As retirement approaches, it is a natural process to begin planning how you will use the nest egg you spent so long saving for. Adventures to far-off lands, midweek trips around Ireland and home improvements may be top of the list, but all of these plans can come with a hefty price tag.
So, what if there was a way you could supplement your existing retirement fund with another significant chunk of savings? Enter Additional Voluntary Contributions (AVCs).
What are AVCs?
AVCs are optional extra contributions towards your retirement fund. They serve as a tax-efficient way to save for your retirement years and are utilised in addition to any existing pension scheme you may be currently paying into. They also offer additional benefits such as tax relief in the form of a rebate from Revenue.
Perhaps the most compelling argument for investing in an AVC is the forecast for the future of retirees. Reductions in the State Pension and an increase in the age of retirement could all lead to problems for the current workforce, particularly when it is estimated that there will be just two workers for every retiree by the time we reach 2040. In a nutshell, the more you can shore up your retirement fund, the better.
Who can avail of an AVC?
AVCs are usually deemed appropriate depending on your area of employment. For example, the scheme is particularly beneficial for Civil Service employees who are on existing coordinated pensions. Not only does it allow you to supplement your current pension pot if you have your heart set on early retirement, but it also enables you to get the best value from your retirement lump sum. By enlisting the help of an impartial financial advisor, you will gain a better understanding of how and why an AVC scheme might be suitable and beneficial to you.
How do AVCs work?
AVCs are accessible through individual AVC PRSA (Personal Retirement Savings Account) schemes or an AVC group scheme. AVCs offer tax refunds at your marginal rate of tax. For example, you will receive a tax rebate of 20 percent if you are on the 20 percent rate of tax and 40 percent if you are on the 40 percent rate of tax on the total amount saved in AVCs.
While retirement has always been hammered home as an event to be planned for well in advance, there are benefits to withholding any extra contributions until later in life. This will certainly be good news to some; in particular the 50 percent of recently surveyed 55-and-over individuals who have yet to begin saving into a private fund.
For this particular cohort, and many others besides, a last-minute AVC is hugely important. It is a one-off contribution that can be made in advance of your retirement, which allows you to maximise on the tax-free lump sum you walk away with.
A tax rebate may be claimed on the total AVC contribution. Furthermore, if the value of your existing pension fund is less than the maximum tax-free lump sum you are entitled to, a significant portion of your last-minute AVC may be withdrawn tax free. This is entirely dependent on individual circumstances – another good reason to enlist professional advice to steer you in the right direction.
The key benefits of this tax break are:
1. It protects those with less than 40 years of service completed at retirement.
In the case of civil servants who may not have completed 40 years of service before they are due to retire, there is likely to be a significant gap between the lump sum you would have been entitled to following full service and the sum you can actually draw down at the time of retirement.
This is known as a tax-free lump sum shortfall. Once this shortfall has been calculated, you can transfer this amount into a last-minute AVC, where it will be subject to the relevant tax reliefs.
2. It bridges the gap created by a reduction in salary.
If you experienced a salary cut in recent years, there will also be a shortfall between your actual pensionable salary and the salary allowed by Revenue. Once again, an AVC is the perfect way to achieve a tax break which will allow you to fill the space between these two figures while maximising your tax-free lump sum.
3. The amount of tax relief on contributions increases as you near retirement age.
The closer to retirement age you get, the greater the amount of tax relief on your income you are entitled to. In fact, after the age of 49, the percentage of tax-free annual earnings you can contribute increases by five percent every five years.
This means that by the age of 60 and over, you could potentially contribute 40 percent of your earnings and reap the benefits of tax relief on this significant portion. It is also important to note however, that tax relief is capped at an annual income of €115,000.
Last-Minute AVC Checklist:
When considering an investment in a last-minute AVC, be sure to keep a few factors in mind to ensure you can avail of the benefits that go hand in hand with the scheme.
- If you are currently approaching your retirement, now is the time to consider a last-minute AVC, as you will not qualify after you cease employment.
- In order to receive a tax refund on your AVC, you must take it upon yourself to complete and file a tax return.
- Seeking professional advice from experts in the field of retirement planning will give you a far greater insight into the rules and regulations surrounding this tax break. A financial advisor will also scout out the schemes that will perform best based on your position and requirements.
For further advice on last-minute AVCs, contact us today for a free consultation.