Covenants - How do they work?

Scenario is as follows, folks are retired but never really paid much attention to their pension funding and now as a result, their income has dropped significantly.

They do own their own home and I am looking at options to increase their disposable income. I did look at the BOI Life Loan but the interest rate is savage, so that oudl be last resort.

I am wondering if the the siblings/kids (there are three that could contribute a small amount each month) could pay a nominal monthly amount to the folks by way of a covenant to avail of the tax efficiencies?

The folks are older than 65 and would be below the earnings threshold so they could claim back any tax held at source, at the end of the year.

Can you do direct debits on a monthly basis for the next 6 years or does it have to be one lump sum?

How would you go about our own tax situation because we should be able to claim tax back at our marginal rate of tax? Would it be done at the end of the year by way of a tax return, or could we provide evidence of the monthly direct debits and have our tax free allowances amended accordingly?

Any advice would be greatly appreciated.

Tax relief can be claimed on covenants in favour of adults aged over 65 but the relief is restricted to 5% of the covenantors total income unless you are covenanting to a permanently incapacitated adult.
The tax office should be able to tell you what is needed.
You deduct 20% when you make the payment and then if the personal allowances of the covenantee shelter the income they can claim back the 20% or if they do pay tax at 20% and you are a 42% taxpayer you will get the benefit of the deduction at 42%

Capall,

Thanks for the reply. Can I just clarify the following.

Folks would be under the income exemption limit so could claim back the 20%

I am a PAYE worker, paying tax at 42%

How would it work by me paying over Eur 100 per month to my folks?

Would I have to deduct tax of Eur 20 per month and pay this to the revenue?

How and by how much would my tax free allowance be adjusted?

In essence, would Eur100 only cost me Eur58?

Therefore, would my TFA be adjusted by Eur42 per month?

Many thanks for the help.

Gweebarra ,

this is how the deed of covenant will work using your example.

You will sign a covenant (there is a blank deed of covenant on attached link with the revenue rules
[broken link removed] )
for 100 euros a month . You will pay to your parents 80 euros a month because you must deduct tax at standard rate from the payment .

Your parents will reclaim from Revenue at end of year the 20 euros a month. You must complete this[broken link removed] and give it to your parents as they must submit this at end of tax year to reclaim the 20 euros.

You are gaining 22 euros for every 100 euros given as you are now only paying tax at 20% instead of 42% , this is all provided the covenant amount does not exceed 5% of your income.

Strettie

Thanks Strettie,

Your help and clarification is much appreciated.

I'm still slightly confused as to the ultimate cost to me?

Sticking with the example above, I complete the Deed of Covenant for E 100 and pay over E 80 to the folks each month.

I assume I can account for the E 20 by adjusting downward my std rate cut off point by E 20.

The folks can then claim this back off revenue at the end of the year, subject to conditions etc.

How do I get tax relief being a marginal tax rate payer?

Is my std rate cut off point now increased by E 42 per month, which after the reduction of E 20, means a net increase in my std cut off point of E 22.

Will the ultimate cost to me be E 100 - E 22 = E 78, or will it be E 80 - E 22 = E 58?

Re: Re:Covenants - How do they work?

Couple of points on Covenants:

1. Make sure your folk have some form of PAYE income so that the Revenue dont treat them as self employed and charge levies.

2. Example, subject to 5% limit as mentioned..

you get a deduction for gross amount. (eg 1000 @ 42% = €420 and you pay over 20% deducted €200) This appears in your balancing statement. Revenue might give you relief on your claim for allowances if you put it in.

you pay your folks €800

Cost to you is €800-420 + 200= €580

Your folks are taxed on €1000.

If they have no liability they reclaim €200 you deducted
so they get €800 + €200 = €1000

How you pay depends on the wording of your Covenant.

Revenue are entitled to ask for evidence of payment so this is best via a Standing Order from you to your parents account.

Pitfalls:

1. Can affect NON Contributory pensions. (Some times father will have Contributory and mother may not);
2. Some Revenue types may put your parents in 'self employed' category i.e. try and ensure they have some PAYE income to overcome this;

Covenant itself:

1. Must be for a period capable of exceeding 7 years;
2. Put in a clause where a 3rd Party can stop the payments;
3. You do not have to make monthly payments ..it can be one go;
4. You must deduct standard rate;

Re: Re:Covenants - How do they work?

That's interesting. I setup a covenant payment to my mum last year but haven't filled in the forms yet for her refund or mine (will put it on my Form 12). I didn't see any mention of a 5% limit, just the "permanently incapacitated" clause. I thought that the parties in a covanent could only get tax relief if the covanentee is over 65 or is permanently incapacitated...