Another max pension contribution question

I read on a somewhat less reliable message board the following and it got me thinking, so decided to ask it here.

Say someone is earning €50K and is aged 48, so the max they can contribute tax free to their pension pot is €10K.

If they have plenty of money and have lots of spare money every month.
Is there any sense in them Paying €20K into their pension pot so they now have €10k extra, but they wont get tax relief on it.
But it is now safely tucked away on their pension fund, growing tax free until they draw down. And can be taken out as part of tax free lump sum?

Basically the question came up of if it is wise for someone to contribute over the limit which you can get tax relief on, if you dont actually need the money and would probably be investing it elsewhere anyway?

Thanks

I'm no financial advisor, but seems to me you would then be taxed on that 10k on the way in, and also on the way out. Why not invest the 10k into something that you would only pay CGT on the gains of the 10k?

Yeah thats what I thought, but they seemed to think there was an advantage to doing this.

If you are aged 48, you can contribute 25% of earnings (it goes up to 30% in your 50th year). If you contribute more than the limit, any excess can be carried forward into the following years. So in your example, you can get tax relief on €12,500 at age 48. If you invest €20,000, then the balance of €7,500 can be offset against the following year’s income or even spread forward into future years (when the allowed % increases).

detailed analysis here

Marc said:

detailed analysis here

Personal Savings Accounts

This guide sets out how a Personal Retirement Savings account (PRSA) combined with an Approved Retirement Fund (ARF) can be used by any Irish Investor between the ages of 18 and 75 to invest personal savings in a tax efficient way

view.joomag.com

Click to expand...

This is a very informative guide - thanks for posting.

On pages 18 to 26 there is the example of Mary who has a personal portfolio on which she is paying taxes even though she isn't using all her income tax exemption.

The suggested strategy for this lady is to use a PRSA and vest immediately to return 25% to her tax-free via the lump sum allowance with the remainder continuing on as a vested PRSA or an ARF.

Page 26 highlights the obvious risk that due to misfortune or poor planning she needs to draw down another lump sum in quick order. If she draws down more funds, the funds will be subject to income tax and in the example, she withdraws €30k with tax payable of €6,355 (effective rate of tax of 21.2%).

It states in the guide:
"In this example, Mary has increased her tax liability to €6,355 or 21.2% which is still better than DIRT (35%) or Exit Tax (41%)."
(italics and underlining are mine).

My question is - is there confusion here between capital and income/gains? If Mary needed the funds before she set up this structure with her adviser, she just sells units in her personal portfolio. For simplicity assume she had no gains and no exit tax payable and also assume there were no gains in the ARF. With this structure, is it not the case that the 21.2% is a bite out of the original capital invested into the PRSA/ARF structure (not income or gains). Why is the 21.2% rate of tax being compared to DIRT or Exit Tax?

I do see that if the monies drawn down are used for expenses that are tax-deductible, then that mitigates things. If not though, is she in a worse position? I just want to make sure I fully understand the risks here. Thanks.

AAAContributor said:

Why is the 21.2% rate of tax being compared to DIRT or Exit Tax?

Click to expand...

It certainly seems to be comparing apples and oranges.

DIRT, for example, is only paid on the interest earned on the €30k deposit, which is trivial these days.

There is a real danger with contributing after-tax money to a pension vehicle that you will incur a tax liability on drawdown that would not otherwise exist.

I also struggle to see the logic behind contributing after-tax money to a PRSA that will immediately be drawn down as a TFLS. Other than generating commission for the broker, I don't see what that achieves.