Managing your Money in Retirement
The idea of managing your money in retirement can take some getting used to.
It is a time when all major points in our life will change – our daily routine, our financial means, our role, status and identity are all affected. Preparing yourself, understanding the time ahead and taking control are all key parts of the planning process and will go a very long way to ensuring you make the most of the exciting time ahead.
Approach and Attitude
Yesterday you had a job with a defined role and the status that it brought with the position; today or shortly this will change. Nevertheless, you are the same person with the same talents that you had before but you are just not using them in your future retirement the same way as you do today. So the first thing to realise is that while our place in the world changes, there is a future full of opportunities.
Do you have a company pension?
Do you know exactly what it is and what it will be after tax?
Will it increase in the years ahead?
Can you enhance it by extra savings?
Is there a spouse’s pension on your death?
New Challenges in Retirement
Managing your money in retirement means facing up to some new challenges and responsibilities in relation to managing our finances.
It is important that we understand our financial situation, that we are familiar with any entitlements we might be eligible to receive and that we have an understanding of our tax obligations after retirement. Depending on your personal circumstances, your employment history, whether you have any personal pension plan in place or whether your employer offers some kind of pension provision, the key aspects to consider include:
1. Understanding your pension benefits and the options available.
2. Understanding your Social Welfare entitlements and other benefits.
3. Managing any lump sum available from your Pension Scheme (and any other capital).
4. Understanding how your personal taxation works.
Pension Benefits at retirement
If you are part of any kind of pension scheme – whether it is Defined Benefit or Defined Contribution – upon reaching retirement age it is usual for your employer (for Defined Benefit) or your Pension Provider (for Defined Contribution) to provide you with a full outline of your exact retirement options.
If you do not receive this information in advance of your retirement, then it is recommended that you speak to your employer or your provider who should be able to provide it to you.
If retiring from a Defined Benefit arrangement then you should understand:
• What your retirement lump sum will be
• What your residual pension will be
• Whether there is any provision included for the continuation of your pension to a surviving spouse on your death in retirement • Whether your pension will be indexed in retirement If you are retiring from a Defined Contribution arrangement then you may have some decisions to make as to how to use the accumulated fund:
• How much can you take as a retirement lump sum (typically 25%)?
• How will you use the remaining 75% to provide an income in retirement? In relation to the 75% you have four main options: i. ii. You can hand over all of the capital to an Insurance Company to buy an Annuity (see below).
You can invest the capital into an Approved Retirement Fund (ARF) from which you must draw down an income each year (see below).
iii. You can do a mixture of Annuity and ARF.
iv. You can draw down the full amount and pay tax on same).
Excess Pension Fund Tax
In some instances, the total value of your pension benefits might exceed €2m in capital value terms. If this is the case, then the Trustees/Administrator has to pay an “excess pension fund tax” of 40% of the value in excess of €2m.
This tax payment will be reflected in your overall benefit payment. In the case of someone retiring from a Defined Benefit scheme, the notional capital value of the pension is calculated as follows:
• DB pension accrued prior to 1/1/2014: 20 x Pension.
• DB pension accrued after 1/1/2014 will be valued based on the retirement age, e.g.
Retirement Age 60: 30 x Pension
Retirement Age 65: 26 x Pension
In the case of Private Sector DB schemes, the notional value is calculated based on the gross pension, before any commutation for a lump sum. In the case of Defined Contribution schemes, the value is based on the fund value at the date of retirement.
ARFs (Approved Retirement Fund)
An ARF is an investment fund available from an approved provider that gives you considerable flexibility in terms of how to use (and invest) your accumulated fund.
The features of an ARF include:
• The funds are held in your name (you retain ownership of the funds).
• You have considerable flexibility in terms of how the funds are invested.
• You can change the investment strategy from time to time.
• You can draw down income from the ARF at any time (but any such income is taxed in the normal fashion as income).
• You must draw down a minimum of 4% of the fund value each year up to age 71 and 5% p.a. thereafter. However if your ARF value exceeds €2m, the minimum drawdown rate is 6% p.a.
• On your death in retirement, your spouse/partner can “step into your shoes” and take over the ARF in their name.
• On the death of both you and your spouse/partner any capital remaining can be left to children (subject to a 30% tax charge where the children are aged over 21).
• An ARF is an investment structure and you will need to get professional advice as to the particular product structure and how you might invest the funds.
• In investing the ARF funds, individuals need to pay particular attention to issues such as investment risk, capital security and access to funds.
ARF v Annuity
Deciding between an ARF and an Annuity is very much a personal decision.
The main attraction of the Annuity route is that you are guaranteed an income for life (and the life of your spouse if you opt for such a structure), but it does mean that you hand over the capital to a Life Assurance Company.
The main attraction of the ARF is that you retain ownership of the capital and can drawdown income as required (subject to a minimum drawdown of 4% or 5% p.a.), but it does mean that you will have to make a decision as to how you will invest such capital for the longer term.
In addition, in the event of your early death in retirement, the capital invested in the ARF is not lost (it can transfer to your spouse –as an ARF – or to children).
A wide variety of factors might influence which is most suited in any particular case. Ideally you should seek independent professional advice to guide you through the evaluation process.
Other Issues Generally on reaching retirement and drawing down your benefits, any Death-in-Service Life Assurance benefits attaching to the Pension Scheme will cease.