Going, going, gone. How to optimise your pension nest egg if retired or are terminally ill

Pensions are great. In my mind they should rank equally with the weather when it comes to conversation- how’s your pension doing? If I retire before June do I have to pay Minister Noonans 0.75% levy? That type of thing. If we had that type of culture then all of the little nuggets of advice would be common knowledge and you wouldn’t have to rely on articles such as this to improve your situation. And it would be natural to discuss pensions at what would be otherwise be seen as an insensitive time – when someone is dying for example. It’s at times like this that financial advice can be most lucrative yet as a society we would frown upon someone presenting a tax saving idea while visiting you in the ICU.

But this shouldn’t be the case. Knowing about obscure pension tax planning rules that can make the world of a difference to your own or your family/friends’ finances. What’s boring about knowing how to give your own family members thousands of euro’s extra per year potentially instead of giving it to the tax man? Ignorance is not bliss when it comes to pensions.   A pension is simply the most tax efficient investment available and knowing how to keep your hard earned nest egg tax efficient when you retire and beyond is potentially worth a lot of money.

So in an unusual departure we will look at the estate planning opportunities for two categories of individual – someone who has already retired and someone who is terminally ill.

Top tips:

Estate planning for those who have already retired

If you have already retired you will have spent your pension funds in one of two ways – you’ll have bought an annuity or on an Approved Retirement Fund (or possibly a combination of both).

If you’ve bought an annuity, generally they  annuities can be set up on a single life basis where the income dies with the annuitant or they can be set up on a joint life basis where a proportion of the income passes on to a dependant on the annuitants death.

So from an Estate planning perspective the tax planning boat set sail at the point you made the investment in the annuity and the tax exposure if any is limited to income tax for those who bought an annuity with some form of dependants benefit.

However if you chose to invest in an Approved Retirement Fund there are valuable measures you can take to avoid unnecessary exposures on your Estate.

Generally speaking investors who opt for the ARF are usually happy to find out that, should they die, their ARF passes to their spouse without any inheritance tax charge. But this is slightly misleading – what actually happens is that the spouse steps into the ARF holders shoes without an inheritance tax charge but if they then make a withdrawal from their ARF they pay marginal income tax, USC and PRSI.

However ARF assets can be inherited by anyone, not just the spouse, and the tax treatment differs according to the relationship to the ARF owner. Surprisingly it can actually be far more efficient to leave ARF assets to a child than a spouse as demonstrated by the table below – consider the table below where an ARF of €200,000 is inherited by different beneficiaries and is drawn down immediately.

Whatever you do, don’t jump in straightaway and start rewriting your Wills – there are countless considerations to take into account before deciding the best course of action for your own situation – for example your spouse could stagger the drawdown of the ARF and draw the income tax efficiently by availing of their annual tax credits over a period of years, in which case leaving the asset to the spouse might be far more efficient in the long run.

This is a specialist area and you need to take advice to fully exploit the opportunities for your unique set of circumstances.

Estate planning for someone who is terminally ill

In an environment where the Exchequer has no problem raiding your pension for levies to prop up the State’s finances you can at least maximise your pension pot by tidying up your affairs prior to death and avoiding otherwise inevitable tax charges.

As usual the following ideas are merely invitations to treat and their relevance for you needs the help of suitably qualified financial advisers.

Playing within the rules

Revenue rules on death are complex. Holders of Personal Pension and PRSA contracts enjoy the certainty of knowing that in the event of their death 100% of the value of their pension fund is paid to their Estate. Active members of occupation pensions are subject to a Revenue formula where the maximum lump sum death benefit calculated as 4 times ‘final remuneration’. And to confuse matters even further, deferred members of occupation schemes (and most Buy Out Bond holders) aren’t subject to Revenue rules  – their benefits are deemed ‘preserved’ and are dictated by Pensions Act rules, which require 100% of the value of the benefit to be paid to the Estate.

Therefore if you fall into the category where the death benefit is restricted to 4 times final remuneration you can improve the position very significantly by moving to one of the other categories where 100% of the benefit becomes payable. This needs careful guidance from a professional advisor.

Over the threshold?

If you fall into that exclusive club where your pension fund is already over the permitted threshold of €2m (where excess above is exposed to potential taxes of 70%+) then you can avoid all taxes if you die. The entire value of a ‘preserved’ fund can pass to you Estate without being treated as a Benefit Crystallisation Event for tax purposes i.e. your pension administrator does not have to carry out a test to see if the value of the pay-out exceeds the €2m threshold.

Deaths door concession

If your future lifespan is unquestionably short then you may qualify for the deaths door concession – a Revenue concession where an occupational pension benefit can be paid out in advance of death at a preferential tax rate of 10%.