Supplemental pension savings
All employed persons between the ages of 16 and 70 are required by law to contribute to a pension fund. The purpose of pension savings is to accumulate entitlement to pension income after retirement, or to accumulate emergency funds to be used if an individual dies or becomes unable to work due to illness or accident. If an employee’s wage agreement or employment agreement does not specify a given pension fund, the individual may select the pension fund they will contribute to. Those who are able to choose should familiarise themselves with the rights offered by pension funds and obtain information on their operations and services. It is important to look at more than one pension fund and make an informed decision about which pension fund to contribute to.
Individuals may pay up to 4% of their wages into a supplemental pension savings account. What makes this form of saving particularly beneficial is the matching employer contribution, which ranges up to 2% of wages and is added to the worker’s own 2% contribution according to their wage agreement or employment agreement.
This means that:
- If the worker contributes 4% of their wages, the total amount saved is 6%: the employer contributes one-third of the amount saved.
- If the worker contributes 2% of their wages, the total amount saved is 4%: the employer contributes one-half of the amount saved.
- Those who do not have supplemental pension savings are in effect receiving 2% less in wages than they would otherwise.
Other key benefits of supplemental pension savings:
- The funds are available for withdrawal from age 60 and are inheritable upon the account owner’s death.
- Supplemental pension savings are available for withdrawal if the account owner becomes unable to work due to illness or accident.
- If an individual becomes bankrupt, their creditors cannot access supplemental pension savings.
- Supplemental pension savings enjoy preferential tax treatment relative to other types of savings. The difference is that, during the time the funds are being saved, no investment tax is paid on the interest income, whereas investment tax is paid on interest from other types of savings.
- Supplemental pension savings are set aside before taxes are deducted from wages. When the savings are paid out, however, they are taxed as ordinary income, just as wage income is. Actually, the income tax is deferred until the balance is withdrawn, but in some instances the income tax declines as well. This happens if an individual applies an unutilised personal deduction when the pension savings are withdrawn, or if the marginal tax rate is lower at the time of withdrawal than at the time the tax was deferred.
First home purchase and allocating supplemental pension savings towards loans
Individuals who are purchasing their first apartment can use supplemental pension savings set aside over a continuous ten-year period after 1 July 2017, up to a specified maximum, towards a home purchase or a mortgage loan, without creating a tax liability.
The key points in the Support for First-Time Apartment Purchase Act, no. 111/2016, are as follows:
- The maximum amount per year that may be set aside for this purpose is ISK 500,000 per individual, or ISK 41,667 per month. The amount is doubled for couples.
- In order to utilise the authorisation in full, an individual’s wages must equal ISK 694,000.
- The maximum employee contribution is 4% of wages, and the maximum employer contribution is 2% of wages. The individual’s contribution must be at least equal to the employer contribution.
- The individual may not have owned an apartment previously, and they must acquire an apartment either alone or together with another individual.
- The individual must own at least 30% in the apartment.
- When the authorisation is utilised, the individual must fill out an application on the Iceland Revenue and Customs website.
- The Support for First-Time Apartment Purchase Act, no. 111/2016, can be found here.
Supplemental pension savings is the most economical way for young people to save for their first apartment.
Readers in this position should immediately take the first step and enter into a supplemental pension savings agreement, no matter whether they are employed temporarily or permanently. Individuals are advised to set aside 4% of wages while they are saving for an apartment and 2% of wages thereafter. The advantage of supplemental pension savings is that the worker’s own contribution is only a portion of the accumulated savings. The most important additional portion is the matching employer contribution, which ranges between one-third and one-half of the total amount saved. Furthermore, those who use supplemental pension savings to buy their first apartment receive an additional discount on their taxes.
Individuals may choose where' they invest their supplemental pension savings. Familiarise yourself with the investment options and administrative costs at more than one pension fund. Once you have done this, you can select an investment option based on your risk tolerance and the length of time you will be making contributions.
Financial independence
Being financially independent means managing your own finances, acquiring assets, and allocating your income towards expenses and savings as you choose. Everyone wants to be financially independent, but this does not happen automatically. It requires that you devote time to your finances, gather information, analyse and assess the options available, and place emphasis on making informed decisions. It is also important to take advantage of good opportunities like contributing to a supplemental pension savings account.