As we approach significant changes to pension policy in Ireland, updates announced in the Financial Bill 2024 outline what the new Standard Fund Threshold means for high earners, including a phased increase in the SFT for pensions from €2 million to €2.8 million by 2029. This decision is a remarkable turning point in the core policies of pensions, particularly addressing the high earning employees in public sector. The SFT, a cap on the amount of money that a person can hold in his or her retirement saving account without incurring in severe tax penalties, has often been the bone of contention for several professionals. However, what are the implications of such changes for the Irish pensioners, particularly what the new Standard Fund Threshold means for high earners?
The main motivation for increasing the SFT is to tackle the recruitment and retention challenges in senior public sector roles. A pension fund threshold of €2 million has led to very high tax liabilities, especially for those with high income and pension pots above this figure, leading to a 40% Chargeable Excess Tax (CET) on the excess amount. As a result, they have been a disincentive to long service and advancement within the career progression, particularly in crucial sectors like Gardaí and civil service.
For instance, some senior public servants, such as doctors, principal officers, and Gardaí in higher positions, have been hitting the pension threshold well before retirement age. Concerns over high taxes have also made these professionals to retire early or refrain from accepting senior roles, which worsens the shortage of key public services staff. A gradual rise of the SFT until reaching €2.8 million, is what the government in principle does to give some satisfaction and persuade these professionals to remain in their roles, and contribute to the stability and effectiveness of the public sector.
While the government’s move is primarily aimed at retaining talent in public sector roles, it has sparked a broader debate about fairness and the distribution of tax relief.
Critics argue that this measures will only benefit high earners and provides them with additional tax concessions while leaving ordinary workers largely unaffected. The government’s response, nonetheless, is that there are certain key roles that need to be filled and expertise retained in areas that are essential to the functioning of the state.
For example, Minister for Finance Jack Chambers has defended the increase as a “retention measure,” emphasising that without such changes, skilled professionals might continue to retire early to avoid punitive taxes, creating a leadership vacuum in key public services.
From the year 2026 until 2029, the SFT will increase in steps of €200,000 per year, topping at €2.8 million. For 2030 onwards, the SFT may increase further based on growth in average earnings. This strategic rise is meant to phase out the taxation burden overtime, thus providing the high-income earners the opportunity to build up larger pension pots, without fearing immediate high tax.
However, it is important to note that the government has not opted to reduce the 40% CET rate proposed by the independent expert Dr. Donal de Buitléir to 10%. The CET will be revisited again in 2030 but until then the 40% rate will be charged on pension pots in excess of the SFT.
The taxation of pension lump sums will undergo a technical adjustment as outlined in the Financial Bill 2024. Currently, the first €200,000 of a lump sum is tax-free, with the balance between €200,000 and €500,000 taxed at 20%.
Previously, the €300,000 band taxed at 20% was calculated as 25% of the Standard Fund Threshold (SFT) less €200,000, meaning this band adjusted in line with changes to the SFT. However, under the new rules, this €300,000 band will be fixed as a monetary amount, regardless of future increases in the SFT.
This means that as the SFT rises starting in 2026, the €300,000 band taxed at 20% will remain fixed, and any amounts exceeding €500,000 will continue to be subject to higher tax rates.
This fixed band ensures that the tax-free lump sum cap and the 20% taxation band remain independent of the rising SFT, maintaining a level of equity in the pension taxation system.
The SFT was first launched in 2005 and the limit was initially set to €5 million. However, due to the pressure of the financial crisis, it was decreased in 2010 to €2.3 million and further reduced to €2 million in 2014 where it has been for the last ten years. Over the last decade, inflation and progressive wage increase has caused a growing pool of professionals in the public sector reaching that threshold.
Between the years 2014 and 2023, wage inflation in Ireland hit 34% making the case for a higher SFT even more compelling. Surpassing the existing SFT could lead to an effective tax rate of up to 68.8% on pension savings, a burden that is increasingly difficult for professionals to bear as their earnings and pension pots grow.
For high-earning public servants and private sector professionals who are approaching retirement age, this increase in the SFT provides a significant opportunity to reassess their retirement strategies The ongoing increase of the limit level is somehow a breather as it enables the building of larger retirement funds without the immediate threat of punitive taxation.
However, the culmination of the pension plans issues with the CET remaining fixed at 40% until at least the year 2030, means that pensioners will still face substantial taxes on amounts exceeding the new thresholds. This will mean for many people, advanced preparation on how to manage their taxes more efficiently, optimising the timing of pension drawdowns and lump sum withdrawals to minimise tax liabilities.
For high-income earners, and particularly for those in the public sector, who have long felt the pressure of the current cap, the phased increase in the SFT is a welcome change. While the facility to build up larger pension funds without over-paying tax is expected to encourage many professionals to stay in their roles longer, thus ensuring stability in such critical areas as healthcare, policing, and civil services management.
However, the CET rate has not changed and the cap on tax free lump sum withdrawal remains fixed which means that pensioners must remain vigilant in their financial planning. The potential for a future reduction in the CET rate in 2030 raises some hope for lower taxation, but this does not guarantee it. In this context, working closely with a financial planner will be key to navigate the complexities of the new system.
The move to increase the Standard Fund Threshold represents a significant policy shift in the Irish pension system that will affect pension members, particularly high earners, going forward. On the other hand, the gradual increase in the SFT has been a welcome relief to professionals in employment who are otherwise subject to very high taxation, however, the decision to maintain the 40% CET rate and the fixed cap on tax-free lump sums ensures that the system retains a level of progressivity.
This is especially the case for high earners, particularly public servants. These therefore serve as both an opportunity and challenges at the same time. Adapting to this new reality will hinge on sound financial management and the management of taxation as the SFT is set to rise over the coming years. As the government continues to refine its pension policies, the impact of these changes on public sector recruitment and retention will be closely watched, providing valuable insights into the effectiveness of this approach in maintaining a competitive and functional workforce.
To navigate these changes effectively and ensure your financial future is secure, it’s wise to consult with experts who can tailor strategies to your specific circumstances. Fairstone Ireland offers a no-obligation retirement planning consultation to help you understand the impact of these upcoming changes and make informed decisions. Contact Fairstone Ireland today to book your no-obligation retirement planning consultation and secure your financial future.
Updated 25th November, 2024
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