Definition of Madness...

Here we are again, the start of a new year.

What can we expect in 2011; we know about the Budgetary changes, we know there will be an election & we know that there will be a new government.

However we are still in a state of flux with our economy and planning 3-5 years out remains difficult. I suspect most of the general public are looking at their current financial situation & at a minimum are looking to learn from the past. Less consumer debt, more saving etc …

Clients we meet are far more aware of their financial world and what represents value for money. Despite this, the majority of the Irish public continue to invest with fund managers who average negative returns over 3 and 5 years. The average managed fund return is -4.1% per annum over the past three years. The five year returns to the end of December are mostly negative, with an average return of -0.6% per annum over this period.

This begs the question: where is the value for money in this relationship, particularly with an average annual management charge of 1% per annum?

Everyone is aware of the well worn definition of madness, doing the same thing but expecting different results. This also applies to pensions!

Michael Keyes

The Fund Cap - read the fine print

The 2011 Budget was clearly focused on getting our financial house in order. I think everyone accepts that pain was inevitable and we are all happy to grin and bear it if the pain is distributed equitably.

However in some instances the budget fails in this regard.

A classic example is in relation to the new Fund Threshold of €2.3m. On first glance this appears equitable. It applies to all benefits whether public sector or private sector or whether defined benefit or defined contribution.

However the devil as they say is in the detail.

For private sector workers with defined contribution benefits it is easy enough to apply the cap – the capital value of their fund is whatever it is worth at the relevant time. For public sector workers things are slightly more complicated. Because their benefits aren’t funded in advance their entitlements are generally expressed in income rather than capital terms. Thus a public servant retiring on a salary of €200,000 will typically have an entitlement to a pension of €100,000 per annum increasing in line with earnings.

What is the equivalent fund value?

The government takes a simple approach and simply says multiply the benefit by 20. Thus the official value of this benefit is €2m and the limit isn’t breached.

However this approach undervalues the cost of the benefit.

Under the funding table published by the Revenue in relation to private sector workers a factor of 32.4 applies to a male age 60 with an entitlement to a spouses benefit. This would generate a value of €3.24m for the public servants pension.

In practice however the Revenue table is only designed to capture normal private sector benefits. In particular it doesn’t have the ability to capture a pension benefit that has the potential to increase in the future in line with earnings. In practice this is a much more expensive benefit and would result in a conversion factor of 40.

Thus the market value of this public servants pension is €4m.

This may seem like an incidental matter. However the overall value of this concession to this civil servant is €697,000.

When all other tax breaks are being closed down it may seem strange to see the government creating a new one. But then the only people that will benefit from this are senior civil servants and government Ministers.

Aidan McLoughlin

Creditor protection of ARFs

Recently various commentators have made the argument that ARFs do not enjoy protection against creditors because ARF funds are personally owned property of the individual and not protected by trust law. I recently saw this view forwarded by the Pensions Ombudsman and (too) readily accepted by commentators.

Whatever about the accuracy of this idea – ARFs can also be established under trust and enjoy protection of trust law – I find it baffling that commentators without discussion willingly accept that providing for retirement in good times is an idea which may be challenged by your creditors when things get bad.

Compare the regime protecting an individual’s transfer of assets to the spouse. Such transactions are, subject to certain criteria, protected by the courts. They are even encouraged by legislation as there is no CAT and no stamp duty. One has got to ask oneself why funds that you set aside for the honourable purpose of not being a burden to the State in retirement shouldn’t be protected while funds siphoned off to the missus is. I don’t see any reason for this.

And whatever the media may want to make you believe, there is no Irish case law to confirm that creditors may come after ARF funds, not even the recent Brendan Murtagh case. In that case it is reported that Mr Murtagh’s lawyers without argument made his ARF funds available to pay his debts.

The ARF regime is an innovative way of dealing with the annuity problem. Why commentators are so willing to sacrifice it when there are many laudable reasons to protect it, is beyond me but then again, the insurance industry never liked ARFs. I also think that the argument is fundamentally flawed. ARFs are protected, subject to certain conditions.

Tommy Nielsen

Budget 2010 – Good for some?

Much will be written over the next few days on the details of the budget. However it is sometimes useful to stand back and take a wider view of matters. What will the long lasting impact of this budget be?

The first impression that comes to mind for me is – an opportunity lost.

Everyone accepts that we needed to alter our finances to put things on a more stable footing.

However the opportunity to make some long-lasting changes appears to have been missed. The measures on pensions, property and employment smack of short term raids and incentives rather than a longer term realignment of priorities, broadening of the tax base and control of expenditures.

The second thought that strikes me is – can you ever trust the government again? Those that invested in a vast array of tax incentives are seeing those tax breaks ended prematurely with the promised relief curtailed. What impact will that have on future tax breaks e.g. the new improved BES scheme?

A final thought relates to the public sector – particularly the golden generation that joined the service before 1995. These individuals will continue to enjoy pension benefits far beyond those enjoyed in the private sector. The capitalised value of these mushroomed from €75bn in 2007 to €129bn in 2009 – an increase of approximately €145,000 per person. The 4% reduction now proposed is only a drop in the ocean compared to liabilities that grew by €54bn in the last two years alone. If we genuinely are all returning to 2007 living standards surely we should have “gained” another €50bn?

The lasting impression therefore is one of sadness – Animal Farm is alive and well in Ireland.

“Relief “ here today but gone …………

CAT 

Relief from gift/inheritance tax was generous in the tiger years, the tax-free thresholds available had increased significantly in acknowledgement of the increasing asset values. The intentions were clear at the time, so we shouldn’t be surprised that some (or many) of these measures will be reversed.

The sting in the tail of course will be that if, or when, we do see recovery in asset values in this country, we are unlikely to be in a position to access reliefs to the same degree again. While the 4-year plan doesn’t go into  detail, we can probably assume that the report of the Commission on Taxation, relegated to the bin shortly after publication, has been dusted off and will provide the inspiration for reforms. Taking that in account means that family businesses, including farming families, will pay a higher price when those assets are transferred. To put this in context, a family business worth €6m, which is gifted to three children could move from a minimum tax cost today of €60,000 to €810,000. The plan itself seems to suggest that reforms will take place in 2012, but we can certainly assume that the tax-free thresholds will suffer a further decrease in January when adjusted for inflation (or rather, deflation.)

CGT

Charlie McCreevy reduced the capital gains tax rate to 20%, but did remove many of the reliefs available, really leaving the business related relief intact. This too will suffer, most likely with the imposition of a value cap on the benefit that can be derived from it. Many asset disposals in the coming years will be the subject of capital losses, rather than gains, and so it may be some time before changes in this area start to bite, although changes may be harsh depending on the levels at which differing rates of tax will apply.

Stamp Duty

Finally, to stamp duty, really the most regressive of them all, penalizing families trading-up or trading down in many circumstances. The reality is that the government rode the boom on this one, with stamp duties contributing €3bn to the economy in 2006 and 2007. Calls for reductions or abolition widely ignored, the government really did pander to (and continues to) the construction industry by ensuring that newly-constructed homes benefited from exemptions or reliefs to a far greater degree than second-hand, assisting the release of VAT into the system at the same time. Now everything is frozen, no stamp duty, no windfalls of VAT. There is no commitment to abolish this duty, rather a commitment to abolish the reliefs and exemptions that are currently available.

Is this government really, seriously, going to try to increase effective rates of stamp duty on significantly reduced levels of transactions? Stamp duty receipts in 2010 are 5% of what they were in 2007. Is there any understanding of the impact of this? Although maybe, just maybe, there is a shining light somewhere and the government is waiting to publish some good news in the upcoming budget.

It would appear that there may still be some time left to plan around some of these provisions. The only thing that’s certain is that we won’t know the full impact of changes for 2011 until December 7^th.

For further commentary on the National Recovery Plan, see our website

Pension savings still the best tax break but planning is essential

The National Recovery Plan has received a lot of bad press but from a pension savings point of view there is some good news!

Whilst the government has indicated some significant changes to pensions it has also indicated a willingness to talk to the industry. In particular some of the points made by Aidan McLoughlin when he appeared before the Finance Committee of the Oireachtas are reflected in the Plan  itself:

1.                   The figures bandied about for tax relief are not properly understood

2.                   Pensions tax relief is actually only a form of tax deferral

3.                   Pensions have a key role to play in terms of investing in the economy

On the negative side the Plan suggests that tax reliefs on contributions made by the employee, to include AVCs, will be curtailed. A phased introduction of income tax relief for employee contributions is anticipated. The marginal rate will over a period until 2014 be reduced to the standard rate of 20% for everybody. In addition, the relief from PRSI and health levy for employee contributions will be abolished. It is also significant that the €150,000 earnings cap which determines the maximum tax deductible pension contribution is to be reduced to €115,000.

The good news for most pension holders is that they can continue to avail of the existing reliefs in relation to pension contributions made by their employer. Contributions may be made by the employer before corporation tax and are not taxed in the hands of the employee.

While there are very few commitments in the Plan to not increase taxation in specific areas, significantly in the domain of pensions relief, the Government pledges not to make pension contributions made by the employer subject to Benefit-In-Kind for the employee.  This basically gives certainty to those who continue to plan for retirement reassurance that they may continue to avail of tax relief.

We believe this will impact significantly on the design of remuneration packages for the future.

The Plan however does have a negative impact on the reliefs available on retirement. It is anticipated that the max tax free lump sum available on retirement be set at €200,000. Furthermore, the standard fund threshold which is the max funding which can be achieved tax-free in all your pension arrangements will be reduced from the current €5.4 million to a yet unspecified level.

Both of these are extremely retrograde steps with no revenue raising potential for the State. At a time when we Ireland is trying to attract multinational headquarters and high tech business it is critical that key decision makers in those enterprises aren’t discouraged. It is to be hoped that the discussions with the industry will allow sanity to prevail on this point.

Will the Budget come early?

Rumours are circulating again that it may be necessary to publish more specific details of the taxation increases and expenditure cuts in the Budget, scheduled to occur on Tuesday 7th December. 

If it happens that more specific details of the economic measures have to be published, the argument goes that it may be necessary to actually introduce the Budget early to prevent people taking avoiding actions.

Rumours are just that – rumours.  This one has been doing the rounds for a few weeks now. Having said that we are in uncharted water in terms of what may happen with regard to government finances so nothing should be ruled out. The sensible thing for advisors to do would be to advise clients to immediately put in place whatever actions they were planning to in any event.