The only thing bad about a pension is the word ‘pension’

What if I told you I could give you an opportunity to take money from a company without any tax bill, you’d be interested right? What if I said you can invest the money you took from the company tax-free as well, your interest peaks a bit more? What if I said you could take a lump of cash tax-free at the end as well, your interest should have peaked at this stage, yes?

Why then, when we call it a pension do so many people go glass eyed and are no longer interested? Because we still call it a ‘pension’.

It appears, to me anyway, that the phrase ‘pension’ make people think of being old and grey and getting some pittance of a weekly payment.  That no longer is the case and hasn’t been for a long time, but we haven’t educated people well enough about what a ‘pension’ actually is.

Let’s take an example;

You have a client who owns their own business, (s)he is 40 years of age, married and business is going well and they are thinking of buying an investment property for their ‘retirement’.

Your client has a choice – they can pay approximately 52% tax (highest marginal tax rate) taking the money from the business in salary to buy a property. The rental income from the property would also be taxed at their marginal tax rate.

Now there is nothing necessarily wrong with this as that is the tax system in place, but there is a better and much more tax efficient way to do it, a perfectly legal way to make your clients money go roughly twice as far.

Going back to our example above, (I’m going to give the client a name at this stage, Dave’s business has been going since January 2010 and Dave draws an annual salary of €70K p.a. from the company. Based on the above and assuming no other pension benefits (there are always assumptions in our industry!), the business could make a contribution of approx. €350K to a self-administered pension scheme to allow Dave buy that property.

Buying the Property

So instead of having to take over €700K from the company to buy the property after tax, €350K can come from the company and buy the property – so Dave and the business are now €350k+ better off already.

Straight away this makes sense from a tax and cash-flow perspective for both Dave and his company.

Rental Income

It’s a pension, or as I call it, an extremely tax efficient savings plan, therefore the rent rolls in to the pension scheme tax free, Dave is up to 52% better off by not paying tax on the rental income.

At Age 60 or beyond

From age 60 Dave can take a tax free lump sum from his ‘pension’ of up to €200K from the scheme ( subject to rules – 1.5 times salary or 25% of the value of the scheme).

Let’s say the value of the property is now €500K and between rental income and a few contributions by the company there is €300K in cash in the fund.

Dave can take 25% of the value, i.e. €200K tax free – another gain, Dave has been on a winning streak for quite some time now!

The property and cash can now be transferred to an ARF and the rental income taken as annual income for Dave for his retirement, just like his original intention at the outset.

This approach was a lot more cash and tax efficient for him and his business.  In essence Dave can do roughly twice as much through an extremely tax efficient savings plan known as a ‘pension’ scheme than if he were to take the funds from the company as salary.

A few things to be aware of when buying a property in a self-administered pension scheme

There are a few things advisors and their clients need to be aware of when buying a property in a self-administered pension scheme;

• You pay stamp duty on the purchase

A pension is exempt from Income Tax and Capital Gains tax, not all taxes – be aware of rates of stamp duty for residential and commercial property.

• If the property is a new build there will be VAT payable on the purchase

See above, if it a residential property the VAT cost will most likely have to be absorbed by the pension scheme as a cost.  If a commercial property there may also be on going VAT obligations – registration, VAT on lease payments etc.  Self-administered pension schemes can register for VAT so can claim VAT back but VAT advice may well be required.

• LPT is payable on a residential property and PRTB registration fees and obligations apply to residential properties.
• Legal fees will come in about 1% of the purchaser price of the property, also factor in VAT on fees and the likes of Property Registration Authority fees on registration of a property.
• You should always seek independent investment advice when investing in a pension scheme, to ensure you understand, the investment risks relating to property and other investments
• There are restrictions on the use of property within a pension scheme,
• Property is not necessarily a liquid asset and may have implications on the ability to access a lump sum at retirement

In summary;

We need to educate people for the need to plan for the day when their income will stop, we need to stop using the word ‘pension’ and highlight to them that there is an extremely tax efficient savings plan available that will allow then save for their future in a manner that provides for that day where the government will effectively contribute to it through very generous tax relief, it worked for the SSIA, it can work for a ‘pension’ once we explain it well enough.

Author: Paul Murray is a Director at Quest Capital Trustees, www.qct.ie, 9 Fitzwilliam Square, Dublin 2