# The maths of pensions



## LemonTree (15 Nov 2007)

Hi,

I have a query in relation to the maths of pensions.Assume an income of 100k in 2006, a world of no tax credits and a tax rate of 20% up to 64k and 42% on the rest. He decides to pay no pension.

Income =100k
Pension = 0
Total taxable = 100k
64K taxable @ 20% = 12800
rest taxable @ 42% = 15120
Total tax = 27920
Net Pay = 72080

Assume now he decides in November 07 to pay 20k into a pension.In order to get this 20k he declares a salary of 40k in November 07, such that approximately 20k go to PAYE and PRSI and 20k is Net pay. He then uses this 20k to put it into a pension.

Income=100k
Pension=20k
Total taxable=80k
64K taxable @ 20% = 12800
rest taxable @ 42% = 6720
Total tax = 19520
Net Pay = 80480

This means that the guy is only 8400 better off after paying an additional 20k to the revenue for the perceived benefit of 20,000 into a pension fund that he/she can only touch when they are 65.

Am I missing something here?

Kind regards,
Paul


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## MMilken (15 Nov 2007)

Obviously because 8,400 = 42% of 20,000.

I do not know why you call having 20,000 in your own pension fund a "perceived" benefit.


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## Satanta (15 Nov 2007)

In the case above, the person has gained a pension fund of €20'000 for a cost of €11'600. Yes, the money is tied up until 65 (with associated potential gains in the pension fund during that time), but it's still a significant saving (consider this level of saving over the total life of a pension and it adds up).

When additional factors are brought into the equation (employers contributions, PRSI savings etc) it can be an attractive means of saving for the future.


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## tiger (15 Nov 2007)

The Guy has put 20,000 into a pension fund to be invested at a cost of 11,600.
The 20K should grow (depending on the fund performance), but can't be touched until retirement.


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## MugsGame (15 Nov 2007)

Yes, you're missing the income tax you pay on the annuity you buy with (most of) your pension fund when you retire


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## amgd28 (15 Nov 2007)

No you are not missing anything. The tax relief on the 20k paid towards the pension is 42% by 20k = 8400.
I presume your question thus relates to whether it is preferable to have the 58% of 20K now or have 100% of 20k when you are 65. This is a moot point and is some respects is a qualitative one rather than a quantitative one, although I am sure it will depend on how close you are to the pensionable age. It would also depend on how you view the projected performance of pension funds. If you are convinced that they significantly outperform inflation consistently, then this is another incentive to put your money in there, as the 20k aged 65 will thus be indexed at a much higher rate than the CPI so the difference of 8400 widens over time


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## amgd28 (15 Nov 2007)

MugsGame said:


> Yes, you're missing the income tax you pay on the annuity you buy with (most of) your pension fund when you retire



Excellent point! had never thought of that. Well done


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## LemonTree (15 Nov 2007)

okay. Thanks for the replies. As the guy is making a singular lump sum payment in Nov 07, could this obtain PRSI relief?

As an aside, when this guy retires at 65 with his pension he will be required to pay tax on the monthly cash flows that he receives.Is this not double taxation?

Kind regards,
Paul


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## amgd28 (15 Nov 2007)

LemonTree said:


> okay. Thanks for the replies. As the guy is making a singular lump sum payment in Nov 07, could this obtain PRSI relief?
> 
> As an aside, when this guy retires at 65 with his pension he will be required to pay tax on the monthly cash flows that he receives.Is this not double taxation?
> 
> ...


Yes he will have to pay tax on any income over the thresholds, and no it is not double taxation - he has not been taxed on the income put into the pension fund in the first place. 
However he would be entitled to extract a lump sum tax free on retirement (with the rest going to purchase an annuity), but I'm not sure what the limit is on this (there is definitely a limit)


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## Protocol (15 Nov 2007)

Plus, people over 65 have higher tax-free exemption limits, so the pension income may be tax free.

A married couple can earn 34 or 38k tax free.


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## Protocol (15 Nov 2007)

Lemon Tree,

when you make the pension payments is irrelevant.

Lump-sum or monthly, several lump-sums, etc., etc., that doesn't matter.  It's just the total in the year.


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## MMilken (16 Nov 2007)

amgd28 said:


> Yes he will have to pay tax on any income over the thresholds, and no it is not double taxation - he has not been taxed on the income put into the pension fund in the first place.
> However he would be entitled to extract a lump sum tax free on retirement (with the rest going to purchase an annuity), but I'm not sure what the limit is on this (there is definitely a limit)


 
The limit is usually up to a max of 1.5 times final salary for an occupational pension.

The limit is 25% of the fund for personal pensions, PRSAs and 5% shareholders in occupational pension arrangements.


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## Guest127 (16 Nov 2007)

why are you quoting 65? if you have an arf you are deemed to withdraw 1% this year, 2% next year and 3% from 2009 onwards on a yearly basis and are taxed as such. (exempt until you are over 60) As far as I can see you are entitled to drawn down a % of an arf at any time but optimum time would appear to be from 61 onwards. Is an arf a pension scheme in the full sense of the word or just a top up? maybe thats where the difference lies.


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