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What are normal retirement options?

As an employee/executive, you may avail of the following options on retirement:

  1. Lump sum
  2. Pension or Retirement Annuity
  3. Transfer an amount to a post retirement fund called an Approved Retirement Fund (ARF)

Lump Sum

A lump sum is defined by the Revenue Commissioners as a “lump sum that is paid to an individual under the rules of a relevant arrangement by means of commutation of part of a pension or part of an annuity or otherwise”. An amount may be taken of up to 1.5 time’s final remuneration if one has twenty years’ service subject to a maximum of €200,000 tax free.

For proprietary directors (that is, having 5% or more ordinary shareholding), an amount of up to 25% of the value of the fund subject to €200,000 cap is permitted tax free. Any amount over the €200,000 up to an overall limit of €375,000 can be taken subject to the standard rate of income tax (currently 20%).

Maximum limits apply to the overall amount which may be taken as a lump sum, tax-free or taxable, that is, 25% of €2,3000,000 which is currently not subject to indexation (referred to as the Standard Fund Threshold).

Pension/Retirement Annuity

The remainder of the fund can be used to purchase a retirement annuity (annual income) from a life assurance company. This is the traditional alternative. The retirement annuity is guaranteed for life while the capital is lost to the individual although annuity purchasers should choose an annuity which has a guaranteed option of at least five years to protect some of the capital used to purchase the annuity. The annuity will be liable to income tax which will be collected by the insurance company operating PAYE in paying the annuity to you.

Most life assurance companies do not limit the purchase to the life assurance company in which the monies were originally invested. This is usually referred to as an open market option.

The level of the annuity payable will depend on the type of annuity purchased. There are a number of options here:`

  • A level (or non-indexing) pension will remain constant for the life of the policyholder. This may commence at a satisfactory level but will reduce in real terms over time due to inflation effects.
  • An escalating (or indexing) pension may be purchased with increases at a set percentage every year, say consumer price index amount or 5% p.a. The obvious advantage with this type of pension is that the pension payment increases in line with or above inflation.
  • If married, a retiree may wish to provide a retirement income for his/her partner. A spouse’s pension will ensure that the pension that will continue to be paid to a spouse in the event of death in retirement.
  • As above, there is the option of providing escalation on the spouse’s pension.

Notes

  1. The more benefits added to the annuity, for example, escalation etc., the more expensive it becomes and has the effect of reducing the pension amount to the policyholder.
  2. The ‘Annuity Rate’ is the rate at which the pension is purchased, for example, it will typically cost €100 for every €5 pension (increasing) payable. A level annuity may provide an income at 6.5% of the fund.
  3. A policyholder may build in one final option which ensures the full pension amount is paid to the next of kin on death for a limited period typically 5 or 10 years.

Invest in an Approved Retirement Fund (“ARF”)

(applies only to DC Schemes and personal and/or AV C contirbutions)

An Approved Retirement Fund (ARF) may be described as a post retirement fund into which part of an individual’s retirement fund can be transferred to upon reaching their retirement age as noted above. ARFs are an alternative to the more traditional route of purchasing an annuity or pension on retirement. The benefit of an ARF is that the individual retains control of the investment, can take any annual income or gains from the fund and then leave the investment to the next of kin on their death. For example, an ARF could be a deposit account, a portfolio of equities, a property or a life assurance company’s managed fund. The individual is the beneficial owner of the assets.

An individual can withdraw funds from an ARF at any time and there is no maximum withdrawal. Income tax and levies will be payable on any amounts drawn down from the ARF. There is an imputed distribution on all ARFs in February of each year which is currently 5% of the value of the ARF. ARF holders are required to pay income tax and levies as if they had withdrawn 5% of the fund regardless of whether or not this actually occurred.

Tax is calculated by reference to the ARF value on 31 December each year and is to be regarded as a distribution made no later than February of the following year. No imputed distribution will be made from an ARF in February, where, in the previous year the ARF holder had taken total withdrawals from the ARF of an amount at least equal to the rate of imputed distribution for that year. In this regard it is more tax-efficient to take sufficient actual withdrawals in any year to avoid double taxation.

Before being allowed to invest in an ARF an individual must first meet be in receipt of a guaranteed pension/annuity for life of at least €18,000 p.a. which can include the state pension if it is being received at the time or will have to invest at least €120,000 into an Approved Minimum Retirement Fund (AMRF). An AMRF is the same as an ARF but cannot be drawn until age 75.

By way of example, an ARF could be a deposit account, a portfolio of equities, a property or a typical fund as offered by the life assurance companies. The individual is the beneficial owner of the assets and is taxed as such. The ARF does not pay tax on income or gains; rather the individual is liable to account for any income or gains in their annual tax return.

The benefit of an ARF is that the individual retains control of the investment, can take an annual income or gain from the fund (or leave it intact) and from a next generation tax planning point of view, leave any residual investment to the next of kin on death.

The only difference between an ARF and an AMRF is that the original capital invested may not be withdrawn until age seventy-five. Any income from gains generated may be withdrawn at any time.

 

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