Occupational Pension Scheme Contributions
An occupational pension scheme may be designed in any way desired, subject to the conditions and limits in the Taxes legislation and in the Revenue Pensions manual. The extent to which contributions to the scheme are made by the employer and the employee depends on its design and terms.
Schemes range from those in which all contributions are made by employers, to those in which most or all contributions are made by employees. There is a requirement that the employer make a meaningful contribution towards the scheme. In practice, most schemes provide for employer and employee contributions.
Where the employers have not made the maximum contributions, the scheme may allow employees to make additional voluntary contributions (AVCs) or an additional voluntary PRSA. These must be taken into account in working out the maximum employee contribution. The purpose of AVCs and an additional voluntary PRSA is to increase the contributions, subject to a cap of the overall fund maximum.
In the case of a defined benefit scheme, the employer must fund the promised benefits. Under legislative and trust deed obligations, the employer must meet the actuarial estimated cost of the ultimate benefits. This is subject to the options for amendment or discontinuance of the employer’s contributions which might be provided in the trust deed.
In the case of a defined contribution scheme, the employer’s contribution is limited to those actually promised to be made. There is no promise that the ultimate benefits will be of any particular amount.
Tax Relief on Occupational Scheme Contributions
Employees may obtain tax relief on contributions made to an occupational pension scheme. The maximum reliefs available to the employee are the same as those that apply to personal pension schemes. The same earnings cap applies.
A net pay arrangement is where the employee’s contribution is deducted from total pay. In this circumstance, relief against social insurance is effectively available. Net pay arrangements are subject to prior approval by Revenue Commissioners.
An employer may obtain tax relief on contributions made to occupational pension schemes. They are allowed by way of deduction against the taxable profits and gains of the employer’s business, on the basis of contributions actually paid. It is not enough to accrue liability to make the payment.
Employer’s Contributions I
Employers must make a meaningful contribution to their scheme. Formerly, they were obliged to contribute at least one-sixth of the contributions. A meaningful contribution is not defined. Under Revenue practice, a meaningful contribution is made if it at least pays the cost of administration and the cost of death in service benefits or pays at least one-tenth of ordinary contributions.
Employer contributions are allowed as a deduction against employers’ income tax or corporation tax on the basis of actual payment. It is not enough that a legal agreement to make the contribution is entered. Where an employer makes a special contribution over and above the ordinary annual contribution, Revenue will require the deduction to be spread forward over a number of years. The ordinary contribution is measured with reference to the contributions in all the employer’s schemes over a period of years.
A distinction is made in Revenue practice between ordinary contributions and special contributions. In the case of special contributions, those above the ordinary annual contributions, the Revenue may spread relief against the employer’s taxable profit over a number of years.
The contributions in respect of a tax year must be made by October 31st in the following tax year. Therefore, contributions for 2016 must be made by 31st October 2017.
Employer’s Contributions II
Employers contributions to an approved pension scheme qualify for tax relief. The ultimate cap on the amount that may be contributed by the employer is linked to the maximum pension payment that may be made. This is effectively two-thirds of the retirement income based, on either the statutory number of years of service  or subject to Revenue discretion, the uplifted or accelerated scale, set out in other articles.
Tax relief for employer’s contributions is conditional upon the scheme being approved by the Revenue Commissioners. The criteria for approval are set out below. The pension scheme must be for the sole purpose of providing the permissible benefits, comprising principally retirement benefits and certain ancillary benefits, such as death benefits.
Where a special contribution is paid, over and above the basic limit, the excess may be carried forward for as long as the employment continues. Special contributions may be permitted to fund arrears of contributions in respect of back service. Where the total special contributions exceed the total amount of annual contributions paid, they are spread over a number of years represented by the excess of the total special contributions over the standard annual contributions.
Payments to schemes must be made within 21 days of the end of the month of deduction. Employee contributions are effectively held in trust for the scheme. They have special preferential status in the event of insolvency.
If the contributions are such that they would lead to overfunding, i.e., exceed the maximum ultimate retirement benefits, they must be reduced to eliminate the overfunding.
The employer must make a meaningful contribution to the scheme, in order to qualify for Revenue approval. The meaningful contribution must be made annually. Revenue practice requires that a meaningful contribution by the employer should amount to 10 percent of the total funding. An alternative is that the employer discharges the cost of the scheme and the risk benefits associated with it
Pension contributions are deductible in the calculation of the employer’s trading profits on a paid basis. It is not enough that the obligation to pay is undertaken and accrued / owed.
The contributions must be made in respect of employees engaged in a business subject to Irish tax. Therefore, it is not permissible in respect of employees of other employers or employees or in relation to trades outside the scope of Irish Corporation or income tax.
Special Contributions I
The general rule is that contributions are allowed in the year of payment. So-called special employer contributions are required to be spread forward, so that it may only be reclaimed over a number of years. In determining whether a contribution is a special contribution, the total contributions to all pension schemes are aggregated.
Contributions must be spread forward, to be claimed against later years’ profits where the total amount paid by way of the special contribution exceeds the total normal annual contributions paid by the employer in the relevant accounting period. In this case, it must be spread over one or more years.
If the contribution exceeds the normal contributions by a multiple, then it must be spread over the relevant multiple number of years. Where the multiple exceeds five, it is spread out over five years. Where the multiple is between two and five, rules apply to the apportionment of relief between the years concerned.Excess Contributions
Special Contributions II
An employee may make a special contribution, which qualifies for relief, over and above the standard limit. Where the special contribution is made, it is spread forward against any shortfalls in the maximum total contribution in later years. It may be possible to agree on the terms of the relief with the Revenue Commissioners.
A special contribution can be made, only to fund shortfalls in previous contributions. The conditions regarding overall funding and the requirement for the employer to make a meaningful contribution apply.
Additional voluntary contribution to PRSAs may be made without the normal limits.
Single Year Deduction
There are a number of circumstances in which Revenue permits special contributions to be deducted in a single year. Revenue may allow this concession where a policy is earmarked for a single employee. Payments must be made uniformly over a number of years, at least three, and must extend up to normal retirement age. This is permissible even if the payment relates to prior service.
Expenses relating to the establishment and administration of the scheme and to life benefits will be allowed when incurred without the requirement to be spread forward.
A special contribution payable over a five-year period or longer without substantial variation may be permitted. A special contribution for the purpose of purchasing an annuity for an employee at the time of retirement may be permitted as a so-called Hancock annuity.
Excess Contributions I
Employers may make substantial contributions, to occupational pension schemes which are deductible from the trading profits of the business. Furthermore, such contributions do not constitute taxable benefits in kind for the employee. There are no direct caps on total employer and employee contributions. The limits on occupational pension scheme contributions arise from the requirement that the total fund may not exceed the amount required to fund the projected maximum permissible retirement benefits.
As the maximum benefit under an occupational pension scheme is effectively two-thirds of final salary as projected forward on the basis of hypothetical salary increases, the effect is that employers may make very substantial contributions. This is particularly so, where the scheme has not been funded over a long period of time. Since the financial crisis, overall fund limits apply.
The only limit (formerly), to the size of a fund, was that based on projected final salary. The permissible contributions which could be paid by an employer were very high. The advantages have been limited progressively by limits on the fund size.
LImits on Funds Size
The occupational pensions scheme contribution rules have incentivised pension planning for proprietary directors and senior employees. Because of the low rates of corporation tax combined with high rates of personal tax on the extraction of profits, many corporate business owners, who did not have substantial existing pension provision, were incentivised to ay substantial funds to occupational pension schemes for their ultimate benefit. Commencing in the mid-2000s, substantial restrictions have been put and the overall fund size and contributions that are tax relieved.
With the exception of the lump sum that may be permitted under an occupational pension scheme), personal pension scheme or PRSA (usually on retirement, payments from the pension fund, whether converted into an annuity or an approved retirement fund, is subject to income tax on payments to the beneficiary. In essence, the substantial tax breaks on contributions are clawed back by the income tax on payments from the funds.
An additional and very significant benefit is that the investment income of the pension scheme fund, whether in a life insurance company policy or other entity which is permitted to hold pension assets, accrues, reinvests and accumulates tax-free. This is a very significant advantage. The cumulative compound effect of the untaxed investment returns over many years of investment (and reinvestment) yields a significantly larger fund than could accrue if the returns were taxed in the same manner as other investment income.
The overall cap on the scheme size derives from a number of distinct requirements. There is a cap on the maximum fund size. The cap has been reduced dramatically since the 2008 financial crisis. There are overall limits of the fund size by reference to projected final salary and number of years of service. There are also caps on the maximum remuneration that can be tax relieved, in the case of employee contributions. Employers are also constrained in relation to the extent to which exceptional contribution can be relieved in the calculation of business profits.
The maximum value of the scheme contributions cannot be greater than the amount required to fund the final salary promise in accordance with Revenue criteria. At the turn of the Century, many schemes came to be over-funded, and employers looked at methods of taking excess assets from the scheme. Since the financial crisis, under-funding is much less commonly encountered.
If for example, a scheme promises a pension of two-thirds of the final employment income, then the scheme cannot be funded to the extent that provides benefits greater than this limit. Tax relief would not be available under Revenue rules. A contribution holiday might be taken.
The following caps apply to the amount of annual income which employees may contribute;
- Under 30 years of age, 15%;
- 30 to 39 years of age, 20%;
- 40 to 49 years of age, 25%;
- 50 to 55 years of age, 30%;
- 55 to 59 years of age, 35%;
- Over 60 years of age, 40%.
The maximum remuneration that can be allowed in calculating the above percentages is €254,000 or actual remuneration.
Employees can seek a refund of contributions from Revenue. More commonly, the tax relief is at source. PRSI, USC and levies are calculated net of the pension contribution.
Greater contributions are permitted, but tax relief will not be available to the employees. Tax relief is available for the employee [at the highest marginal rate]. In addition, the contribution is deducted from income in the calculation of levies and the Universal Social Charge.
Refunds / Transfers
In certain circumstances, pension contributions may be refunded or may have to be refunded. This can arise on account of an error, winding up, excess assets or a member taking a refund of his (but not the employer’s contributions) on leaving employment.
Over funding refers to the pension scheme’s assets being excessive, relative to the maximum permissible benefits. The employer may take a contribution holiday or may improve benefits in accordance with Revenue limits. In this way, the monies may remain in the scheme. Employee refunds, where permitted, are taxable as income.
Employees leaving employment may have their contributions and fund transferred. Transfers can be made to other pension funds, PRSAs or Buy Out Bonds. Certain conditions attach to the transfer. When transfers are made to other pension vehicles, there will be no taxation consequence.
An employee can remain a member of a pension scheme notwithstanding temporary absence or secondment, outside the State. Conditions apply. Revenue approval is required in certain circumstances, in particular, where the period of leave is more than 5 years.
Tax Treatment of Pension Contributions, post 2006/8 changes
- Occupational Pension Scheme Contributions
- Tax Relief on Occupational Scheme Contributions
- Employer’s Contributions I
- Employer’s Contributions II
- Contribution Issues
- Special Contributions I
- Special Contributions II
- Single Year Deduction
- Excess Contributions I
- LImits on Funds Size
- Fund Maxima
- Employee Maxima
- Refunds / Transfers
- Tax Treatment of Pension Contributions, post 2006/8 changes