funds, you can set up a private pension. There are two main types of personal pension plans available in Ireland, such as Personal Retirement Savings Accounts (PRSA) or Self-Employed Retirement Annuity Contracts (RACs).
Technically, employers are required by law to provide staff access to at least one Standard PRSA. It is designed to allow for flexibility when it comes to saving for your retirement and is set up as a contract between you and a pension provider. Tax Relief is available on the contributions you make towards your PRSA or RAC similar to the pension contribution limits mentioned above.
Speak with a financial advisor to determine the best option for your circumstances.
Additional Voluntary Contributions (AVC)
Consider additional voluntary contributions (AVCs): If you have a workplace pension scheme, you may have the option to make additional voluntary contributions on top of your regular contributions. AVC’s allow you to make further contributions to your pension, which can further enhance your retirement savings (refer back to the Employer PRSA example above).
Backdating Pension Contributions
Take advantage of backdating contributions. This is particularly relevant if you have unused pension contribution allowances or an income tax bill outstanding for the previous tax year, in which you want to reduce that tax owed to Revenue.
Before filing your next income tax return, take advantage of backdating tax relief to the previous year by making a lump sum pension contribution (using the pension tax relief calculation above). The contribution usually needs to be made by 31 October each year.
This is available for the self-employed, business owners, and PAYE workers. For PAYE workers or schedule E employees, this can be done by way of an Additional Voluntary Contributions (AVC) or a PRSA.
It is important to review your pension regularly to ensure it aligns with your financial goals and retirement plan. This can involve monitoring your contributions, investment structure and performance, fees and charges, and any changes in legislation to ensure that your pension is not negatively impacted.
It’s always advisable to consult with a financial advisor who can provide up-to-date and personalized advice based on your specific situation and individual circumstances.
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