While the budget may be the day that grabs the attention, it is the Finance Bill that often has the biggest impact on the personal finances of the nation. And so it is this year. While October's budget will see households across the State benefit to the tune of a couple of hundred euro or so a year, changes announced in the subsequent Finance Bill may have a bigger impact – at least for retirees, potentially increasing their personal income tax bill by about €1,300 a year.
The Finance Act is due to be enacted by the end of the year, which means that, unless challenged, the proposed amendments will come into play in January. So what are the changes and who will they impact?
Farewell AMRF
The big change signalled in the Finance Bill is the abolition of the AMRF, or approved minimum retirement fund.
First introduced in 1999, the aim of this fund is to provide a sort of backstop pension fund for those choosing to invest their retirement savings in an approved retirement fund (ARF).
"An AMRF is, in effect, a special type of ARF, the purpose of which is to ensure a capital or income 'safety net' throughout the latter period of retirement for individuals whose pension income is below the specified income limit," according to last year's Interdepartmental Pensions Reform and Taxation Group report.
Figures from Revenue show that there were about 40,000 AMRFs as of the end of 2019, containing assets of about €2.5 billion, while the rules around AMRFs haven't really changed since they were first introduced.
For those retirees who don’t have guaranteed pensionable income of €12,700 per year and want to put their retirement fund into an ARF, it is necessary to either transfer €63,500 to an AMRF, or purchase an annuity that will bring up your level of guaranteed income to the minimum amount.
You can draw down only a maximum of 4 per cent a year from an AMRF whereas with an ARF you can make a once-off withdrawal of 20 per cent – and you can’t access the full fund until you turn 75.
The relevance of the AMRF has subsided in recent years, however, due to increases in the State pension. Those qualifying for the full State pension now meet the guaranteed income level required under pension legislation.
As noted in the interdepartmental report, the increase in the State pension “renders the requirement redundant for many” and it recommended abolishing the AMRF. They could have instead raised the “minimum income threshold” to meet rising costs but chose not to.
With guaranteed income of €12,911 a year due to the State pension, (which is scheduled to rise to €13,171.60 next year, many retirees no longer find themselves obliged to open an AMRF.
As a result, some see the Finance Bill announcement as an effort to respond to this change, and to simplify pensions.
"It was there to prevent people withdrawing the whole fund [and finding themselves destitute]," says Suzanne Cashin, head of retirement asset services with Brewin Dolphin, of the AMRF rule. "Once the State pension went over that, most people didn't really need an AMRF any more."
However, while those in receipt of the full State pension may not have been bound by AMRF rules, figures from the interdepartmental report show that a sizeable number of retirees did. About a third of State pension claimants are not entitled to the maximum State pension rate. This means that the abolition of the rule is a little bit more complicated than it might first appear.
For Jonathan Sheahan, managing director with Compass Private Wealth, the move will be either "hugely beneficial or hugely negative, depending on what your financial plans are".
Let’s consider the former first.
It seems that, for those with smaller pension funds – the size of the typical pension pot size or below – the change may be welcome.
“With small retirement funds, it caused a lot of hassle,” says Cashin, as it prevented people from accessing potentially much-needed pension funds.
Consider the average Irish retirement fund of €150,000. Once the retiree took the 25 per cent tax-free lump sum to which they were entitled, they would have been left with €112,500 in the fund. But €63,500 of this was locked away in an AMRF, leaving just €49,000 from which to draw down a pension.
“It did affect their post-retirement income,” says Cashin. The change means they won’t have that amount locked away any more.
“It was locked away until such time you got the full State pension, turned 75 or you satisfied the income requirement from another annuity,” she says.
“Now you can get access to that from an earlier stage, without having the full amount ring-fenced,” says Sheahan.
Downside
However, it may not be a positive move for all.
Abolishing the AMRF means that, from January, all outstanding AMRFs will convert into ARFs. This means that these additional pension savings of some €63,500 per retiree will face the 4 per cent mandatory income withdrawal rule each year. And once someone turns 71, it increases to 5 per cent.
As noted in the interdepartmental report, “this may not suit those who are trying to defer drawdown as long as possible for estate planning purposes”.
This is because, as Cashin notes, the move will mean an increase in tax take for the exchequer, as pension fund income is taxed once it is drawn down from the fund. And, if you don’t actually draw down the 4 per cent (or 5 per cent) as required, the exchequer will presume you have and tax you on that basis anyway.
“Imputed distribution will increase tax take,” she adds. And it may be significant. As Sheahan notes, the change could cost you up to about €20,000 in additional tax you hadn’t budgeted for.
Once the AMRF is moved into an ARF, then 4 per cent will be drawn down in income each year in taxable income. This means that a higher-rate taxpayer is likely to face a bill of about €1,300 on this additional income, up to the age of 65, falling slightly thereafter once PRSI no longer applies.
“It’s a tax people hadn’t budgeted for,” says Sheahan.
Indeed, up until the State pension increased in value, someone could have avoided paying tax on the value of the AMRF up until the age of 75; now, depending on when they retire and take out such funds, they will pay tax sooner.
In some cases this tax may never have been due, if the AMRF rolled into the ARF and then passed to a spouse upon death.
Someone retiring at age 61, for example, will face 14 years of tax on these drawdowns, or about €18,200 – tax they may have previously avoided.
“It is quite significant for people,” says Sheahan, “What strikes me is it’s a revenue-raising measure. It’s not as severe as the pensions levy, but it is still a revenue-raising measure.”
Another negative is the potential impact during a bankruptcy process. According to Jim Stafford, managing director of Friel Stafford, the decision to abolish AMRFs is "bad news" for people going bankrupt.
“In a bankruptcy, AMRFs were generally protected. ARFs can be attacked in a bankruptcy,” he says.
Death in service
Another change outlined in the Finance Bill is to make the ARF option available in the event of death in service – ie before you retire.
“This is really, really welcome,” says Sheahan, adding, “it does simplify things a lot more.”
At present, those eligible for death-in-service benefits for funds over four times salary had to purchase an annuity. So, for example, as Cashin explains, someone with a pension fund of €800,000 and a salary of €50,000 would have seen €200,000 paid out tax free to their spouse or partner upon their death.
The remaining €600,000 in the fund had to be converted to an annuity, something which may not offer the best value of money in the current environment. From January, however, funds in excess of the tax-free option will be able to be converted into an ARF.
“That’s a big change,” says Cashin.
Transfers to a PRSA
The Finance Bill also removed the prohibition on transfers from an occupational pension scheme to a personal retirement savings account (PRSA) for members with more than 15 years’ service in the scheme.
In the past, if you were in a pension scheme for 15 years, you couldn't move your fund to a PRSA. Once the Bill passes through the Oireachtas and is enacted, this will be possible. That may be beneficial to pension savers as, by setting up several PRSAs, a retiree may be able to time the drawdown of their various funds, which means they don't all have to happen at the same time.
But, as Sheahan notes, “the devil will be in the detail”. Moving funds into a PRSA, for example, may require a certificate of benefits comparison from an actuary, which can be an onerous and expensive process.
