Should I buy years or contribute to an AVC/PRSA?

[Brendan Burgess]

Should I buy years or contribute to an AVC/PRSA?

[Written by Brendan Burgess based primarily on data provided by George O’Sullivan]

A public servant may buy years not worked or “earned ” to bring one up to full pension or close to it at normal or early retirement at age 60. This is called Notional Service Purchase {NSP}. This Key Post compares this NSP with contributing to a PRSA.

(In the public service superannuation scheme one may also buy years of pensionable service. The term “buy-back ” is usually applied to purchase of previous service, e.g. pre-marriage service,) part-time ,temporary or years for specific training ,technical or professional expertise. This facility is highly subsidised and should be a priority purchase. )

As a general rule, NSP is better value than AVCs.
It is not often worse to go for NSP, sometimes they are far better than AVCs.

It is a defined benefit {DB}scheme – this means that you will get benefits based on your final salary.
No fees or administration costs are charged
The pension you buy will rise in line with current public service salary increases.
If your salary rises due to promotion, it will be even better value.
It is guaranteed by the state. It is not dependent on stockmarket returns.
Since 2006, there is an excellent DB package for early retirement at age 60.

You can contribute to NSP at any time. Buying just before retirement usually shows the NSP to be excellent value.

Buying earlier on in your career, there are so may variables that it is difficult to say which is better.

In what circumstances should you opt for a PRSA/AVC scheme?

If you are chronically ill and do not expect to live long, you will get more benefit from the pot of money which an AVC scheme can give.
If you have used up all your NSP allowance, then contribute to a PRSA/AVC.
When you retire, you get a lump sum tax free from a NSP of up to 1.5 times your salary.
The AVC scheme is more flexible in that you can take the entire accumulated value of the AVCs on or after retirement. Some will be tax-free and the balance will be subject to income tax.
If you need them, then AVC’s /PRSA’s offer features such as extra life cover and extra spouse cover at extra cost.
You may also use AVC’s to fund for retirement earlier than age 60. If so inclined remember :
(i) as you move downwards from 60 each year becomes progressively more expensive.
(ii)buying the NSP (age 60) package in full ,with up-front cash, first is best.
(iii)you may also retire and draw your NSP pension from age 50 onwards but with actuarial reduction (as with AVC’s because your retirement is going to be longer)


The downsides of AVCs/PRSAs
Most AVC money is invested in stock market related funds which averaged 10% p.a in the 10 years to Dec. 2006. That was before charges ,which may be as low as 2% p.a. for long stay (20yrs) but as high as 6% p.a. for short stay (less than 5ys). AVC funds ,taken out late in life give poor returns because of high entry costs.

Remember, you can leave it to the last minute to buy an AVC/PRSA. or NSP.
If you were to retire on 31st December 2008 (age 65),Revenue would allow you claim tax relief of up to 40% of your yr.2008 pay plus up to 40% of your yr. 2007 pay against total pension purchases. This gives tax-free scope for buying about 2.5 yrs NSP pension or about 16 yrs. tax-free gratuity alone via AVC/PRSA. If you retired some months earlier in 2008 the 40% would reduce pro-rata.


Does it matter whether I am a Civil Servant, a teacher or a health service employee?
The schemes rules differ slightly, but the financial values are roughly the same.

Where can I get independent evaluation of these choices?
Difficult . Most independent financial advisers are not familiar with the intricacies of NSP. and government employers instruct H.R. staff not to give advice.
Civil Service Pensions website
George O’Sullivan does a Pension Optimisation lecture for groups:e-mail: georgebosullivan@eircom.net
http://www.askaboutmoney.com/forumdisplay.php?f=61

www.pensionsboard.ie ( This does not seem to mention public service pensions at all?)

Why do so many people opt for AVCs if the NSP is so good?
Because the NSP is difficult to understand and no one is promoting it. The brokers who sell you the AVCs get paid commission. They get no commission if you opt for the NSP.
The Pensions Commission saw the answers to these drawbacks in SPEARS .

Why do the trade union leaders recommend AVCs?
I don’t know. It makes no sense. Unions generally are strongly campaigning for defined benefit schemes, yet they are promoting defined contribution schemes for public servants.

 

[RainyDay]

Great to see this topic being covered in detail. Some queries below.

A public servant may buy years not worked or “earned ” to bring one up to full pension or close to it at normal or early retirement at age 60. This is called Notional Service Purchase {NSP}.

I understand there are two types of NSP - lump sum purchase and periodic payments purchase, with different rates applying at certain times.

A public servant may buy years not worked or “earned ” to bring one up to full pension or close to it at normal or early retirement at age 60....Since 2006, there is an excellent DB package for early retirement at age 60.

Is the early retirement available to recent joiners (post 199?) of the public service? I didn't think I had any early retirement options, having joined the public sector in 2005.

This facility is highly subsidised and should be a priority purchase. )

I understand that the rates for new NSP purchases went up in June 2006. The old rates still apply for those who had commenced their NSP before that. Is it still great value for those who didn't commence their NSP at the old rate?

If your salary rises due to promotion, it will be even better value.

I understood that the probability of future promotion was priced into the purchase rates, so perhaps this should be the other way round - If you don't get promotions in line with typical progress made by your peers, the purchase may not be great value?

It is guaranteed by the state.

I hate to open this can of worms, but is there any risk that a future Govt could renage on pension commitments to public servants? Has this ever happened in a Western civilisation?

You can contribute to NSP at any time.

WOuld it be more complete to say 'You can contribute to NSP at any time, though Revenue contribution limits may restrict the amount of service that can be purchased'?

Does it matter whether I am a Civil Servant, a teacher or a health service employee?

There is more to the public sector than CS, teachers & HSE! What about semi-states and other public sector agencies? Perhaps the question should be 'Does it matter what part of the public sector I am employed in?'

The Pensions Commission saw the answers to these drawbacks in SPEARS .

What are SPEARS?

Why do the trade union leaders recommend AVCs?
I don’t know. It makes no sense. Unions generally are strongly campaigning for defined benefit schemes, yet they are promoting defined contribution schemes for public servants.

Do any part of the commission payments get fed back to the union?

 

[ajapale]

Excellent post Brendan! and thanks to George O’Sullivan for poviding the information.

I suggest we put "Public Service" into the title and keep discussion focused as much as possible on Civil and Public Service Superannuation.

Some questions:
Are the Defence Forces Superansernuation schemes included within the scope of the discussion?
The Prision Officers schemes?
The Garda schemes?
Public Service state agency schemes like Fas and more recently set up agencies.

I suggest we are clear about what are revenue rules and what are superannuation rules.

I hate to open this can of worms, but is there any risk that a future Govt could renage on pension commitments to public servants? Has this ever happened in a Western civilisation?

Argentina? Also I know DeValera reduced the OAP in the deflationary 1930's I wonder what happened Public Service Pensions at the time?


(aside: I suggest the following discussion could usefully be split from the main Key Post..aj)
Why do some trade unions promote dc style avc arrangements over DB service purhase? I dont know but would hazard a few guesses. Perhaps the DC style arrangements pre date the notional purchase scheme? I imagine that teachers (in particular) had significant earnings from grinds and casual summer work outside education and wanted some what to reflect this in their retirement. So if you were likely to have full service a DC avc arrangement might be good for you.
Also there are some categories of public servant who traditionally are on a low wage but enjoy high rates of non superannuationable overtime or bonuses. In this case it might be preferable to contribute to DC AVC rather than buying DB years of a relatively low basic salary.
Also, I knew a few public servants who retired in the late nineties who envied friends who retired with "fat" DC pensions at the time. They said they would have gladly taken the extra risk associated with the DC scheme had the the opportunity.
I know of some unions who negotiated for the DC avc arrangements with the employers and who invested considerable personal equity into getting the scheme up and going.
Finally Cornmarket, Marsh etc are commercial organisations who are perfectly entitle to promote their products in every legitimate way. If this includes providing incentives to their agents and distributors then this would be just normal commercial practice.

 

[oysterman]

Since 2006, there is an excellent DB package for early retirement at age 60.

The one it replaced was much better. Previously, with 35 years service (or more) you could retire at age 55 (or older) with no reduction in pension. Or, with any amount of service, you could go between 60 and the normal retirement age of 65.

New starters now can't go until 65 without actuarial reduction (they can go as early as 55 but the sliding-scale reductions are very significant (even if they only go a couple of years early; eg. going just 2 years early will cost them 11.5% of ongoing pension, until death). Those in service when the scheme was introduced retain the go-at-60 option or can go as early as 55 (but, of course, with actuarial reduction).

Net, the days of public servants being able to think in terms of age 60 as the usual retirement target are gone for new starters.

The new early retirement scheme is described as "cost-neutral". So, with increasing longevity it's inevitable the actuarial reductions will get bigger over the years.

http://www.finance.gov.ie/Viewprnt.asp?DocID=2962&CatID=28&StartDate=01+January+2005 gives details of the scheme and the reductions.

 

[Jim D]

Hi Brendan, I’m a Financial Advisor by the way and with no connection to Cornmarket or Marsh.

The flaw in the arguments for NSP vs AVC is that you are comparing apple to oranges. People wrongly assume is only a question of comparing the price of one against the other. However both options provide different remedies & benefits, the NSP buys actual years & is a good option if you live long enough or have a spouse left behind after your demise in retirement. The one thing no can predict is how you will live and no one getting out alive! AVC do cater better for passing on the fund if you die in service or in retirement with the ARF option taken.

Also AVC or PRSA AVC is flexible. It might be for Tax Free Cash only, or /and likely ARF benefits (so the fund can be left to dependants in the member dies). The AVC if the member dies in service the AVC fund passes on to his dependants. NSP is not so clear it depends on your service and in a lot of cases if you died and have NSP’s there is likely little or no benefit.

Take this example Johnny starts teaching at 25 (fairly late) takes out a NSP for 5 years to retiring at 60 but poor Johnny dies at 58 (unfortunate para-gliding accident!). Johnny employer will estimate what potential service Johnny would have had at 65 and pay his spouse a dependant pension based on that. Johnny would have had the maximum service 40 years at that point regardless or the extra purchase of 5 years NSP, so all the NSP money bought them nothing extra is in effect down the drain. PS Johnny wife want to know who advises him to take out them feckin NSP's so she can sue them, she’s been informed by her clever Solicitor that if he’d had one of of them AVC's (there great!) she'd have a load of cash (all 20 years of Johnny AVC payments!!). She could have bought a lovely apartment of Eddie Hobbs mate in Cape Verde to console herself!! Stranger things have happened.

The Pensions Ombudsman’s sums it up well

“The important thing to remember is that neither system is necessarily “better” than the other…An assumption is often made…that PNS is always the answer. It is not. It is simply not available to anyone with 40 years potential service, or to those with less than 9 years' potential service…It's no use to anyone who just wants:

- bigger tax-free lump sum
- better benefits for [their] dependants
- to pension non-pensionable pay such as overtime”
…If you want to accumulate money to invest after retirement in an ARF [i.e.
Approved Retirement Fund], you can't use the PNS system to do that.”

 

[Jim D]

Brendan I’m surprised you’re steering people to them to seek PEPS advice from their free “helpline”. I don’t mean to cause offence but however well meaning PEPS may be they not Professionals advisors, not Regulated by the Financial Regulator and they have no Indemnity Insurance. Therefore the quality of advice they would give anyone is not accountable to anyone. There no redress if they give bad advice, no point suing if they have no insurance!

Surely it’s better to see fee based Regulated professional advice on the NSP vs AVC debate, that been the basic mantra of this site for years.

Anyway there is a question, I’m curious is there any Authorsied Financial Advisors (FA’s) out giving fee based advice to people on NSP vs AVC at the moment? Why I am asking? My understanding is that NSP are unregulated scheme and therefore FA’s are directed by the Financial Regulator and Pension Ombusman not to give advice on unregulated schemes such as NSP’s. I’m a Financial Advisor myself and also I checked our Professional indemnity cover that we have and it will not cover advice on unregulated product such as NSP’s. Is there another way?

 

[dafmurray]

I'm a civil servant and am contributing to both an AVC and NSP. The AVC is primarily intended to benefit my wife. Marsh have an excellent booklet outlining the differences between AVC & NSP and the relative advantages of both schemes.

 

[Bedlam]

If I am told that my Avc fund of 20k approx will buy me 1 year of notional service how do I know if this is good or bad value for money.

Any advice / comments appreciated please.

Thanks

Bedlam

 

[LDFerguson]

Get a projection from your AVC provider using conservative assumptions (e.g. 4% fund growth) as to what your projected fund and benefits would be at retirement if you leave the AVC fund alone and add no further money to it.

Work out what one year in the superannuation scheme will get you. Roll your current salary up by an assumed inflation rate.

Compare the two. The AVC would need to offer significantly greater benefits to take account of the fact that it's not guaranteed.

 

[Anfear]

Interesting forum. No doubt you saw a Prime Time programme back in November 08 on Purchase of Notional Service versus AVC's. A letter from the Pensions Ombudsman to an interested party concerning this program, NPS v's AVC and the reference source you used for much of your material G O'S) would make very interesting reading!

 

[LDFerguson]

Interesting forum. No doubt you saw a Prime Time programme back in November 08 on Purchase of Notional Service versus AVC's. A letter from the Pensions Ombudsman to an interested party concerning this program, NPS v's AVC and the reference source you used for much of your material G O'S) would make very interesting reading!

Sorry - I don't understand your point. The Prime Time programme was discussed and debated at length on Askaboutmoney.

Can you clarify what point you're making here and whether or not you have any connection to any of the interested parties?

 

[adviser]

Hi
Thought i would add my comment too.
Firstly lets clear a few things up without a shadow of a doubt NSP's are the best option for any civil servant if they want to buy a guranteed pension due to missing years. There is no argument here and there never has been.

But i think we need to be very careful as we we are missing the whole reason why people do AVCs or PRSA'S.
Most teachers and nurses want the option to retire early normally between the option of 55 and 60 thus thats a completly different option as though the NSP is excellent you sign a contract to work until 60 ? thus early retirement is less attractive substantially as you not alone lose your years by early retirement but you also face actuarial reductiions.thus you may never get what you set out to achieve in the first place.

Also alot of people want flexibility they want options. Not everyone wants pension neccessarilly quite a lot of people fund for ARF purposes or to achieve revenue maximum in retirement. Their spouses may have weak pension thus can manipulate the tax rates very attractivly to get money out of ARFs at the lower rate but have invested and got tax relief at the higher rate. I really cant understand how thats a bad option. Can you explain why.

Also yes of couse markets are down but people forget pensions are for the long haul not 1 year so markets will return.

Finally all i want to say is that no scheme is better than the other as they are 2 completly seprerate things. Advice given on this forum needs to be balanced as people who may not know as much as us or at least pretend to know need to be informed that the right answer for me is different for you. Their is no 1 answer.

 

[laila]

Is it possible to buy NSP's now that I have left Public Service?

Is it possible to go back and buy NSP now that I have left the Public Service. Had 15 years which is now locked in till age 60. Have been in the private sector for 4 years now. Thanks.

 

[Complainer]

Don't think so, but you could always double-check with your old HR dept.

 

[Yazzar]

200K on buying additonal years

I have recently joined a semi-state company, I have the option to buy additional years service as I will only 17yrs service at 60. I have a current pension fund of 200K which I can use to buy additional years. It will cost 16K to buy 1 year of service. My 200K will buy me 12.5 years service. if I do this I will have about 30yrs service when I retire. My question is this good value for my money? or should I just leave it where it is ?.

 

[Complainer]

Semi-state or statutory agency?

Most semi-states have their own pension fund. If your employer has its own pension fund, you should be having a look at the state of that fund. Is it currently in defecit? Is there any risk that your money will go to other people, if (for example) the fund goes bust?

If you are in a statutory agency (less likely, given the recruitment freeze), the pension is unfunded. So the money you pay in just goes into general funds, and you are relying on the Govt being around to pay you the extra years when you retire.

Have a think about these risks before you even consider the value-for-money issues. You should also be thinking about whether you want all your pension eggs in one basket.

 

[oysterman]

You should also be thinking about whether you want all your pension eggs in one basket.

This is gold-plated advice.

In the past there was a tendency to assume that "state" pensions (including public-service and, even, semi-state bodies) were gilt-edged and safer than money in the bank.

They're not and the IMF will undoubtedly provide the state with the cover to renege on all sorts of promises and guarantees.

The OP would be well advised to consider keeping his existing pot as far away from the state's clutches as is humanly possible.

 

[Slim]

My wife has a public sector job. she will be short 4 years servcie at aged 60 due to a career break. With this in mind she started a PRSA in 2007. She contributes €10,000 gross each year to this. She could also buy back these 4 years on the NSP scheme for approx. €60,000. I think it is unlikely we could do both simultaneously, due to limitations on our resources. Assuming no more changes in salaries etc, I was thinking the following:

She would continue to contribute approx. €10k p.a. into the PRSA. During her 60th year she prices a purchase of the NSP. Would it still be approx. €60,000 if no other variables have changed? She would still have a pension fund of some about €100k+ and a full public sector pension. Her decision to purchase NSP would be contingent on her good health at age 59.

Is this (a) possible and (b) sensible?

Thanks Slim

 

[Complainer]

Slim - I wouldn't assume that the NSP scheme will still be available, or will still be at the same price in four years time.

 

[Slim]

Slim - I wouldn't assume that the NSP scheme will still be available, or will still be at the same price in four years time.

Complainer, that's interesting. Is there any evidence that the new government may target the Superannuation Scheme, for established public servants I mean? Slim