Indicative approach to taxation of private pensions

Many countries tax certain assets in this way, such as ordinary interest-bearing deposits.

On the contrary, avoiding taxation of investment returns, equal pre- and after-tax real returns are maintained, regardless of the mix of inflation and real-to-nominal returns.

However, a comprehensive income tax raises more revenue in a given tax. The broader tax base of comprehensive income allows for a lower tax rate to collect the same income.

Since pensions are taxed on withdrawal according to the classic EET expenditure tax (E-exemption, E-exemption, T-taxation), the government becomes a co-investor, sharing any costs but also sharing in any losses. This may encourage a riskier portfolio choice.

One concept of fiscal neutrality in relation to saving decisions is the neutrality between different types of saving instruments.

In many countries, retirement savings are treated favorably compared to other ways of saving.

There are a number of arguments to support this relatively effective treatment:

– the government should ensure that people maintain a standard of living in retirement that is close to the level when they were of working age;

– by encouraging individual insurance for retirement, the cost of social security benefits can be reduced, especially when means-tested benefits are an important source of retirement income, and

– the state should increase long-term savings to increase the level and/or stability of capital available for investment.

The first argument is related to the functions played by the state

It provides incentives to save for retirement (relative to current and future consumption, before retirement) because in the absence of incentives, individuals will fail to make ‘sufficient’ provisions.

There are a number of reasons why, firstly, this rationale may not be valid and, secondly, why the tax system is not a good way to achieve it.

It is difficult to define “adequacy” of retirement income beyond the adequate minimum.

Providing tax incentives for retirement savings can ensure that everyone reaches a minimum standard. Some will fail to provide, while others may provide even more.

Other means of ensuring that pension living standards approach the level during working life may be more effective and, perhaps, less distortive: for example, the state may regulate the level of compulsory private pension contributions ( second and third columns).

The second argument is that of “moral hazard”.

Individuals will not provide for themselves if they know that the state will provide them with sufficient income anyway.

This approach has been partially or fully adopted in a number of countries. This approach generates a significant disincentive to save for retirement, especially for people on low incomes.

Again, however, it does not appear that pooling fiscal incentives for pensions is an effective way to minimize the cost to the state, compared to, for example, mandating a certain level of contributions.

Added to this argument is the reduction in current revenues resulting from the tax stimulus.

Tax incentives for pensions appear to increase pension savings. Examples include the “success” of registered retirement savings plans in Canada, personal pensions in the United Kingdom, and individual retirement accounts in the United States.

If people have a fixed retirement savings target, a new pension tax incentive may prompt them to reduce their current savings, as their level of retirement income will remain the same.

Tax incentives cost the government by reducing revenue, cutting into public sector savings. Even if household savings increase, the overall effect on national savings is uncertain.

Having established the desirability of tax treatment pensions and a “level playing field” for different types of savings, we suggest that for Albania the ultimate policy choice is between EET (E-exempt, E-exempt, T-tax) tax systems. and ETT (E-exemption, T-taxation, T-taxation).