| PRSAs and unfinished pension business |
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| The legislation to create Personal Retirement Savings Accounts (PRSAs) has been enacted. The PRSA adds to the ever-increasing number of pension products. The area of pensions is now so complex that few potential beneficiaries may understand the distinctions between the various products. |
ARF, AMRF, AVC, RAC, small self-administered scheme (SSAS), pensions mortgages, occupational schemes, State pensions, - and now - - the PRSA! Enormous progress has been made in bringing pensions into the 21st Century but the result is a thicket of acronyms. The man on the street could be forgiven for being thoroughly confused by the range of products available.
What is a PRSA?
The latest entrant to the crowded field of pensions is the PRSA. The Pensions (Amendment) Act 2002 has confirmed the terms on which PRSAs will operate, subject to a commencement order from the relevant Minister, expected to be made later this year.
The PRSA has been described by the Pensions Board as ‘an investment vehicle used for long term retirement provision by employees, self-employed, home makers, carers, unemployed, or any other category of person’. That definition brings out two key features.
First of all, it is about making provision for long-term retirement. So of course are all the other vehicles mentioned above. The second key feature is the range of persons who can use the new product. Up to now the type of pension scheme available to a person generally depended on that person’s status. The most recent survey of occupational and personal pensions in Ireland indicated pensions coverage as follows:
• 52% of employed
• 27% of self-employed
• 46 % of total at work
• 7 % of total not at work
Employees may be offered membership of an occupational pension scheme. Many self-employed persons availed of retirement annuity contracts. Senior owners/managers of businesses could adopt the small self-administered pension scheme (SSAS) route. Up to now there has been relatively little crossover between these different categories of pension.
With modern career patterns and the move to ‘portfolio careers’, an individual might expect to change jobs regularly and end up with pensions from a number of sources - rights under occupational schemes and possibly even retirement annuity contracts from periods of self-employment. The upshot is that nowadays people might expect to end up with a multiplicity of pension arrangements.
Against this background, the key advantage of a PRSA is that it can be used by an individual to provide for his pension entitlements in relation to his current employment, every successive employment he may later have, plus any businesses he may also carry on on his own account. It may even be used as a savings vehicle during periods in which he is effectively ‘between jobs’ although in this latter case tax relief on contributions is deferred.
In short, instead of the pension being tied to the job, it is carried in the knapsack of the worker. This is undoubtedly a great idea but perhaps it was too revolutionary to be swallowed whole. There are a number of restrictions on the practical use of a PRSA, especially by an employee.
Limiting the employee
Firstly, provided an employer does operate an occupational pension scheme for his employees which is open to all employees and provides the usual full range of benefits, he is not obliged to provide access to a PRSA to an employee. Even where an employer is obliged to provide access to a PRSA to an employee, he is not obliged to make any contributions to the PRSA.
On leaving employment (and not retiring) an employee is not entitled to transfer to a PRSA the main benefits in an occupational pension scheme if he has been a member of the scheme for more than 15 years. However, he does have the right to have his AVC fund transferred.
In summary, a PRSA is available to an individual but whether or not it will be used as the vehicle by which his employer provides pension benefits is very much open to negotiation as part of the overall terms of employment. There is no requirement on an employer to contribute to a PRSA but with increasing regulations in other areas of pensions, the fact that a trust is not required may be seen as an advantage.
The annuity aspect
The employer is in the driving seat on the question of whether a PRSA is to be used to provide retirement savings for his employees. Similarly, a PRSA can only be used as an AVC vehicle if the employer and main scheme trustees agree to this route. From an employee’s viewpoint, these restrictions limit the potential attraction of the PRSA approach.
From an individual perspective, the fact that a PRSA offers freedom from the requirement to purchase an annuity on retirement and instead can be paid over to an approved retirement fund (ARF) might be seen as being attractive in that retirement assets remain under an individual’s control. Under the ARF route, a retiree is entitled to retain the capital sum in the ARF as his absolute property, and bequeath it to his family if he still possesses it on death. This facility is also available to the self-employed and also to those employees who are not in occupational pension schemes. It is also available in respect of AVCs paid by an employee under an occupational pension scheme. However, as things stand at present, the ‘freedom from the annuity’ is still denied to most employees.
This may not be an issue where the occupational pension scheme works on a defined benefit basis, as under this type of scheme the employer ultimately meets the cost of providing the pension annuity. The advantage for the employee is that he does not carry the risk of poor annuity rates. However for defined contribution schemes, where the employer is only committed to a specified level of contributions to the pension fund and where the ultimate pension obtained by the purchase of an annuity may fluctuate up or down in line with market annuity rates, an employee has very reasonable grounds for resenting the fact that he remains in what could be seen as an ‘annuity trap’.
Tax
Like all Revenue approved pension vehicles, the PRSA is a gross fund i.e. it is free of tax on income and capital gains. Tax arises only on withdrawals from the fund. Tax relief is available subject to the usual rules in respect of contributions by the employer and the employee as shown in the table.
These PRSA limits compare quite favourably with those for self-employed persons and employees in non-pensionable employment. For example, the 30 per cent band only applies to retirement annuity contracts from age 50 compared to age 40 under a PRSA. Higher limits also apply in the age range 30 - 39. Any employer contribution to a PRSA must be aggregated with employee contributions within the above limits.
Age Max. Contribution
(as per cent of earnings,
capped at ?254,000)
Up to 30 15 per cent
30 - 39 25 per cent
40 and over 30 per cent
In terms of personal investment strategy, a PRSA is confined to investment in collective investment undertakings (unitised funds, etc.). Even though the PRSA is ‘personal’ to each individual owner, his ability to influence investment policy is quite restricted compared with, for example, a small self-administered scheme. Arguably, investment freedom only arrives at retirement via the ARF route.
In summary, PRSAs undoubtedly suit a mobile labour force. For an employee’s perspective, they will be of most relevance in a situation where the decision has been taken to provide pensions on a defined contribution rather than a defined benefit basis. Looking to the future, it is possible that some employers will agree to make contributions directly to a PRSA rather than to a defined contribution occupational scheme given the ‘no Trust’ structure.
Michael Kelly is Head of Pensions & Actuarial services in KPMG. |
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| Article appeared in the May 2002 issue.
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