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An extremely tax-efficient savings plan

Nov 29, 2018

By Paul Murray

If I told you I could give you an opportunity to take money from a company without any tax bill, you’d be interested right? What if I said you can invest the money you took from the company tax-free as well, your interest peaks a bit more? What if I said you could take a lump of cash tax-free at the end as well – your interest should have peaked at this stage, yes?

Why then, when we call it a pension, do so many people go glass eyed and lose interest? Because we still call it a pension.

It appears, to me anyway, that the word ‘pension’ makes people think of being old and grey and getting some pittance of a weekly payment. That is no longer the case, but we haven’t educated people well enough about what a pension actually is.

An extremely tax-efficient savings plan

You have a client – let's call him Dave – who owns his own business. Dave’s business has been going since January 2010 and Dave draws an annual salary of €70K p.a. from the company. He is 40, married and business is going well and he is thinking of buying an investment property for his retirement. Dave can pay approximately 52% tax (highest marginal tax rate), taking the money from the business in salary to buy the property. The rental income from the property would also be taxed at the marginal tax rate.

While there is nothing necessarily wrong with this as that is the tax system in place, there is a better and much more tax-efficient way to do it – a perfectly legal way to make Dave’s money go roughly twice as far.

Based on the above and assuming no other pension benefits, the business could make a contribution of approximately €350K to a self-administered pension scheme to allow Dave to buy that property. Instead of having to take over €700K from the company to buy the property after tax, €350K can come from the company and buy the property – so Dave and the business are now €350k+ better off already. The rent from the property rolls in to the pension scheme tax free and Dave is up to 52% better off by not paying tax on the rental income.

This is a pension. Or, better yet, an extremely tax-efficient savings plan.

Retirement

Let’s say the value of the property by the time Dave is 60 is €500K and, between rental income and a few contributions by the company, there is €300K in the fund. Dave can take 25% of the value for retirement, i.e. €200K, tax free.

The property and cash can now be transferred to an ARF and the rental income taken as annual income for Dave for his retirement, just like his original intention at the outset.

This approach is more cash and tax efficient for him and his business.  In essence, Dave can do roughly twice as much through his ‘pension’ scheme than if he were to take the funds from the company as salary.

We need to educate people on the need to plan for the day when their income will stop. We need to stop using the word ‘pension’ and, instead, highlight to people that there is an extremely tax-efficient savings plan available that will allow them to save for their future in a manner where the government will contribute to it through very generous tax relief. It worked for the SSIA – it can work for a pension once we explain it well enough.

Paul Murray is a Director at Quest Capital Trustees.

This article was first published in The FM Report.