Wednesday, 25 November 2009

New report shows over €8 out of every €10 of pensions tax relief goes to top earners

Gerry Hughes: In a series of reports on our pension system, TASC and the TCD Pension Policy Research Group have argued that the tax relief on pension contributions should be given at the standard rate of tax, in the same way as are the tax reliefs on health insurance and mortgage interest payments.

A report from the ESRI provides new evidence on key pension policy issues which shows that over 80 per cent of the tax relief accrues to taxpayers who are in the top 20 per cent of the income distribution. The report estimates that if the tax relief were given at the standard rate of tax it would provide revenue of over €1 billion per year which could be used to sustain State pension levels in the future as the population ages.

It could also be used to sustain the income of current pensioners. A report from Older & Bolder on older people’s experience of the recession notes that older people have been adversely affected by a range of expenditure cuts including the suspension of the Christmas bonus and reductions in frontline health and social care services. In addition the fear factor for older people has been increased by suggestions that social welfare should be cut in the forthcoming budget and the likelihood that tax revenue which could have been used to improve public pensions, long-term care and primary health care will be used instead to pay interest on the national debt.


Joseph said...

I know people who get more in top rate tax relief on pension contributions each month than most unemployed people receive on the dole. It always strikes me as odd how those very same people are usually the first in the queue to start shouting about how those people 'scrounging' off the state should have their benefits cut.

Proposition Joe said...

80 per cent of the tax relief accrues to taxpayers who are in the top 20 per cent of the income distribution

Why is this so surprising?

The 2006 Revenue income distribution stats show that the top 19.72% of earners pay 77.86% of the income tax.

So the distribution of the tax relief closely follows the distribution of the lax liability. Obviously you can't have one without the other.

Proposition Joe said...

My kingdom for an edit button ... obviously I meant the tax liability.

Gerry Hughes said...

I agree with you. It is inequitable to concentrate pension tax reliefs on those at the top of the income distribution and galling to have the beneficiaries criticise the meagre payments to those on social welfare.

Proposition Joe,
The outcome you note has been known for a long time to critics of tax expenditures. In fact they use it to show the 'upside-down' nature of giving tax reliefs at the marginal rate in a progressive income tax system which benefit higher income taxpayers most and lower income taxpayers least.

The redistribution involved cannot be justified by any equity principle I know of which is used in tax or social policy analysis. If you disagree, I'd be interested in hearing why.

Pavement Trauma said...

So there will have to be an exact calculation done of the cost of employer contributions to individual public sector defined benefit plans? 'Cos that alone might make this a very worthwhile proposal indeed.

Assuming, of course, it isn't fudged and based on a pay-as-you-go basis.

Proposition Joe said...

The redistribution involved cannot be justified by any equity principle I know of which is used in tax or social policy analysis. If you disagree, I'd be interested in hearing why.

Because its not redistribution that's going on here, rather its a deferal of tax liability.

If there's no tax liability, there's nothing to defer.

Though one could argue that only a limited amount of income should be capable of having its tax liability deferred in this way. A threshold of say €30k p/a would be reasonable.

Though this would obviously present a complication for the tax treatment of the large pension contributions made by, and on behalf of, senior public servants (currently circa 6.5% superannuation, 9% pension levy, plus 15-35% notional employer's contribution depending on the exact pension entitlement, which would put quite a few public servants above a €30k threshold).

Gerry Hughes said...

Pavement Trauma,

What you are suggesting has already been done in the Report of the Public Service Benchmarking Body in 2007. A comparison by a firm of actuarial consultants of the cost to the employer of the pension contribution for public service workers and private sector workers showed that the cost to the employer in the public sector is 20% while in the private sector it is 8.5%. The Benchmarking report notes that "having regard to actuarial advice received the Body decided that the superior value of public service pensions should be quantified as 12% of salary and that a discount of this amount should be applied in comparing remuneration levels in the public service and the private sector."

Gerry Hughes said...

Proposition Joe,

Ireland uses an EET regime under which pension contributions are exempt (E) from tax, the return on investments is exempt (E) and the pension is taxed (T). This arrangement amounts to a deferral of the tax on the pension contribution only when the taxpayers' marginal tax rates in work and in retirement are the same. Taxpayers gain considerable advantages from being able to defer payment of the tax relief on their pension contributions for a very long time and from being able to accumulate returns on investments and capital gains which are exempt from tax. Taxpayers gain further advantages if they have a lower marginal rate of tax in retirement than when working and if they avail of the option to commute part of their pension for a tax free lump sum of up to one quarter of the value of the pension. A further advantage accrues to taxpayers from having a higher tax exemption limit in retirement than younger people. All of these features are present in our tax arrangements for pensions. Their net effect is that revenue which could have been available to the government is redistributed instead to mainly higher income taxpayers to subsidise their provision of a private pension in retirement.

The OECD has analysed our pension tax arrangements on a number of occasions and it concluded in its Economic Report on Ireland 2008 that:

"The foregone revenue from these tax subsidies is already very large at 1.5% of GDP. Although pension income is in principle taxed, the tax exemption limit for those aged over 65 is €34,000 for a couple. This implies that few older households will pay any income tax and many of those who do will pay less than younger people with the same income. As a result, a tax system that aims for pension savings, returns and income to be subject to an "exempt-exempt-tax" (EET) regime is in effect fairly close to being an "exempt-exempt-exempt" (EEE) system where income chanelled through pensions is unlikely to be taxed at any point of the life cycle."

Proposition Joe said...


Certainly that last 'E'-ish should be a fully blown 'T', as there's no argument for favourable tax treatment of retirement income (other than the retirees' propensity to vote).

The middle 'E' certainly has to stay in place, to maintain any sort of basic equity with the half million workers on defined benefit pensions who don't have to worry about returns on investment. Having to take on all the risk and a tax liability on uncertain returns would be highly unfair on those covered by defined contribution schemes.

The first 'E' should in my opinion be simply limited by amount rather than rate.

WRT to the Benchmarking body's estimate of the actuarial value of public sector pensions being 20% of salary, are you seriously telling me that you take any Benchmarking data at face value? (When discussing the cold hard economics, as opposed to the politics, of pay and pensions).

A rigorous analysis by Dr Shane Whelan and Michael Moloney of UCD showed the benefit for civil servants to be to 50% higher at 30%. Other estimates for professions with even more favourable pension terms range from a value equal to an extra half salary for Gardai, to a whopping 70% for the judiciary.

Ernie Ball said...

@Proposition Joe

No, of course we don't take benchmarking data at face value. Instead, we pull salary differential and pay cut numbers out of our arses and insist that the public sector accept them.

Pavement Trauma said...


The 20% figure was very much an average over the overall public sector - as Prop Joe pointed out there was considerable variation across different areas. Showing that figure on each individual payslip (as defined benefit pension members do) would be highly educational for a lot of people.

Also, IIRC, it used the government borrowing rate as its discount rate - rather than the higher rate a commercial enterprise would use - which reduced the cost of the pension from ~30% to 20%. If we are talking about the value of something for tax purposes, then there should be a level playing field and a common discount rate used across the board.

A precedent here would be the 'specified rate of interest' that is used to calculate the taxable benefit to employees of preferential loan rates (BIK) - the idea being is that the value of the benefit to the receiver is taxed not the cost of the benefit to the supplier.

So - good news - the proposal could raise a good bit more revenue than the ESRI report estimated!