| Employers need to take stock of pension provision now |
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| It will shortly become mandatory for all employers to provide a pension scheme for their employees in order to increase pension coverage in Ireland. If this aim is not achieved, compulsory contribution by employers might be on the Government’s agenda for the future writes Paul Kenny. |
Last year, the Pensions (Amendment) Act introduced the Personal Retirement Savings Plan (PRSA). This is a new savings vehicle, whose purpose is to encourage an increase in the amount and extent of retirement saving in this country. It was recommended by the Pensions Board in its report on the National Pensions Policy Initiative. NPPI (pronounced ‘Nippy’) was a consultation process that came about following a report from the ESRI in 1997, which revealed only about one half of the working population could look forward to any kind of financial provision for their retirement, other than social welfare benefits.
This average - 52 per cent, in fact - concealed wide variations, from coverage of almost 100 per cent in the public service, to eight per cent among employees of firms with fewer than 50 workers. If such people were to be encouraged to accumulate retirement savings, a new product was needed. It had to be cheap, flexible, portable and readily accessible. That product, the PRSA, will be available on the market from mid-February 2003.
The PRSA is intended to do a number of different jobs. Firstly, it is available as an alternative to existing Retirement Annuity Contracts (RACs), currently used by the self-employed and by those in non-pensionable employment. Secondly, it is supposed to be attractive to those who currently are outside the ‘market’ for retirement savings. Thirdly, it can take the place of Additional Voluntary Contributions (AVCs) for a pension scheme member. Finally, with certain restrictions, it can receive transfers of benefits for early leavers from those schemes.
The legislation provides for two kinds of PRSA, a standard product and a non-standard one, both of which must be approved by the Revenue Commissioners and the Pensions Board. However, the standard PRSA is restricted to investing in unitised funds, and there is a ‘cap’ on the management and investment charges that may be made. These restrictions do not apply to non-standard products, though the Minister for Social and Family Affairs has power to regulate these if necessary in the future.
Restrictions are placed on the maximum figure that can be required by a provider as a minimum contribution to a PRSA; no charge can be made for transfer to another PRSA product or to another PRSA provider. Significantly, bearing in mind the main target groups, no charge can be made either if a person decides to discontinue PRSA contributions and resume them after an interval.
Providers of PRSAs are banks, insurance companies and credit institutions. The providers themselves are subject to the normal regulatory processes - at present, the Central Bank or the Department of Enterprise, Trade and Employment, as appropriate in this country; or a home country regulator in the case of a provider resident elsewhere in the EU. However, for the first time, the actual product being sold is subject to specific approval procedures, and it is illegal to describe something as a PRSA unless it has been duly licensed.
The product itself will operate on a defined contribution (‘money purchase’) basis: contributions are invested, and the accumulated fund can be used at retirement age to provide a lump sum tax free, a pension for the individual and his/her dependants, or can be invested in an Approved Retirement Fund (ARF), subject to the conditions laid down in the Finance Acts for these. ARFs are the tax-deferred investment vehicle introduced for the self-employed and proprietary directors in 1999, and extended to all AVCs a year later.
PRSAs will behave differently for different individuals, depending on their employment status. For the self-employed, they behave exactly like the existing RACs, except that the tax reliefs available between age 30 and age 40 are more attractive. Minimum and maximum retirement ages are the same (60-75). One quarter of the fund can be received as a tax-free lump sum, with the balance to purchase pension or be invested in an ARF.
For employees, the PRSA will be treated as if it were an occupational pension scheme, subject to the same Revenue limits on benefits and contributions. For members of occupational pension schemes, they will behave exactly like AVCs. Indeed, existing AVCs can be transferred to PRSAs without restriction. However, while PRSA proceeds can be transferred to occupational schemes, there are restrictions on transfer in the opposite direction. This can be done only if the individual has been a member of the scheme for less than 15 years.
The Pensions Act imposes certain obligations on all employers. Unless every employee has a right to become a member of an occupational pension scheme within six months of joining the employment, the employer must:
• Offer at least one standard PRSA;
• Give employees prescribed information;
• Afford them access to financial advice and paid time off to receive it;
• Deduct and remit contributions to the PRSA provider;
• If there is a pension scheme, but no facility for AVCs, offer a standard PRSA for this purpose.
The term ‘employee’ covers anyone working under a contract of service, with no age limitation. Many employers will find that there are people on the payroll who are not eligible for pension scheme membership within six months - if at all. Excluded employees could cover part-timers who are outside the scope of existing legislation (e.g., because they work less than 20 per cent of the standard working hours); those on short-term contracts; even those who may be over-age to join the pension scheme.
Although the employer must deduct employee contributions, there is no obligation on the employer itself to pay. Any contributions, whoever pays them, must be remitted to the PRSA provider within 21 days of the month end in which they are deducted or paid; and must be invested within a further 10 days. Employees must receive formal notification of amounts deducted and paid. Employee contributions are given tax and PRSI relief at source, as is the case for occupational pension contributions at present. If the employer does pay a contribution, this becomes a benefit-in-kind for the employee, but is then subject to tax relief as if the employee had paid it himself. Thus, if total contributions do not exceed allowable limits, no assessment to tax arises.
PRSAs are not a total substitute for occupational pension provision. As they cannot be ‘bundled’ for sale with any other product, there is no effective way of providing a reasonable death-in-service benefit through these products - the only tax-effective way to do this is through a trust-based scheme. Nevertheless, PRSAs will undoubtedly attract some employers as an economical way of delivering retirement savings to employees. This will be particularly true for employers who wish to maintain an ‘arm’s length’ relationship with employees, transferring the responsibility for retirement provision to them.
PRSAs are, to an extent, a substitute for defined contribution pension schemes. For that reason, employers who provide this type of pension scheme may well decide to change what they offer. It is however, unlikely that many employers will change directly from defined benefit schemes to PRSAs in one jump. The decision to change from defined benefit to defined contribution is part of a different debate - one that is fuelled by other considerations - fund solvency, accounting standards, and so forth.
What it does means for employers is this - they must now take stock of where they stand in relation to pension provision, examine critically what they have, and decide to what extent it continues to serve its purpose. They must examine closely their obligations under the law. Perhaps these can be met with a minimum disturbance of existing arrangements, with a standard PRSA added. Or perhaps it needs a radical re-think of how benefits are provided, a fundamental overhaul of the rules - and maybe, a standard PRSA as well. Whatever the end result, it will be reached only after expert advice and full consultation.
PRSAs are now firmly part of the landscape of retirement provision. Whether they achieve their original purpose of extending the amount and coverage of retirement provision, remains to be seen. Further along the road lurks the possibility that if the aim of increasing coverage (from 52 per cent to 70 per cent) is not achieved, compulsory contribution by employers might be on the Government’s agenda for the future. |
Paul Kenny is head of retirement research at Mercer Human Resource Consulting Ltd.
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| Article appeared in the January 2003 issue.
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