IMPROVING PERSONAL FINANCIAL MANAGEMENT WITH ADDITIONAL TIER 3 PENSION CONTRIBUTION AND ADDRESSING REGULATORY GAPS IN ACT 766

 PERSONAL FINANCIAL PLANNING

Financial risks and future life events are key critical assessments that every individual must consider when carrying out personal financial planning. An individual must consciously set out to identify these risks and events so as to put in place the necessary safeguards. It is quite unfortunate that, personal financial planning is often the least among the priorities of most Ghanaians. As a result we turn to leave everything about our lives to chance and to God.

GHANAIAN SAVING ATTITUDE AND CULTURAL TRAITS

It is perceived that most high income earning workers in Ghana prefer to keep monies in current account than savings account. These workers lose out on the benefits associated with savings account; although low compared to investing those monies in appropriate investment instruments such as Government, Bank and Corporate Securities. This perception, though not scientifically proven, does not appear surprising as it fairly reflects our cultural traits which does not encourage savings. The average Ghanaian finds pride in seeing his money in a current account than finding same in an investment instrument. The precautionary motive being more important than the investment motive of holding money. The traditional “susu” concept is a typical example.

The cultural shackles around us may be very difficult to break in a moment and therefore we may need more time to make the necessary adjustment as we progress. Yes! more time may be ideal but financial risks and future life events may not provide the safe operating environment for us to wait any longer as far as improving our personal finances are concern. 

IMPROVING PERSONAL FINANCIAL MANAGEMENT THROUGH TAX RELIEFS

Anytime there is a tax amendment it behoves on workers to seek financial advice as to how to mitigate or take advantage of the impact on our personal financial management. It is unconceivable to invade taxes but can be avoided because tax incentives are available to nudge us towards a certain financial decision.

The recent passage of the Income Tax (Amendment) Act, 2018, Act 973 by Parliament are key considerations we need to take when making personal financial plans, particularly, for workers earning in excess of GHS10,000. Act 973 gave approval for a 35% band to be included in the graduated Pay As You Earn (PAYE) system to essentially increase the tax burden on individuals earning more than GHS10,000 effectively 1^st August 2018.

Paying taxes in itself is obviously not something people, since the days of Mathew in the Bible, feel encouraged to do, talk less of having to pay extra on your high earnings. Although the reluctance to pay tax is real, it cannot be evaded in view of the consequences to evade as prescribed by law. However, avoiding to pay taxes through legitimate means is not an offence punishable by law and therefore taking advantage of the provision the National Pensions Act, 2008 (Act 766) as amended, is a prudent consideration in improving personal financial management.

IMPROVING PERSONAL FINANCIAL MANAGEMENT THROUGH PENSION CONTRIBUTIONS

The National Pensions Act, 2008 (Act 766) as amended, expressly exempts pension contributions from taxation in view of the need to have adequate income security during retirement to alleviate old age poverty. Section 3 of Act 766 provides for 18.5% of the Basic Salary of a worker to be mandatorily set aside to provide pension income for the worker when they retire from active work. Additionally, a worker may voluntarily contribute up to 16.5% of their Income into a registered Provident Fund (PF) or a Personal Pension Scheme (PPS) to supplement retirement income. These contributions by and on behalf of the worker qualify for tax reliefs for the worker or his/her employer to the extent of the contribution made by either the employer or the worker. The tax relief on pension contribution can substantially reduce the tax burden of a worker and therefore workers should take advantage of the provisions of Act 766 to not only contribute more towards their retirement but also to make savings on their tax obligation.

As consequence of the tax amendment, a worker earning for example GHS20,000 as Basic Salary and GHS10,000 as Rent Allowance can make a tax savings of GHS1,732.50 if he makes additional voluntary contribution of 16.5% of his Income (Basic Salary plus Allowance) alone to a registered Master Trust PF Scheme or PPS. This is illustrated below:

 

Basic Salary                    (A)                                    20,000.00

Rent Allowance               (B)                                    10,000.00

Total                                (A+B)                               30,000.00

PF or PPS Contribution  (C) = (A+B) X 16.5%                4,950.00

Tax Savings                     (D) = (C) X 35%                 1,732.50

On the basis of the above illustration, it is of a prudential benefit to the workers earning in excess of GHS10,000 to take the relevant steps to identify a registered Master Trust PF Scheme or PPS and make the necessary pension contributions because he would have incurred an extra GHS1,732.50 in taxes but for his pension contribution.

 

TAKING FULL ADVANTAGE OF PENSION CONTRIBUTION WITH YOUR HIGH EARNINGS

The use of Income instead of Basic Salary as a basis for contributions to registered PF or PPS relaxes the 16.5% limitations prescribed under Section 112(2) of Act 766. This allows a worker to include all their legitimately earned income from employment in determining their pension contributions for tax purposes. It provides a bigger avenue for the worker to further increase their tax reliefs.

 

Expanding the example above, the said worker earning an additional, GHS 20,000 in Clothing and other allowances can earn extra tax relief of GHS1,155 if he again makes additional voluntary contribution alone to registered Master Trust PF Scheme or PPS on these allowances. This is illustrated below:

 

Clothing & Other Allowances   (E)                                    20,000.00

PF or PPS Contribution            (F) = (E) X 16.5%               3,300.00

Tax Savings                               (G) = (F) X 35%               1,155.00

 

It should however be noted that every extra income must be appropriately justified before it is included in the pension computation so as to validate their qualifications for a tax relief.

EMPLOYERS WITHOUT PROVIDENT FUNDS (PFs)

It is particularly important for workers who do not largely enjoy the benefits of an employer’s contribution into a provident fund (PF) to take advantage of a Master Provident Fund Scheme (PF) and Personal Pension Scheme (PPS) to increase their retirement earnings so as to fairly enjoy retirement benefits as those workers who enjoy the benefits of an employer’s contribution to PF.

 

The voluntary nature of PF contributions does not compel employers to commits funds into such scheme. However, workers affected in these circumstances can sign onto Master Trust PFs Schemes or PPS and make 16.5% of their income available as contribution towards a decent retirement income.  Take up a PF or PPS with your 16.5% available.

 

USING YOUR PENSION CONTRIBUTION TO OWN A HOME

The benefits of contributing to a registered PF or PPS are not limited to retirement income alone. Section 114(2) of Act 766 allows the assignment of accrued benefit of a worker in a registered PF or PPS for purposes of securing mortgage for the acquisition of primary residence. The greatest advantage of this provision in Act 766 is the fact that, withdrawals under this circumstance are not subject to tax and therefore instead of the worker using his post tax earnings as down payment for a mortgage property, can fall on his accrued benefit in a registered PF or PPS to avoid paying any avoidable tax.

By reason of the tax relief enjoyed under these circumstances makes Government a part financier of your primary residence and it is worth taking advantage of in a personal financial management planning. Ordinarily, these tax savings will have been paid to Government if the worker failed to make contribution to a PF or PPS.

REGULATORY GAPS

Although Act 766, opens this window of opportunity for workers to enjoy tax reliefs, the Ghana Revenue Authority (GRA) must, as a matter of urgency, come up with the relevant guidelines to ensure this opportunity is not abused. Under Act 766, a worker, having retired or contributed to a registered PF for more than 10 years, can cash out his/her accrued benefit under that PF without incurring any tax. Act 766, however, mandates GRA to apply a tax on the accrued benefits that are cashed out prior to the 10 years.

Currently GRA applies a flat rate of 15% on such early withdrawals. Therefore, with the coming into force of Act 973, we could potentially have a situation where a worker, earning in excess of GHS10,000, avoids paying tax at 35% with contribution to a PF and then cashes out at a tax rate of 15% if she so desires, essentially reducing his tax burden by 20%. This is illustrated from the previous example where said worker’s Basic Salary is GHS20,000 with a Rent Allowance of GHS10,000, Clothing and other Allowances of GHS20,000  as follows:

Tax Saving due to Contribution to PF or PPS

Tax Savings on Basic Salary & Rent            (D)                         1,732.50

Tax Savings on Clothing & Others               (G)                         1,155.00

Total Tax Saving                                         D) + (G)                 2,887.50*

* This is the amount of taxes that would have been paid to the GRA but for the worker’s contribution to a PF or PPS. The GHS2,887.50 tax savings essentially becomes part of the workers contribution into the PF or PPS.

Where the worker decides to cash out (withdraw) from the PF or PPS prior to the 10 years, a tax payment of GHS1,237.50 will be incurred by reason of a 15% flat rate tax applicable on such early withdrawal. This is illustrated below:

Tax payable on Cash Out (Withdrawal)

Contribution – Basic Salary & Rent             (C) = (A+B) X 16.5%          4,950.00

Contribution – Clothing & Others                (F) = (E) X 16.5%             3,300.00

Total Contribution                                        (C+F)                           8,250.00

Tax on Withdrawal                                       (C+F) X 15%                 1,237.50    

From the illustrations above, the said worker earning in excess of GHS10,000 can avoid paying a tax of GHS2,887.5 and instead pay GHS1,237.50 if he chose to contribute to a PF and then cash out immediately. This is a regulatory gap that need to be addressed immediately to prevent workers from avoiding to pay the appropriate tax. Remember avoiding to pay tax is not an offence punishable by law but this becomes an unintended benefit.

CONCLUSION

The uncertainty of the future makes personal financial management a critical assignment that everyone must, as a matter of prudence, pursue in order to put in place the necessary safeguards to mitigate financial risk. We cannot continue to leave our lives to chance, particularly, where it is almost certain that after our active working life we would have to contend with real life of retirement till the good Lord calls us. High medical bills, among others, associated with ageing make retirement planning a key personal financial management consideration for every Ghanaian worker.

Personal financial planning requires an individual to explore the relevant opportunities to make the best out of the circumstances of the environment that individual finds himself, notwithstanding the challenges therein. It is therefore not an offence to lawfully exploit an opportunity in one’s environment for personal financial management purposes in so far us the relevant laws within such an environment does not frown upon such practices.

GRA must however, take the relevant steps to issue the relevant guidelines to stop individuals from abusing the applicable provisions of the law.

Take advantage of the provisions of Act 766 now.