14 Oct 2016
Understanding How Personal Pension Plans Work
As a young adult, growing up is exciting yet difficult, and while some Adult Things are pretty fun, there are some aspects to adulthood that can be just a little stressful. Making plans for the future is a key part of being an independent and self-sufficient grownup, and we’re not talking about planning your next holiday. It turns out that while we were all learning about algebra and equilateral triangles at school, it seems that maybe having a class on how to do our taxes and how pension schemes work may have given us some foresight and made the scary parts of adulthood just a little bit more bearable.
Well, fear not, because Laferla can help you deepen your understanding of how personal pension plans work – and it’s less complex than you might think!
First things first, what happens when you retire?
Once you stop working (current retirement age is set at 65 for all those born from 1962 onwards), the current Maltese state pension will provide up to two-thirds of your salary, with a cap for maximum annual salaries of €21,700. Personal saving and investing in property and other initiatives such as freelance work can help substantiate your state pension, however if you earn more than the Maltese state pension capping, or would like to earn a more considerable pension, personal pension plans are a great way to invest.
Where does the money come from?
Once you’ve signed up to a pension plan, a percentage of your salary will be deducted and be added to your pension every month. That said, you can also inject lump sums into your pension at any given time. It’s worth noting that, under current legislation, you will get a 15% tax rebate on any contributions which you make towards your Maltese Personal Pension Plan, up to €150 per year. The percentage or maximum amount may also increase in future. The rebate is sent to you automatically, since your Personal Pension Plan provider will provide a certificate to the Maltese Inland Revenue Department to confirm your contributions each year.
Your contributions are then invested and you receive compounding bonuses each year from your provider.
You mentioned investments. Is my money safe?
Honestly speaking, this depends on the plan you have chosen. In general, two types of savings plans are available in Malta:
- With Profits plan (sometimes called Endowment plans)
- Unit Linked plan.
The difference between these is as follows:
- With Profits plans are simpler to understand and generally perceived as a safer option, because they offer capital guarantees, meaning you are guaranteed to receive back your savings together with any bonuses which have been declared to you by your chosen provider. When choosing this type of plan, your savings are invested into one fund, with a prudent and diverse investment mix. This fund is managed prudently and aims to provide policy holders with steady returns over time. When the fund earns a high return, policy holders are still given a lower bonus – with the remainder of the fund’s earnings going towards a ‘reserve’, which then provides a safety net for years in which investment return has not been so favourable. This is called ‘smoothing’.
- Unit Linked plans allow the policy holder to select which funds they would like to invest in. Under this plan, you call the shots regarding the investment element of your savings. It’s important to keep in mind that under a unit linked plan, there is no capital guarantees and your savings are at risk.
At Laferla, we only offer the With Profits option, through the MSV with-profits fund. At the end of the day, it is your savings and your retirement fund which is on the line.
What are the benefits?
It might seem like a perfectly good idea to just save up for your pension independently and that is fair enough reasoning – but a pension plan offers tax benefits that saving doesn’t.
Aside from the tax rebate for every contribution made, when the time comes for you to be eligible to begin withdrawing from your pension, you’ll be able to take up to 30% of your fund at retirement date as a tax-free lump sum. The remainder must then provide you with a regular income which you will receive together with your Maltese State Pension.
So what happens when you turn 65?
Once you’ve had a lovely send-off from your colleagues and had a big slice of birthday cake, you’ll start to receive your pension. The balance that is accumulated over time will be received as income, and that amount will depend on your contributions into your Personal Pension Plans and the bonus rates which you will receive from your Personal Pension Plan provider.
When you reach retirement age you’ll be able to choose between receiving the income on an Annuity plan, which provides a guaranteed income for the rest of your life, and you will have the option for the income to continue to your spouse, as well as have the option to protect the remaining value for your heirs. The other alternative is Programmed Withdrawals, which will enable you to keep your funds invested. You will be able to withdraw an income each year – this income is not guaranteed for life (depending on your investment performance) but has the potential to increase over time.
Think about it this way – one less treat per month in your youth will afford future-you all the treats your heart desires.
So here’s an example to make sure we’re all on the same page:
In this example, you’ve paid €25,500 in contributions. You can withdraw up to €16,326 as a lump sum when you retire, which would then leave you with an annual pension for life of €2,476 – i.e. you would receive all your money back by age 69, but then continue to receive a pension of €2,476 each year for life.
Effectively, personal pension plans enable you to save a small percentage of your salary over the next 30 or so years, while giving you the added benefit of an immediate tax rebate. Your pension income would work in similar way to your state pension, with monthly payments, as well as a tax-free cash lump sum at retirement.
Get in touch if you would like to set up a meeting with us and discuss your requirements in more detail. Besides giving you an illustration and explaining more how these plans work, we’ll be happy to offer you some advice for free and without any obligations.