The taxation of any excess over the Fund Cap (€2m from January) happens at retirement. Very simply, a tax hit of 41% applies to the excess on retirement (paid by the fund administrator directly to Revenue). And then when the member draws down any of the residual, it is taxed again at marginal rate (currently 41% + USC = 48%).
So if at retirement the fund value was say €2.1m, then an immediate tax hit of 41% of €100,000 is levied. This leaves a net €59,000 , but when this is drawndown as income it is taxed in the normal way.
So in effect the total tax on the excess of €100,000 is as follows:
- €100,000 X 41% = €41,000 (leaving €59,000)
- € 59,000 x 48% = €28,320
- Total Tax = €69,320
Therefore one must avoid (if possible) exceeding the Cap. So if say a 50 year old currenly has a DC Fund (perhaps including AVCs) of say €1,500,000, then growth of over 3% p.a. over the remaining 10 years will result in the fund value exceeding €2m. This may result in the client seeking a low risk investment (and thus low return) for the 10 years to go and ceasing all future contributions.
On the other hand some individuals who might be close to the Cap and still cannot retire (60 being the earliest drawdwon date) may find themselves exceeding the cap whether they like it or not.
So it is essential that any individual whose has funds which might run up against the cap, that they review their contributions (perhaps cease future contributions) and/or derisk their investment strategy (since taking investment risk will not be adequately rewarded).
As I have posted on another thread, the €2m cap applies immediately to DC members (even in respect of prior accrued funds) whereas the new DB multipliers only apply to future accrual for DB members.