Sinéad Pentony: The TCD Pension Policy Research Group has recently published a Working Paper written by Jim Stewart called The Pension System in Ireland: Current Issues and Reform.
The paper provides a very useful overview of the key features of the Irish pension system and it examines five key issues:
• The sources of income of retired persons.
• The value of pension fund assets.
• The National Pension Reserve Fund.
• Implications for pension funds of the rise in long bond yields.
• Policy responses and reform.
The paper highlights the inadequacy of recent policy responses and reforms in dealing with the structural problems in our pension system which have been brought into sharp focus by the financial and economic crises. The need for fundamental reform of our pension system and the development of a new model of pension provision has been highlighted by TASC and the TCD Pension Policy Research Group.
Showing posts with label pensions. Show all posts
Showing posts with label pensions. Show all posts
Wednesday, 21 December 2011
Friday, 10 June 2011
Executive directors, other employees and pension inequality
Gerry Hughes: In 2007 employer contributions to occupational pension schemes on behalf of employees amounted to €1.4 billion and the estimated cost of tax relief and the exemption from benefit in kind taxation were €150 million and €540 million respectively. The tax reliefs were concentrated on the top 20 per cent of earners. As neither the pensions industry or the pension regulator publish any information on the distribution of pension contributions or pensions in payment we know very little about who benefits from employer contributions or how the pension entitlements of high earners compare with those of other employees. However, publicly quoted companies are obliged to publish in their annual accounts information about the pension arrangements for each of their executive directors. Using information for 2009 for 147 executive directors in 48, mainly publicly quoted, companies in conjunction with national data on pension arrangements for other employees makes it possible to compare (see here) how pension arrangements for executive directors differ from those of other employees. The comparison shows that:
• The average annual employer pension contribution in 2009 for executive directors in large publicly quoted Irish companies is nearly 36 times more than for other covered employees (€100,000 versus €2,700).
• The average employer pension contribution rate for executive directors is almost 26 per cent of salary whereas the average employer rate for other private sector employees is around 7 per cent;
• On average an executive director would have been entitled to a pension of almost €200,000 if he or she had retired in 2009, or nearly 17 times more than the State pension on which the great majority of pensioners are dependent for most of their income in retirement;
• The average value of an executive director’s pension fund amounts to €4.1 million or 34 times more than the average value of the pension fund of €120,000 for other employees:
Pension inequality is much greater in the private sector than in the public sector. Research by Jim Stewart (see here, behind paywall) shows that top civil servants received an average pension of €125,000 in 2009 or about six times more than the average pension payment for retired civil servants.
The best way of creating greater pension equality between high, middle and low earners would be to give the tax relief at the standard rate of tax as is now done in the case of mortgage interest relief and health insurance relief. While the EU-IMF programme contains a commitment to standardise pension tax reliefs the pensions industry is opposed to this and the Fine Gael/Labour government prefers to continue giving the tax relief at the marginal rate of tax. In these circumstances an alternative which could raise as much revenue as standard rating would be to reduce the earnings cap on pension contributions and the lifetime size of pension funds.
In Budget 2011 the government reduced the cap on the annual earnings contribution eligible for pension tax relief from €150,000 to €115,000 and it reduced the lifetime cap on the size of an individual pension fund from €5.418 million to €2.3 million. While these reductions create greater equity in the pension system, neither of the caps is consistent with recommendations by the TCD Pension Policy Research Group, TASC, Social Justice Ireland, the OECD and other commentators that tax relief on pensions should be concentrated on middle and lower income earners. Much greater equity in the pension system could be achieved by targeting pension tax reliefs at these earners. This could be done by reducing the annual earnings limit for pension contributions from €115,000 to €75,000 and by reducing the cap on the size of a pension fund for an individual from €2.3 million to around €0.6 million.
• The average annual employer pension contribution in 2009 for executive directors in large publicly quoted Irish companies is nearly 36 times more than for other covered employees (€100,000 versus €2,700).
• The average employer pension contribution rate for executive directors is almost 26 per cent of salary whereas the average employer rate for other private sector employees is around 7 per cent;
• On average an executive director would have been entitled to a pension of almost €200,000 if he or she had retired in 2009, or nearly 17 times more than the State pension on which the great majority of pensioners are dependent for most of their income in retirement;
• The average value of an executive director’s pension fund amounts to €4.1 million or 34 times more than the average value of the pension fund of €120,000 for other employees:
Pension inequality is much greater in the private sector than in the public sector. Research by Jim Stewart (see here, behind paywall) shows that top civil servants received an average pension of €125,000 in 2009 or about six times more than the average pension payment for retired civil servants.
The best way of creating greater pension equality between high, middle and low earners would be to give the tax relief at the standard rate of tax as is now done in the case of mortgage interest relief and health insurance relief. While the EU-IMF programme contains a commitment to standardise pension tax reliefs the pensions industry is opposed to this and the Fine Gael/Labour government prefers to continue giving the tax relief at the marginal rate of tax. In these circumstances an alternative which could raise as much revenue as standard rating would be to reduce the earnings cap on pension contributions and the lifetime size of pension funds.
In Budget 2011 the government reduced the cap on the annual earnings contribution eligible for pension tax relief from €150,000 to €115,000 and it reduced the lifetime cap on the size of an individual pension fund from €5.418 million to €2.3 million. While these reductions create greater equity in the pension system, neither of the caps is consistent with recommendations by the TCD Pension Policy Research Group, TASC, Social Justice Ireland, the OECD and other commentators that tax relief on pensions should be concentrated on middle and lower income earners. Much greater equity in the pension system could be achieved by targeting pension tax reliefs at these earners. This could be done by reducing the annual earnings limit for pension contributions from €115,000 to €75,000 and by reducing the cap on the size of a pension fund for an individual from €2.3 million to around €0.6 million.
Monday, 16 May 2011
Paying for the Jobs Initiative
Gerry Hughes: In 1988, in the middle of Ireland’s last economic crisis, the Minister for Finance in the Fianna Fáil Government, Ray McSharry, imposed a levy on pension funds for one year. In his Budget speech he justified it by noting that “funded pension schemes enjoy a very favourable tax regime in respect of pension contributions, investment income and lump-sum benefits.” The levy was opposed by the pensions industry and by employer and trade union organisations on the grounds that it would have serious consequences for pension funds. It didn’t. Pension fund assets grew from €6.4 billion in 1988 to €7.5 billion in 1989 and to €39.6 billion in 1999.
Last week the Minister for Finance, Mr. Noonan, proposed a levy of 0.6 per cent per annum on pension assets. It is expected to yield €470 million per annum to pay for a four year programme of measures which the government hopes will stimulate urgently needed jobs in tourism and other sectors of the economy. Nevertheless, the pensions industry is even more opposed to the Minister’s proposal than it was in 1988. Indeed the reaction from the industry has been so strong this time that the Minister has described it as “quasi-hysterical”. The Minister went on to say that the Government “was pulling back a very small proportion” of the tax relief from which the industry has benefitted over the years. How small is this proportion in relation to the amount the Government has contributed to pension fund assets in recent years, in relation to the pensions industry’s annual earnings and in relation to the annual value of the subsidy which the Government will continue to provide for pension funds?
Well the annual Statistical Reports of the Revenue Commissioners show that during the period 1998-2008 the cumulative net cost of pension tax expenditure amounted to €28.5 billion. In relation to the amount the Government has contributed, therefore, the levy is certainly small. It is also small in relation to the amount which pension funds are now in a position to earn on assets which they have mainly invested in international financial markets. The expected yield from the levy suggests that pension assets are now worth at least €78 billion. Rubicon Investment Consulting reports that in 2010 the average managed fund earned a rate of return of 11.1 per cent. Even If the rate of return were to fall significantly over the next four years, it should be manageable for the industry to use its earnings to absorb a charge of around €0.5 billion a year. The levy is also small in relation to the annual subsidy which the Government provides for pension funds through tax forgone on pension contributions, the investment income of the funds and lump sum payments on retirement. In the three years 2006-2008 the value of the tax forgone was about €3 billion each year. Because of the loss of value of pension assets during the present crisis the cost of the Government’s annual subsidy is likely to be around €23/4 billion. A levy of 0.6 per cent would, therefore, claw back 17 per cent of the annual cost of the tax expenditure on pensions.
Apparently the Government discussed with the pensions industry the option of standard rating pension tax relief, as has been done for other tax reliefs. The ESRI estimates that standard rating the reliefs could yield €1 billion per annum. The TCD Pension Policy Research Group, Tasc, Social Justice Ireland, the OECD and other commentators have all argued that standard rating would be a fairer policy. Not surprisingly, the pensions industry rejected a policy which would create greater equity in the tax treatment of pension funds by reducing tax relief for top rate taxpayers but involve no change for those paying the standard rate. Instead it suggested “one alternative option, …, would be a levy on pension fund assets” (see here. Having got its way, the pensions industry should absorb the levy either by reducing its costs and becoming more efficient, as other sectors of the Irish economy are being required to do, or by paying it out of current earnings or out of the annual subsidy which the Government will continue to provide over the next four years.
The debate over the levy on pension assets has exposed the Government’s lack of information about the pensions industry’s charges for different types of funded pension schemes. The Taoiseach has said that he will ask the Minister for Finance and an Oireachtas committee, before the next budget, to examine alternative ways of raising the money to pay the levy by cutting costs in the pensions industry. Such an inquiry would be welcome but its terms of reference should be broadened to ask why all taxpayers have to pay higher tax rates to subsidise an industry which benefits a relatively privileged minority of the population?
Last week the Minister for Finance, Mr. Noonan, proposed a levy of 0.6 per cent per annum on pension assets. It is expected to yield €470 million per annum to pay for a four year programme of measures which the government hopes will stimulate urgently needed jobs in tourism and other sectors of the economy. Nevertheless, the pensions industry is even more opposed to the Minister’s proposal than it was in 1988. Indeed the reaction from the industry has been so strong this time that the Minister has described it as “quasi-hysterical”. The Minister went on to say that the Government “was pulling back a very small proportion” of the tax relief from which the industry has benefitted over the years. How small is this proportion in relation to the amount the Government has contributed to pension fund assets in recent years, in relation to the pensions industry’s annual earnings and in relation to the annual value of the subsidy which the Government will continue to provide for pension funds?
Well the annual Statistical Reports of the Revenue Commissioners show that during the period 1998-2008 the cumulative net cost of pension tax expenditure amounted to €28.5 billion. In relation to the amount the Government has contributed, therefore, the levy is certainly small. It is also small in relation to the amount which pension funds are now in a position to earn on assets which they have mainly invested in international financial markets. The expected yield from the levy suggests that pension assets are now worth at least €78 billion. Rubicon Investment Consulting reports that in 2010 the average managed fund earned a rate of return of 11.1 per cent. Even If the rate of return were to fall significantly over the next four years, it should be manageable for the industry to use its earnings to absorb a charge of around €0.5 billion a year. The levy is also small in relation to the annual subsidy which the Government provides for pension funds through tax forgone on pension contributions, the investment income of the funds and lump sum payments on retirement. In the three years 2006-2008 the value of the tax forgone was about €3 billion each year. Because of the loss of value of pension assets during the present crisis the cost of the Government’s annual subsidy is likely to be around €23/4 billion. A levy of 0.6 per cent would, therefore, claw back 17 per cent of the annual cost of the tax expenditure on pensions.
Apparently the Government discussed with the pensions industry the option of standard rating pension tax relief, as has been done for other tax reliefs. The ESRI estimates that standard rating the reliefs could yield €1 billion per annum. The TCD Pension Policy Research Group, Tasc, Social Justice Ireland, the OECD and other commentators have all argued that standard rating would be a fairer policy. Not surprisingly, the pensions industry rejected a policy which would create greater equity in the tax treatment of pension funds by reducing tax relief for top rate taxpayers but involve no change for those paying the standard rate. Instead it suggested “one alternative option, …, would be a levy on pension fund assets” (see here. Having got its way, the pensions industry should absorb the levy either by reducing its costs and becoming more efficient, as other sectors of the Irish economy are being required to do, or by paying it out of current earnings or out of the annual subsidy which the Government will continue to provide over the next four years.
The debate over the levy on pension assets has exposed the Government’s lack of information about the pensions industry’s charges for different types of funded pension schemes. The Taoiseach has said that he will ask the Minister for Finance and an Oireachtas committee, before the next budget, to examine alternative ways of raising the money to pay the levy by cutting costs in the pensions industry. Such an inquiry would be welcome but its terms of reference should be broadened to ask why all taxpayers have to pay higher tax rates to subsidise an industry which benefits a relatively privileged minority of the population?
Saturday, 14 May 2011
The proposed levy on pension funds
Jim Stewart: The levy on pension funds makes economic sense, but it has been very poorly presented, and it is inequitable in its proposed from.
The levy makes economic sense because the State has a large budget deficit (forecast at 10% of GDP for 2011), reducing this deficit without steps to improve economic growth would exacerbate the problem. At the same time the State cannot borrow on capital markets and borrowing from the ECB/EU is expensive.
The household savings rate for 2009 was estimated by the CSO to be 12% of income in 2009. The household sector held €105 billion in net financial assets in 2009, and an estimated €240 billion in housing (excluding land). It is likely that net financial assets have increased since then, and the value of the housing stock has fallen.
Thus the household sector in Ireland in aggregate, is not ‘bankrupt’ and cannot become ‘bankrupt’ in the context of a monetary union and integrated financial markets with no capital controls. The prediction by Morgan Kelly of ‘a prolonged and chaotic national bankruptcy’ is thus misleading. The analogy would be Orange County in the US which became bankrupt or insolvent in the sense that State employees, interest on debt etc. could not be paid, but the citizens of Orange County did not become bankrupt/insolvent.
Recent publicity given to the view that Ireland is bankrupt, and that a policy option is to leave the Euro causes further outflows, and helps bring about one aspect of that which has been predicted - the insolvency of the State.
An important economic issue is that most savings are held outside Ireland in the form of pension funds, and increasingly deposits. A solution to the budget deficit is to use these savings, by borrowing or by taxation. This is what has been proposed in relation to pension funds. It is in effect a form of wealth tax but it is a partial wealth tax which it is proposed to levy on some forms of pension assets (those pension assets that have benefited from tax relief), while ignoring those who have chosen to provide for their pension, via conventional savings or by property, and the implicit value of public sector pensions The partial nature of this levy is one of the reasons, as argued later, why it is inequitable.
But the case has been poorly presented. The vital jobs initiative is dependent on funding from this source. Yet some of the information issued is misleading, for example in relation to the decision not to impose the proposed tax on ARFs because it is argued that they were ‘closest in nature and an alternative to an annuity’. They are in fact closest in nature to a pension fund as that fund is operated in Ireland. But more important there is poor data on the value of pension fund assets. The former Minister for Finance stated in answer to a PQ (16th December) that there ‘was no data on the value of individual pension schemes’. There is also no recent data on the value of ARFs. The most recent estimate is for 2005 and the figure then was 6600 schemes held €1.1 billion in assets (Budget 2006, Internal Review of Certain Tax Schemes, G, p. 21).
The proposal as currently envisaged is inequitable. Employees in the public sector are more likely to have a pension than those in the private sector, and this pension is also likely to be larger. Yet the proposal envisages legislation which will enable funded schemes to ‘reduce the pension payable’ (Pension Fund Levy Q and A. Department of Finance). Some of those who are currently retired have extremely generous pensions, and will bear no extra tax burden, while a majority of the population aged over 65 have no occupational pension.
It is proposed not to impose a levy on ARFs yet the tax treatment of ARFs under certain circumstances is far more generous than pensions in payment.
A more equitable and hence acceptable proposal would be to extend the levy to all pension fund assets that have not been annuitised.
The proposed funding of the vital jobs initiative appears to have been poorly thought out. This may be partly explained by complications introduced into government policy making by negotiations with the EU/ECB/IMF. These bodies have conflicting views on policy, some policies proposed are incoherent. Key decision makers appear at times to be both ill informed and arrogant.
The Minister for Finance has given a commitment to ‘examine’ the issue of tax reliefs on pensions contained in the EU/IMF programme and any ‘scope for fiscally neutral changes’. The implication being that the levy on assets may result in a proposal for smaller reductions in announced tax reliefs. The implications of such changes need to be carefully considered so that existing inequities in the tax treatment of pensions are not exacerbated. Such an examination may show that further reducing tax reliefs for pension provision, increasing the pension contribution of high earners in the public sector and reducing tax allowances for those retired persons with large pensions is a more equitable and effective means of funding the vital jobs initiative .
The issue of the taxation of pension funds has been confused by the issue of high charges by pension funds. Tasc/TCD Pension Policy Research Group has long argued that pension fund charges are excessive and should be reduced. This should happen irrespective of the tax treatment of pension funds.
The levy makes economic sense because the State has a large budget deficit (forecast at 10% of GDP for 2011), reducing this deficit without steps to improve economic growth would exacerbate the problem. At the same time the State cannot borrow on capital markets and borrowing from the ECB/EU is expensive.
The household savings rate for 2009 was estimated by the CSO to be 12% of income in 2009. The household sector held €105 billion in net financial assets in 2009, and an estimated €240 billion in housing (excluding land). It is likely that net financial assets have increased since then, and the value of the housing stock has fallen.
Thus the household sector in Ireland in aggregate, is not ‘bankrupt’ and cannot become ‘bankrupt’ in the context of a monetary union and integrated financial markets with no capital controls. The prediction by Morgan Kelly of ‘a prolonged and chaotic national bankruptcy’ is thus misleading. The analogy would be Orange County in the US which became bankrupt or insolvent in the sense that State employees, interest on debt etc. could not be paid, but the citizens of Orange County did not become bankrupt/insolvent.
Recent publicity given to the view that Ireland is bankrupt, and that a policy option is to leave the Euro causes further outflows, and helps bring about one aspect of that which has been predicted - the insolvency of the State.
An important economic issue is that most savings are held outside Ireland in the form of pension funds, and increasingly deposits. A solution to the budget deficit is to use these savings, by borrowing or by taxation. This is what has been proposed in relation to pension funds. It is in effect a form of wealth tax but it is a partial wealth tax which it is proposed to levy on some forms of pension assets (those pension assets that have benefited from tax relief), while ignoring those who have chosen to provide for their pension, via conventional savings or by property, and the implicit value of public sector pensions The partial nature of this levy is one of the reasons, as argued later, why it is inequitable.
But the case has been poorly presented. The vital jobs initiative is dependent on funding from this source. Yet some of the information issued is misleading, for example in relation to the decision not to impose the proposed tax on ARFs because it is argued that they were ‘closest in nature and an alternative to an annuity’. They are in fact closest in nature to a pension fund as that fund is operated in Ireland. But more important there is poor data on the value of pension fund assets. The former Minister for Finance stated in answer to a PQ (16th December) that there ‘was no data on the value of individual pension schemes’. There is also no recent data on the value of ARFs. The most recent estimate is for 2005 and the figure then was 6600 schemes held €1.1 billion in assets (Budget 2006, Internal Review of Certain Tax Schemes, G, p. 21).
The proposal as currently envisaged is inequitable. Employees in the public sector are more likely to have a pension than those in the private sector, and this pension is also likely to be larger. Yet the proposal envisages legislation which will enable funded schemes to ‘reduce the pension payable’ (Pension Fund Levy Q and A. Department of Finance). Some of those who are currently retired have extremely generous pensions, and will bear no extra tax burden, while a majority of the population aged over 65 have no occupational pension.
It is proposed not to impose a levy on ARFs yet the tax treatment of ARFs under certain circumstances is far more generous than pensions in payment.
A more equitable and hence acceptable proposal would be to extend the levy to all pension fund assets that have not been annuitised.
The proposed funding of the vital jobs initiative appears to have been poorly thought out. This may be partly explained by complications introduced into government policy making by negotiations with the EU/ECB/IMF. These bodies have conflicting views on policy, some policies proposed are incoherent. Key decision makers appear at times to be both ill informed and arrogant.
The Minister for Finance has given a commitment to ‘examine’ the issue of tax reliefs on pensions contained in the EU/IMF programme and any ‘scope for fiscally neutral changes’. The implication being that the levy on assets may result in a proposal for smaller reductions in announced tax reliefs. The implications of such changes need to be carefully considered so that existing inequities in the tax treatment of pensions are not exacerbated. Such an examination may show that further reducing tax reliefs for pension provision, increasing the pension contribution of high earners in the public sector and reducing tax allowances for those retired persons with large pensions is a more equitable and effective means of funding the vital jobs initiative .
The issue of the taxation of pension funds has been confused by the issue of high charges by pension funds. Tasc/TCD Pension Policy Research Group has long argued that pension fund charges are excessive and should be reduced. This should happen irrespective of the tax treatment of pension funds.
Wednesday, 3 November 2010
Unemployment and paying for pensions
Andrew Watt of the European Trade Union Institute - who spoke at the recent FEPS/TASC Autumn Conference - has an interesting take on jobs and pensions over at the Social Europe Journal. He writes that: "The scare stories about the ‘demographic crisis’ and the threat it poses to pensions are almost always underpinned by numbers that set the size of the working age population against the number of elderly people. What is important, though, is the number of people who are actually working and supporting not only the elderly, but also children and those of working age not working, specially the unemployed.
Understanding this is important for the current austerity-versus-stimulus debate. Often calls for fiscal pain now are justified with reference to the need to ‘prepare for aging’ by reducing government debt. Yet evidently what is vital to achieve that same end is to reduce unemployment, and to do it now before it becomes ossified, as happened in previous European recessions". You can read the rest of Andrew's post here.
Understanding this is important for the current austerity-versus-stimulus debate. Often calls for fiscal pain now are justified with reference to the need to ‘prepare for aging’ by reducing government debt. Yet evidently what is vital to achieve that same end is to reduce unemployment, and to do it now before it becomes ossified, as happened in previous European recessions". You can read the rest of Andrew's post here.
Monday, 25 October 2010
Trick or Threat
Slí Eile: Today, we were served an item on public sector pensions here. The report says that 'the Department of Finance has not ruled out measures aimed specifically at public service pensioners in the budget'. Perhaps there is some connection between the story, the timing and the budget preparation. The item goes on to say: 'It also disclosed the public service pensions bill will increase from 0.5 per cent of GNP to almost 2 per cent of GNP by mid-century, almost €8 billion per annum in current terms. Some commentators have said such a development is unsustainable.' Which commentators? Where? On the basis of what research? Some examples are given including stories of individuals receiving more than €135K per annum. Contrasts are presented with the private sector. We are back to the old divide and rule narrative.
Then the following item here takes the biscuit. 'Gold-plated pension regime may be unsustainable'. Who says it is unsustainable? The cost of a fully provided system of social insurance would be much less than the current cost of tax expenditures on private pensions. See TASC research here.
The entire news story seems like one of many pre-budget softeners.
In truth people are being served by a campaign of psychological terror backed by claims that unless we agree to the most devastating attack on public services, pay, conditions and provision we will be taken over the IMF, EU etc. Prior to invasion the tactic is to terrorise before the ground troups are sent in. Make no mistake the four-year austerity plan is a full scale attack on living standards, jobs and rights of workers.
Then the following item here takes the biscuit. 'Gold-plated pension regime may be unsustainable'. Who says it is unsustainable? The cost of a fully provided system of social insurance would be much less than the current cost of tax expenditures on private pensions. See TASC research here.
The entire news story seems like one of many pre-budget softeners.
In truth people are being served by a campaign of psychological terror backed by claims that unless we agree to the most devastating attack on public services, pay, conditions and provision we will be taken over the IMF, EU etc. Prior to invasion the tactic is to terrorise before the ground troups are sent in. Make no mistake the four-year austerity plan is a full scale attack on living standards, jobs and rights of workers.
Thursday, 12 August 2010
US Lessons on the Failure of Pension Tax Arrangements
Sinéad Pentony: Last week, Professor Teresa Ghilarducci's spoke at a pensions seminar co-hosted by TASC, TCD Pension Policy Research Group and the INTO. See her presentation here. Professor Ghilarducci is the Bernard and Irene Schwartz Chair of Economic Policy Analysis and the Director of the Schwartz Center for Economic Policy Analysis at the New School for Social Research, New York.
Her presentation focused on the 401k pension system and showed that pension tax reliefs, as presently structured, result in a significant increase in inequality in the US and that a change in the balance of pension provision in favour of public rather than private pensions is necessary to provide a guaranteed income in retirement. As Ireland starts the process of implementing the National Pensions Framework, we need to take a step back and examine the experience in other jurisdictions. The 401k system has clearly not worked in the US, yet we are proposing to go down a very similar road here.
Ghilarducci’s research on the 401k (defined contribution) system of pension provision clearly shows that this system has failed to provide an adequate replacement income in retirement for millions of Americans. This system of pension provision is similar to Ireland’s PRSAs and they tell a very similar story:
• They are voluntary.
• They have failed to increase pension coverage - half of all workers in Ireland do not have a private pension and 64 million Americans at retirement age are without adequate pension provision.
• They are costly - because of the fees and charges of private providers.
• Tax reliefs have failed to increase pension coverage and they disproportionately benefit high earners -in Ireland 80 per cent of pension tax reliefs accrue to the top 20 per cent of earner; in the US, Ghilarducci contends that while pension tax reliefs in the USA are regressive, they are less regressive than in Ireland.
• They fail to provide an adequate income in retirement - as increasing the value of pension funds is largely dependent on the performance of the stock market and to a large degree, the gains in value are eroded by fees and charges, which is the case in both Ireland and the US.
Having researched 30 years of defined contribution pensions in the USA, Ghilarducci has developed a proposal for a Guaranteed Retirement Account (GRA), which resonates very stongly with the TASC/TCD model of pension provision. Her proposal highlights the importance of the social security pension, as this is what most people rely on for an income in retirement.
Her proposals are:
• A supplementary, mandatory and state-led system that requires all workers and employers to contribute through the social insurance system.
• The state also contributes through tax credits.
• Investments are managed by the State.
• People are provided with a guaranteed income (adjusted for inflation) in retirement.
Ghilarducci has estimated that state contributions to GRAs would be cost neutral if tax reliefs were redistributed (through tax credits) in favour of low and middle income earners.
The aim of the National Pension Framework is to deliver choice – but real choice can only be delivered if people are given the option of saving in a state-led and state-guaranteed supplementary system of pension provision. The evidence clearly supports the need for such a system. The proposals set out in the NPF are centred on a pension system based on tax reliefs which are costly, inefficient and inequitable, even at 33%; and managed by the private pension industry – an industry that has demonstratably failed to deliver security for many Irish workers in retirement.
Her presentation focused on the 401k pension system and showed that pension tax reliefs, as presently structured, result in a significant increase in inequality in the US and that a change in the balance of pension provision in favour of public rather than private pensions is necessary to provide a guaranteed income in retirement. As Ireland starts the process of implementing the National Pensions Framework, we need to take a step back and examine the experience in other jurisdictions. The 401k system has clearly not worked in the US, yet we are proposing to go down a very similar road here.
Ghilarducci’s research on the 401k (defined contribution) system of pension provision clearly shows that this system has failed to provide an adequate replacement income in retirement for millions of Americans. This system of pension provision is similar to Ireland’s PRSAs and they tell a very similar story:
• They are voluntary.
• They have failed to increase pension coverage - half of all workers in Ireland do not have a private pension and 64 million Americans at retirement age are without adequate pension provision.
• They are costly - because of the fees and charges of private providers.
• Tax reliefs have failed to increase pension coverage and they disproportionately benefit high earners -in Ireland 80 per cent of pension tax reliefs accrue to the top 20 per cent of earner; in the US, Ghilarducci contends that while pension tax reliefs in the USA are regressive, they are less regressive than in Ireland.
• They fail to provide an adequate income in retirement - as increasing the value of pension funds is largely dependent on the performance of the stock market and to a large degree, the gains in value are eroded by fees and charges, which is the case in both Ireland and the US.
Having researched 30 years of defined contribution pensions in the USA, Ghilarducci has developed a proposal for a Guaranteed Retirement Account (GRA), which resonates very stongly with the TASC/TCD model of pension provision. Her proposal highlights the importance of the social security pension, as this is what most people rely on for an income in retirement.
Her proposals are:
• A supplementary, mandatory and state-led system that requires all workers and employers to contribute through the social insurance system.
• The state also contributes through tax credits.
• Investments are managed by the State.
• People are provided with a guaranteed income (adjusted for inflation) in retirement.
Ghilarducci has estimated that state contributions to GRAs would be cost neutral if tax reliefs were redistributed (through tax credits) in favour of low and middle income earners.
The aim of the National Pension Framework is to deliver choice – but real choice can only be delivered if people are given the option of saving in a state-led and state-guaranteed supplementary system of pension provision. The evidence clearly supports the need for such a system. The proposals set out in the NPF are centred on a pension system based on tax reliefs which are costly, inefficient and inequitable, even at 33%; and managed by the private pension industry – an industry that has demonstratably failed to deliver security for many Irish workers in retirement.
Tuesday, 6 April 2010
Is the National Pensions Framework a Policy for Pensions or a Policy for the Pensions Industry?
Gerry Hughes: In the National Pensions Framework document the Government points out that between 2004 and 2009 it increased the State Pension (Contributory) by almost two and a half times more than the increase in average industrial earnings and by nearly four times more than the increase in the Consumer Price Index. The increase in the real value of the State Pension resulted in a sharp fall in the risk of poverty for older people from 27 per cent to just over 11 per cent and in consistent poverty from 3.9 per cent to 1.4 per cent.
The strong effect on poverty rates of Government support for the public pension system contrasts with the weak effect on coverage rates of Government support for the private pension system by the introduction in 2003 of tax advantages for Personal Retirement Savings Accounts. Overall coverage of private pensions showed only a marginal increase from 52 per cent in Q1 2002 to 54 per cent in Q1 2008, according to the framework document. The National Pensions Policy Initiative target of 70 per cent coverage for those in employment aged 30 to 65, which was set in 1998, has not been attained. Coverage for this group increased from 59 per cent in Q1 2002 to only 61 per cent in Q1 2008.
The success of the policy of preventing poverty for older people by increasing the benefits of the public pension system is recognised in the framework document by a statement that “the Government will seek to sustain the value of the State Pension at 35 per cent of average weekly earnings and will support this through the PRSI contribution system. “ The Government also recognises that the PRSI system minimises administration costs, is relatively simple to understand and ensures security. However, instead of proposing to develop the public system to build on these strengths the Government simply asserts that the solution to Ireland’s pension problems is to introduce a new auto-enrolment, privately managed, supplementary pension scheme for all employees not covered by an appropriate occupational scheme. The contributions, amounting to 8 per cent for each employee (employee 4 per cent, employer 2 per cent, State 2 per cent), would be collected through the PRSI system and handed over in a competitive process to private pension providers.
No reason is given for why the pensions industry, and the Irish pensions industry in particular, should be rewarded in this way. In the financial crisis of 2008 Irish pension funds had the worst performance of national pension funds in 37 OECD and non-OECD countries. The Irish pension funds lost 37 per cent of the nominal value of their assets, or €27 billion, compared with an average loss of 20 per cent in the OECD area. Employees availing of the auto-enrolment scheme could be exposed to similar losses in the future because “the Government will not,…, provide any guarantees on investment returns.”
The framework document also proposes phased increases in the retirement age. Implementing these increases would reduce the expected lifetime value of the State Pension by 5.5 per cent for current workers aged 62 to 65, by 11 per cent for those aged 50 to 55 and by 16.5 per cent for those aged 49 or younger. At a time when people are reeling from shocks to the financial system, when many employers with DB schemes are reneging on their promise to provide a secure income in retirement and there has been a collapse in the value of pension assets in DC schemes, these are significant losses for the State to impose on employees who have fulfilled their part of the implicit intergenerational Pay As You Go contract on public pensions.
The intention of the proposed auto-enrolment scheme is to assist those in the lower to middle income range to make their own arrangements to bridge the gap and bring their post-retirement income up to the Government’s target of 50 per cent of pre-retirement income. The auto-enrolment scheme is unlikely to enable middle income employees to do this because the proposed contribution rate of 8 per cent is too low. An analysis in the Green Paper on Pensions shows that the average contributor to a PRSA is paying 10.5 per cent of salary and that this is not nearly enough to provide a replacement rate of 50 per cent of pay from a combination of a voluntary private and a mandatory flat-rate State pension.
The TCD Pension Policy Research Group has argued in Choosing Your Future, and Tasc has argued in Making Pensions Work for People, that there is an option available to the Government which would build on the success of the social insurance model in preventing pensioner poverty and provide replacement rates of 50 per cent of pre-retirement income for workers on middle incomes. This is the mandatory State earnings-related option analysed in the National Pensions Review published in 2005. It would provide a flat-rate pension of 34 per cent of average industrial earnings and a supplementary earnings-related payment that would provide an overall benefit close to the 50 per cent target for middle income workers. The total additional contribution required for this option would be 5 per cent to be paid by equal contributions by the employee and the employer of 2.5 per cent of earnings.
Regrettably, the framework document ignores most of the evidence in favour of the superiority of the social insurance system in delivering pensions and opts instead to reward the most incompetent private pensions industry in the OECD.
The strong effect on poverty rates of Government support for the public pension system contrasts with the weak effect on coverage rates of Government support for the private pension system by the introduction in 2003 of tax advantages for Personal Retirement Savings Accounts. Overall coverage of private pensions showed only a marginal increase from 52 per cent in Q1 2002 to 54 per cent in Q1 2008, according to the framework document. The National Pensions Policy Initiative target of 70 per cent coverage for those in employment aged 30 to 65, which was set in 1998, has not been attained. Coverage for this group increased from 59 per cent in Q1 2002 to only 61 per cent in Q1 2008.
The success of the policy of preventing poverty for older people by increasing the benefits of the public pension system is recognised in the framework document by a statement that “the Government will seek to sustain the value of the State Pension at 35 per cent of average weekly earnings and will support this through the PRSI contribution system. “ The Government also recognises that the PRSI system minimises administration costs, is relatively simple to understand and ensures security. However, instead of proposing to develop the public system to build on these strengths the Government simply asserts that the solution to Ireland’s pension problems is to introduce a new auto-enrolment, privately managed, supplementary pension scheme for all employees not covered by an appropriate occupational scheme. The contributions, amounting to 8 per cent for each employee (employee 4 per cent, employer 2 per cent, State 2 per cent), would be collected through the PRSI system and handed over in a competitive process to private pension providers.
No reason is given for why the pensions industry, and the Irish pensions industry in particular, should be rewarded in this way. In the financial crisis of 2008 Irish pension funds had the worst performance of national pension funds in 37 OECD and non-OECD countries. The Irish pension funds lost 37 per cent of the nominal value of their assets, or €27 billion, compared with an average loss of 20 per cent in the OECD area. Employees availing of the auto-enrolment scheme could be exposed to similar losses in the future because “the Government will not,…, provide any guarantees on investment returns.”
The framework document also proposes phased increases in the retirement age. Implementing these increases would reduce the expected lifetime value of the State Pension by 5.5 per cent for current workers aged 62 to 65, by 11 per cent for those aged 50 to 55 and by 16.5 per cent for those aged 49 or younger. At a time when people are reeling from shocks to the financial system, when many employers with DB schemes are reneging on their promise to provide a secure income in retirement and there has been a collapse in the value of pension assets in DC schemes, these are significant losses for the State to impose on employees who have fulfilled their part of the implicit intergenerational Pay As You Go contract on public pensions.
The intention of the proposed auto-enrolment scheme is to assist those in the lower to middle income range to make their own arrangements to bridge the gap and bring their post-retirement income up to the Government’s target of 50 per cent of pre-retirement income. The auto-enrolment scheme is unlikely to enable middle income employees to do this because the proposed contribution rate of 8 per cent is too low. An analysis in the Green Paper on Pensions shows that the average contributor to a PRSA is paying 10.5 per cent of salary and that this is not nearly enough to provide a replacement rate of 50 per cent of pay from a combination of a voluntary private and a mandatory flat-rate State pension.
The TCD Pension Policy Research Group has argued in Choosing Your Future, and Tasc has argued in Making Pensions Work for People, that there is an option available to the Government which would build on the success of the social insurance model in preventing pensioner poverty and provide replacement rates of 50 per cent of pre-retirement income for workers on middle incomes. This is the mandatory State earnings-related option analysed in the National Pensions Review published in 2005. It would provide a flat-rate pension of 34 per cent of average industrial earnings and a supplementary earnings-related payment that would provide an overall benefit close to the 50 per cent target for middle income workers. The total additional contribution required for this option would be 5 per cent to be paid by equal contributions by the employee and the employer of 2.5 per cent of earnings.
Regrettably, the framework document ignores most of the evidence in favour of the superiority of the social insurance system in delivering pensions and opts instead to reward the most incompetent private pensions industry in the OECD.
Thursday, 11 February 2010
Basel III, pensions and the recapitalisation of Irish banks
An Saoi: Wednesday’s Financial Times had a very interesting article on proposed changes in banking rules under Basel III. Sensibly, the Bank of International Settlements is proposing that pension deficits should be deducted when calculating net Tier One capital. The pension obligations are long-term liabilities and should of course be deducted from core assets, as they are a core liability.
British Banks are up in arms over the proposal as many have huge deficits. What is the position of the Irish banks?
Bank of Ireland had a deficit of €1,478M at 31st March 2009 and Allied Irish Banks admitted to a deficit €1,263M at 30th June 2009. It appears that these two banks will require perhaps a further €3,000M, on top of current estimates, which the Government and the Governor of the Central Bank has glossed over to date. Certainly the failure of Dr. Honohan to bring the BIS’s proposal to the attention of the Irish public in his utterances about recapitalisation raises many questions in relation to his impartiality.
This additional cost to ensure that the pensions of the fat cats who got us into this trouble are secured is surely one step too far?
British Banks are up in arms over the proposal as many have huge deficits. What is the position of the Irish banks?
Bank of Ireland had a deficit of €1,478M at 31st March 2009 and Allied Irish Banks admitted to a deficit €1,263M at 30th June 2009. It appears that these two banks will require perhaps a further €3,000M, on top of current estimates, which the Government and the Governor of the Central Bank has glossed over to date. Certainly the failure of Dr. Honohan to bring the BIS’s proposal to the attention of the Irish public in his utterances about recapitalisation raises many questions in relation to his impartiality.
This additional cost to ensure that the pensions of the fat cats who got us into this trouble are secured is surely one step too far?
Wednesday, 25 November 2009
New report shows over €8 out of every €10 of pensions tax relief goes to top earners
Gerry Hughes: In a series of reports on our pension system, TASC and the TCD Pension Policy Research Group have argued that the tax relief on pension contributions should be given at the standard rate of tax, in the same way as are the tax reliefs on health insurance and mortgage interest payments.
A report from the ESRI provides new evidence on key pension policy issues which shows that over 80 per cent of the tax relief accrues to taxpayers who are in the top 20 per cent of the income distribution. The report estimates that if the tax relief were given at the standard rate of tax it would provide revenue of over €1 billion per year which could be used to sustain State pension levels in the future as the population ages.
It could also be used to sustain the income of current pensioners. A report from Older & Bolder on older people’s experience of the recession notes that older people have been adversely affected by a range of expenditure cuts including the suspension of the Christmas bonus and reductions in frontline health and social care services. In addition the fear factor for older people has been increased by suggestions that social welfare should be cut in the forthcoming budget and the likelihood that tax revenue which could have been used to improve public pensions, long-term care and primary health care will be used instead to pay interest on the national debt.
A report from the ESRI provides new evidence on key pension policy issues which shows that over 80 per cent of the tax relief accrues to taxpayers who are in the top 20 per cent of the income distribution. The report estimates that if the tax relief were given at the standard rate of tax it would provide revenue of over €1 billion per year which could be used to sustain State pension levels in the future as the population ages.
It could also be used to sustain the income of current pensioners. A report from Older & Bolder on older people’s experience of the recession notes that older people have been adversely affected by a range of expenditure cuts including the suspension of the Christmas bonus and reductions in frontline health and social care services. In addition the fear factor for older people has been increased by suggestions that social welfare should be cut in the forthcoming budget and the likelihood that tax revenue which could have been used to improve public pensions, long-term care and primary health care will be used instead to pay interest on the national debt.
Wednesday, 19 August 2009
Current pension tax reliefs inequitable and unsustainable
Gerard Hughes: Reading Paul O’Faherty’s opinion piece in the Irish Times on 29 July one would not suspect that it is the private pension system rather than the State pension system which is in crisis.
In 2008 Irish pension funds lost €27 billion as the value of the average managed fund fell by almost 35 per cent. This was the greatest relative loss in value of 37 OECD and non-OECD countries. The loss of over one-third in pension assets resulted in an estimate by the Minister for Social and Family Affairs that up to 90 per cent of defined benefit schemes were underfunded at the end of 2008. Rubicon Investment Consulting estimates that returns on group managed pension funds in the ten years up to the end of 2008 amounted to 0.2 per cent per annum on average, or well below the annual rate of inflation of 3.7 per cent. This is an abysmal performance. Contributors to pension funds would have been better off if they had put their money in the Post Office.
Recent pension surveys indicate that up to half of all defined benefit schemes are closed to new members and that over 40 per cent of firms which have defined benefit schemes are considering reducing member benefits. Some employers and employees are considering reducing their contributions to defined contribution schemes even though the government’s Green Paper on Pensions points out that the average contribution to these schemes is too low to provide an adequate income in retirement. There is a long-term change from defined benefit to defined contribution schemes which is shifting the risk of poor pension returns from employers to employees.
None of these weaknesses of the private pension system are mentioned by O’Faherty. Instead he argues that pension tax relief, which cost €3.2 billion in 2006, amounts only to tax deferral because the tax forgone will be recovered during retirement when pensions are paid. His argument ignores the more favourable tax exemption limit for people aged over 65, the fact that up to ¼ of the value of the pension is taken as a tax free lump sum, and that a great many taxpayers who pay tax at the higher rate during their working life only pay tax at the standard rate when they retire. In its country report on Ireland in 2008 the OECD concluded that the overall effect of our favourable tax arrangements for pensions “ … is in effect fairly close to being … [a] system where income channelled through pensions is unlikely to be taxed at any point of the life-cycle.” An earlier report in 2004 by OECD researchers Yoo and de Serres showed that the tax deferral argument of the pensions industry is wrong as the long-term budgetary cost of pension tax reliefs in Ireland, on a present value basis, amounted to nearly 2 per cent of GDP.
O’Faherty argues that tax relief for private pensions should not be curtailed because private pension provision “offers the only prospect of alleviating the burden [of an ageing population] on the State.” The evidence which is available from a study by Hughes and Watson for the ESRI of the performance of the State and private pension systems shows that the private pension system does a very poor job of delivering pensions except for higher income earners. Over 90 per cent of pensioners receive an income from the State compared with about one-third who receive an income from a private pension. The State pension is also by far the most important source of income for 80 per cent of pensioners. The top 20 per cent of pensioners is the only group for which the private pension system provides a significant share of their retirement income. This is hardly surprising as around two-thirds of the tax relief on employee and self-employed pension contributions accrues to higher rate taxpayers.
The inequitable distribution of the tax relief for pensions, the low level of the State pension and the challenge of providing adequate pensions for an ageing population are the main reasons why the TCD Pension Policy Research Group, TASC and others have argued that the tax relief for pensions should be given at the standard rate of tax and that the revenue which would become available should be used to increase the State pension above the poverty level. As an ESRI study by Callan, Nolan and Walsh showed in 2008, this policy would eliminate the risk of poverty for people who are already retired. If it were adopted it would provide protection against poverty in retirement for the increasing number of people in the future who are likely to receive lower private pensions relative to pre-retirement earnings than current pensioners and it would contribute to a sustainable basis on which to pay for State pensions as the population ages.
Gerard Hughes is a Visiting Professor in the School of Business Trinity College Dublin and a member of the TCD Pension Policy Research Group
In 2008 Irish pension funds lost €27 billion as the value of the average managed fund fell by almost 35 per cent. This was the greatest relative loss in value of 37 OECD and non-OECD countries. The loss of over one-third in pension assets resulted in an estimate by the Minister for Social and Family Affairs that up to 90 per cent of defined benefit schemes were underfunded at the end of 2008. Rubicon Investment Consulting estimates that returns on group managed pension funds in the ten years up to the end of 2008 amounted to 0.2 per cent per annum on average, or well below the annual rate of inflation of 3.7 per cent. This is an abysmal performance. Contributors to pension funds would have been better off if they had put their money in the Post Office.
Recent pension surveys indicate that up to half of all defined benefit schemes are closed to new members and that over 40 per cent of firms which have defined benefit schemes are considering reducing member benefits. Some employers and employees are considering reducing their contributions to defined contribution schemes even though the government’s Green Paper on Pensions points out that the average contribution to these schemes is too low to provide an adequate income in retirement. There is a long-term change from defined benefit to defined contribution schemes which is shifting the risk of poor pension returns from employers to employees.
None of these weaknesses of the private pension system are mentioned by O’Faherty. Instead he argues that pension tax relief, which cost €3.2 billion in 2006, amounts only to tax deferral because the tax forgone will be recovered during retirement when pensions are paid. His argument ignores the more favourable tax exemption limit for people aged over 65, the fact that up to ¼ of the value of the pension is taken as a tax free lump sum, and that a great many taxpayers who pay tax at the higher rate during their working life only pay tax at the standard rate when they retire. In its country report on Ireland in 2008 the OECD concluded that the overall effect of our favourable tax arrangements for pensions “ … is in effect fairly close to being … [a] system where income channelled through pensions is unlikely to be taxed at any point of the life-cycle.” An earlier report in 2004 by OECD researchers Yoo and de Serres showed that the tax deferral argument of the pensions industry is wrong as the long-term budgetary cost of pension tax reliefs in Ireland, on a present value basis, amounted to nearly 2 per cent of GDP.
O’Faherty argues that tax relief for private pensions should not be curtailed because private pension provision “offers the only prospect of alleviating the burden [of an ageing population] on the State.” The evidence which is available from a study by Hughes and Watson for the ESRI of the performance of the State and private pension systems shows that the private pension system does a very poor job of delivering pensions except for higher income earners. Over 90 per cent of pensioners receive an income from the State compared with about one-third who receive an income from a private pension. The State pension is also by far the most important source of income for 80 per cent of pensioners. The top 20 per cent of pensioners is the only group for which the private pension system provides a significant share of their retirement income. This is hardly surprising as around two-thirds of the tax relief on employee and self-employed pension contributions accrues to higher rate taxpayers.
The inequitable distribution of the tax relief for pensions, the low level of the State pension and the challenge of providing adequate pensions for an ageing population are the main reasons why the TCD Pension Policy Research Group, TASC and others have argued that the tax relief for pensions should be given at the standard rate of tax and that the revenue which would become available should be used to increase the State pension above the poverty level. As an ESRI study by Callan, Nolan and Walsh showed in 2008, this policy would eliminate the risk of poverty for people who are already retired. If it were adopted it would provide protection against poverty in retirement for the increasing number of people in the future who are likely to receive lower private pensions relative to pre-retirement earnings than current pensioners and it would contribute to a sustainable basis on which to pay for State pensions as the population ages.
Gerard Hughes is a Visiting Professor in the School of Business Trinity College Dublin and a member of the TCD Pension Policy Research Group
Monday, 27 July 2009
Pensions
According to the Sunday Business Post yesterday, the Commission on Taxation may propose introducing a common rate for pension tax relief of around 30 per cent, thus reducing the tax benefit currently enjoyed by higher earners while increasing the relief for those in the 20 per cent income tax bracket. Writing on PE earlier this year, Dr. Jim Stewart - a member of the TCD Pension Policy Research Group, which collaborated with TASC on its pension reform proposals - pointed out that any reform of pension tax reliefs must be accompanied by reform of the pension system as a whole.
Meanwhile, if anyone was in any regarding about the inability of private pensions schemes to provide a secure retirement income into the future, PriceWaterhouse Coopers has just released the results of a survey indicating that - of those employers currently operating Defined Benefit schemes - 20 per cent are winding up, or considering winding up, their DB schemes, while 49 per cent are considering introducing a salary freeze or cap, and 39 per cent are considering removing pension increases.
With regard to Defined Contribution schemes, 9 per cent of employers surveyed indicated that they had reduced their contributions, while 32 per cent of employees have either reduced or ceased their contributions.
Any comments?
Meanwhile, if anyone was in any regarding about the inability of private pensions schemes to provide a secure retirement income into the future, PriceWaterhouse Coopers has just released the results of a survey indicating that - of those employers currently operating Defined Benefit schemes - 20 per cent are winding up, or considering winding up, their DB schemes, while 49 per cent are considering introducing a salary freeze or cap, and 39 per cent are considering removing pension increases.
With regard to Defined Contribution schemes, 9 per cent of employers surveyed indicated that they had reduced their contributions, while 32 per cent of employees have either reduced or ceased their contributions.
Any comments?
Wednesday, 15 April 2009
The budget, the over-fifties and the under-fives
Jim Stewart: The recent supplementary budget, while removing a considerable amount of income from almost everyone, also treated some groups in favourable ways in terms of pension provision - for example those over fifty in the public service and those working in universities.
The budget affects pension provision in a number of ways, and indicated that further change is on the way. Some of those in receipt of pension provision were adversely affected. For example former ministers who are paid pensions while remaining a member of the Oireachtas will no longer receive a pension. However, this still means that former ministers who are no longer members of the Oireachtas receive a pension even though they are not at the normal pensionable age. Nevertheless, this is a welcome step to reduce the exceptional cost (by international standards) of our elected representatives.
Proposals to reduce the public sector ‘pension levy’ on low income groups are also welcome. This will reduce the anomaly whereby low income groups contribute to the levy, but are not entitled to a full occupational pension because their occupational pension is integrated with the social welfare pension
The main beneficiaries are those in the public sector aged 50 and over.
In announcing a voluntary early retirement scheme (those aged over 50 may retire without actuarial reduction in their pensions), the minister stated that payment of a lump sum “at normal retirement age of 60 or 65 would be subject to current tax law provisions" or, as stated in Annex D to the Budget, “subject to the taxation provisions in force on the date the application was approved” (Annex D: Incentivised Scheme of Early retirement in the Public Service). The period of exercising this option is from May 1st until “a review before the end of the year”. A key phrase is 'current tax law'. This guarantee does not extend to those retiring beyond this early retirement window. This leaves open the possibility that lump sums will be taxed at a future date - in particular as the Minister noted that he was “looking forward to the recommendations of the Commission on Taxation” which he will receive later this year.
The minister also stated that the Government were committed to “a review of all areas of tax exempt income”. This is likely to mean that tax reliefs associated with pension provision will be examined further, subsequent to the report of the Commission on Taxation and the white paper on pensions reported to be due for publication later this year.
Those in the public sector aged 50 and above now need to carefully consider their retirement decision, perhaps several years earlier than intended. It should, however, be noted that the Minister was careful to state that the decision to retire was not solely at the discretion of the individual but “will be subject to local management arrangements to ensure that the scheme operates in an orderly manner” (Budget April 2009).
There is no doubt that this scheme is advantageous to an individual on an actuarial estimate of the value of future pensions, lump sum etc. The longer the service and the closer an individual is to 50 the greater the actuarial value. There are no costings, and it is likely that the scheme will save money now, but increase costs later on so that overall costs to the State will increase. The main effect is to redistribute costs from payroll to pensions, and to defer certain payments through time. It is likely that those about to retire or considering retirement will avail of this scheme.
However, those not near retirement age should consider their options carefully, because of uncertainty about the direction of future incomes (post tax and post various levies), the absence of alternative employment, the possible ending of favourable tax treatment for those aged 65 and over, and the future level of pension payments, as pension increases may be linked to price changes rather than current salaries.
In the current crisis, being in the labour force gives greater security to the level of current (and perhaps future) income than being retired, because income at work (even after recent increases in levies) will be higher than in retirement. In addition, pension payments are unlikely to match income rises in future periods, increasing the divergence between incomes of those who retire now and those who remain in the work force. Finally, higher current incomes may facilitate savings, to ensure continuity in living standards prior and post retirement.
One other group who benefited from announcements made with the Budget are those working in Universities (see Summary of Supplementary Budget Measures – Policy Changes, Pension Fund Transfer). Even though only partly funded, university pension schemes had an estimated deficit of €1.3 billion and the State will now meet this liability. No extra levies or changes to pension terms were announced. Universities pension schemes were never fully funded. Pensions paid at retirement were funded, but increases to pension payments after retirement came from the exchequer. This deficit arose because of the collapse in asset values and the growth in wage costs (particularly at senior levels without matching increased contributions to pension schemes). In previous years, the pension scheme was also used to fund generous early retirement schemes. The new arrangements essentially involve converting university pension schemes to a fully PAYG system. The University of Limerick and Dublin City University always operated a PAYG pension scheme and are unaffected by these changes.
Finally, the radical proposal to provide a free pre-school year for all children starting next year, although in replacement of the early child care supplement, is welcome. This is a progressive measure and supports the advocates of ‘early intervention’ as a means of ending poor achievement and a higher incidence of social problems amongst lower income groups.
The budget affects pension provision in a number of ways, and indicated that further change is on the way. Some of those in receipt of pension provision were adversely affected. For example former ministers who are paid pensions while remaining a member of the Oireachtas will no longer receive a pension. However, this still means that former ministers who are no longer members of the Oireachtas receive a pension even though they are not at the normal pensionable age. Nevertheless, this is a welcome step to reduce the exceptional cost (by international standards) of our elected representatives.
Proposals to reduce the public sector ‘pension levy’ on low income groups are also welcome. This will reduce the anomaly whereby low income groups contribute to the levy, but are not entitled to a full occupational pension because their occupational pension is integrated with the social welfare pension
The main beneficiaries are those in the public sector aged 50 and over.
In announcing a voluntary early retirement scheme (those aged over 50 may retire without actuarial reduction in their pensions), the minister stated that payment of a lump sum “at normal retirement age of 60 or 65 would be subject to current tax law provisions" or, as stated in Annex D to the Budget, “subject to the taxation provisions in force on the date the application was approved” (Annex D: Incentivised Scheme of Early retirement in the Public Service). The period of exercising this option is from May 1st until “a review before the end of the year”. A key phrase is 'current tax law'. This guarantee does not extend to those retiring beyond this early retirement window. This leaves open the possibility that lump sums will be taxed at a future date - in particular as the Minister noted that he was “looking forward to the recommendations of the Commission on Taxation” which he will receive later this year.
The minister also stated that the Government were committed to “a review of all areas of tax exempt income”. This is likely to mean that tax reliefs associated with pension provision will be examined further, subsequent to the report of the Commission on Taxation and the white paper on pensions reported to be due for publication later this year.
Those in the public sector aged 50 and above now need to carefully consider their retirement decision, perhaps several years earlier than intended. It should, however, be noted that the Minister was careful to state that the decision to retire was not solely at the discretion of the individual but “will be subject to local management arrangements to ensure that the scheme operates in an orderly manner” (Budget April 2009).
There is no doubt that this scheme is advantageous to an individual on an actuarial estimate of the value of future pensions, lump sum etc. The longer the service and the closer an individual is to 50 the greater the actuarial value. There are no costings, and it is likely that the scheme will save money now, but increase costs later on so that overall costs to the State will increase. The main effect is to redistribute costs from payroll to pensions, and to defer certain payments through time. It is likely that those about to retire or considering retirement will avail of this scheme.
However, those not near retirement age should consider their options carefully, because of uncertainty about the direction of future incomes (post tax and post various levies), the absence of alternative employment, the possible ending of favourable tax treatment for those aged 65 and over, and the future level of pension payments, as pension increases may be linked to price changes rather than current salaries.
In the current crisis, being in the labour force gives greater security to the level of current (and perhaps future) income than being retired, because income at work (even after recent increases in levies) will be higher than in retirement. In addition, pension payments are unlikely to match income rises in future periods, increasing the divergence between incomes of those who retire now and those who remain in the work force. Finally, higher current incomes may facilitate savings, to ensure continuity in living standards prior and post retirement.
One other group who benefited from announcements made with the Budget are those working in Universities (see Summary of Supplementary Budget Measures – Policy Changes, Pension Fund Transfer). Even though only partly funded, university pension schemes had an estimated deficit of €1.3 billion and the State will now meet this liability. No extra levies or changes to pension terms were announced. Universities pension schemes were never fully funded. Pensions paid at retirement were funded, but increases to pension payments after retirement came from the exchequer. This deficit arose because of the collapse in asset values and the growth in wage costs (particularly at senior levels without matching increased contributions to pension schemes). In previous years, the pension scheme was also used to fund generous early retirement schemes. The new arrangements essentially involve converting university pension schemes to a fully PAYG system. The University of Limerick and Dublin City University always operated a PAYG pension scheme and are unaffected by these changes.
Finally, the radical proposal to provide a free pre-school year for all children starting next year, although in replacement of the early child care supplement, is welcome. This is a progressive measure and supports the advocates of ‘early intervention’ as a means of ending poor achievement and a higher incidence of social problems amongst lower income groups.
Monday, 30 March 2009
Reform of tax relief on pensions should be accompanied by pension reform
Jim Stewart: The solution to the current pensions crisis proposed by TASC in its pamphlet Making Pensions Work for People is to introduce an improved basic state pension, and an earnings related top-up scheme. The proposal is that this would be paid for by reducing existing tax reliefs.
Some have suggested that, in the current economic crisis, tax reliefs on pension provision should be given at the standard rate as a means of reducing the government borrowing requirement and maintaining existing expenditures, without any pension reform.
Tax reliefs on pensions need to be reformed for a number of reasons, including their cost:-
(1) Pension related tax reliefs cost €2.9 billion (2006 figures) in terms of tax foregone;
(2) They are of greatest benefit to those with the highest incomes because those with the highest incomes contribute proportionately more than lower income groups and have greater tax relief because of higher marginal tax rates.
(3) Because of tax reliefs and the extensive exemptions from annuitisation, pension provision can be regarded as one of the most tax-favoured means of saving, rather than of pension provision, for example as in the recent case involving the Irish Nationwide. Some of this advantage was, however, lost through investment in high risk assets. In December 2007, the equity allocation of Irish pension funds amounted to 65% overall (and 77% for those pension funds with no investment mandate from trustees).
In addition, pension funds are subject to annual average charges of 1.5% per annum (Green Paper, p. 142). This means that annual charges amount to a substantial proportion of the cost of tax reliefs (50% in 2003).
As a result, due to charges (which are largely independent of investment performance) and losses on investments, many of those contributing to a defined contribution (DC) type scheme over a ten year period, even with tax relief (at 41%), may have been better off investing their pension contribution in a deposit account which does not attract tax relief*. Those who paid tax at the standard rate and who invested in a deposit account savings scheme over the past ten years would be substantially better off.
Giving tax relief at the standard rate rather than the marginal rate would reduce tax induced income inequalities and, in so far as pension provision is in reality a form of savings, reduce distortions in the savings market.
The Irish Nationwide/Fingleton case has drawn attention to exemptions from tax on lump sums paid on retirement. Tax free lump sums should be reduced substantially or removed entirely on private sector pension payments. Lump sums paid in the public sector as part of pension provision should be subject to tax.
There is a crisis in private sector pension provision. Many of those nearing retirement, or in retirement, have suffered large reductions in wealth and income. As a result many are or will become far more dependent on the basic state pension than they planned for. The current basic state pension, at approximately 30% of the average industrial wage, is insufficient to ensure a reasonable level of income replacement on retirement. There are several reasons why tax reliefs for pension provision need reform, but it would be a mistake to reform tax reliefs for pension provision without also reforming pension provision in terms of equity and long-term sustainability. Detailed proposals have been developed by TASC and published in the pamphlet Making Pensions Work for People.
*Example:
Using the following assumptions: negative returns of 2.8% per annum for pension fund returns over the past ten years (see here), average costs of 1.5% per annum, marginal tax rate equal to 41% over the 10 year period and return on a deposit account of 6.5% (5.2% after DIRT of 20%), a pension fund investment has a slightly higher return than a deposit account over a 10 year period.
Dr. Jim Stewart is a member of the TCD Pension Policy Research Group, which has collaborated with TASC on its pension reform proposals
Some have suggested that, in the current economic crisis, tax reliefs on pension provision should be given at the standard rate as a means of reducing the government borrowing requirement and maintaining existing expenditures, without any pension reform.
Tax reliefs on pensions need to be reformed for a number of reasons, including their cost:-
(1) Pension related tax reliefs cost €2.9 billion (2006 figures) in terms of tax foregone;
(2) They are of greatest benefit to those with the highest incomes because those with the highest incomes contribute proportionately more than lower income groups and have greater tax relief because of higher marginal tax rates.
(3) Because of tax reliefs and the extensive exemptions from annuitisation, pension provision can be regarded as one of the most tax-favoured means of saving, rather than of pension provision, for example as in the recent case involving the Irish Nationwide. Some of this advantage was, however, lost through investment in high risk assets. In December 2007, the equity allocation of Irish pension funds amounted to 65% overall (and 77% for those pension funds with no investment mandate from trustees).
In addition, pension funds are subject to annual average charges of 1.5% per annum (Green Paper, p. 142). This means that annual charges amount to a substantial proportion of the cost of tax reliefs (50% in 2003).
As a result, due to charges (which are largely independent of investment performance) and losses on investments, many of those contributing to a defined contribution (DC) type scheme over a ten year period, even with tax relief (at 41%), may have been better off investing their pension contribution in a deposit account which does not attract tax relief*. Those who paid tax at the standard rate and who invested in a deposit account savings scheme over the past ten years would be substantially better off.
Giving tax relief at the standard rate rather than the marginal rate would reduce tax induced income inequalities and, in so far as pension provision is in reality a form of savings, reduce distortions in the savings market.
The Irish Nationwide/Fingleton case has drawn attention to exemptions from tax on lump sums paid on retirement. Tax free lump sums should be reduced substantially or removed entirely on private sector pension payments. Lump sums paid in the public sector as part of pension provision should be subject to tax.
There is a crisis in private sector pension provision. Many of those nearing retirement, or in retirement, have suffered large reductions in wealth and income. As a result many are or will become far more dependent on the basic state pension than they planned for. The current basic state pension, at approximately 30% of the average industrial wage, is insufficient to ensure a reasonable level of income replacement on retirement. There are several reasons why tax reliefs for pension provision need reform, but it would be a mistake to reform tax reliefs for pension provision without also reforming pension provision in terms of equity and long-term sustainability. Detailed proposals have been developed by TASC and published in the pamphlet Making Pensions Work for People.
*Example:
Using the following assumptions: negative returns of 2.8% per annum for pension fund returns over the past ten years (see here), average costs of 1.5% per annum, marginal tax rate equal to 41% over the 10 year period and return on a deposit account of 6.5% (5.2% after DIRT of 20%), a pension fund investment has a slightly higher return than a deposit account over a 10 year period.
Dr. Jim Stewart is a member of the TCD Pension Policy Research Group, which has collaborated with TASC on its pension reform proposals
Thursday, 26 February 2009
Pension levy - illustrating 'upside-down' nature of tax reliefs
Gerard Hughes and Jim Stewart of progressive-economy@tasc have taken a closer look at the pension levy, which concluded its passage through the Dail yesterday and is on its way to the Seanad. Click here to read their analysis, which highlights once again the 'upside-down' nature of tax reliefs.
Sunday, 22 February 2009
Paying twice for public service pensions
Gerard Hughes: The Government argues that the pension levy is justified because public service pensions are significantly more favourable than the generality of pensions in the private sector. This is a strange argument because the greater value which public service workers derive from their pensions has already been taken into account following the implementation of recommendations made by the Public Service Benchmarking Body in a report in 2007.
Under its terms of reference this body was required to examine the value of public service pension benefits by reference to pension arrangements in the private sector. It took the view that the main comparison of pension benefits in the two sectors should include the mix of defined benefit and defined contribution schemes applicable to employees in the private sector. In conjunction with the Review Body on Higher Remuneration in the Public Sector it commissioned an actuarial firm, Life Strategies Limited, to compare the value of pension arrangements at different grade levels and for different occupations in the public sector relative to the value of pension arrangements in the private sector. Following a detailed comparison of the two sectors Life Strategies advised the benchmarking body that a fair rate for the notional employer cost of public service pensions is 20 per cent of salary and a fair rate for the employer cost for private sector employees who have a pension arrangement is around 8.5 per cent. Consequently, the benchmarking body applied a discount of 12 per cent in setting public service pay to take account of the greater value of the employer contribution to public sector pensions than to private sector pensions.
When the Government implemented the benchmarking body’s recommendations about public service pay in 2007 it did so in the knowledge that the full value of the greater employer contribution to public service pensions was taken into account in the pay award. If a case can be made that a differential has opened up since then in the value of the employer contribution in the two sectors, an additional adjustment may be required to take account of it. However, at present there is no rational basis for requiring public service workers to make an additional contribution via a pension levy towards the cost of their pension.
Gerard Hughes is a Visiting Professor at the TCD School of Business
Under its terms of reference this body was required to examine the value of public service pension benefits by reference to pension arrangements in the private sector. It took the view that the main comparison of pension benefits in the two sectors should include the mix of defined benefit and defined contribution schemes applicable to employees in the private sector. In conjunction with the Review Body on Higher Remuneration in the Public Sector it commissioned an actuarial firm, Life Strategies Limited, to compare the value of pension arrangements at different grade levels and for different occupations in the public sector relative to the value of pension arrangements in the private sector. Following a detailed comparison of the two sectors Life Strategies advised the benchmarking body that a fair rate for the notional employer cost of public service pensions is 20 per cent of salary and a fair rate for the employer cost for private sector employees who have a pension arrangement is around 8.5 per cent. Consequently, the benchmarking body applied a discount of 12 per cent in setting public service pay to take account of the greater value of the employer contribution to public sector pensions than to private sector pensions.
When the Government implemented the benchmarking body’s recommendations about public service pay in 2007 it did so in the knowledge that the full value of the greater employer contribution to public service pensions was taken into account in the pay award. If a case can be made that a differential has opened up since then in the value of the employer contribution in the two sectors, an additional adjustment may be required to take account of it. However, at present there is no rational basis for requiring public service workers to make an additional contribution via a pension levy towards the cost of their pension.
Gerard Hughes is a Visiting Professor at the TCD School of Business
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