Thoughts on PERA in comparison to US retirement accounts

I have just started to read about PERA retirement accounts that have been recently made available to Filipino workers, including those working abroad. There have already been many articles written about PERA all over the web so I won’t bother with all the nitty-gritty details. You can read a good introduction on PERA from Katie Scarlett Needs Money.

PERA stands for Personal Equity and Retirement Account. They are often described as the Philippine version of American retirement accounts like 401(k) and traditional IRA accounts. I still have my own 401(k) and traditional IRA accounts from my time working in the U.S. so I find these comparisons interesting. In this post, I’d like to explore these comparisons in more detail.

The 401(k), traditional IRA, and Roth IRA are some of the most common retirement accounts for U.S. workers. The table below shows some of the main features of each plan:

401(k)Traditional iraroth ira
AvailabilityHas to be offered by employerAnybody can open an accountAnybody can open an account
Employers usually
match at least 3% of contributions as a benefit
Investment GrowthTax-free
No tax on capital gains, dividends, and interest as investment grows
No tax on capital gains, dividends, and interest as investment grows
No tax on capital gains, dividends, and interest as investment grows
Age for Penalty-Free Withdrawal59.5 years59.5 years59.5 years
Original contributions (not
including earnings) can
be withdrawn tax-free before reaching 59.5
Taxation of Penalty-Free WithdrawalSubject to regular income taxSubject to regular income taxTax-free
Early withdrawal10% + regular income tax10% + regular income tax10% + income tax on earnings

Both 401(k) and traditional IRA plans allow pre-tax contributions (not subject to income tax withholding). Employees with 401(k) plans choose how much of their pre-tax salary goes to the 401(k) plan and many employers usually match part of those contributions. The limit for 401(k) contributions is much higher than for traditional IRAs. Those who contribute to a traditional IRA can deduct those contributions from their taxable income upon filing a tax return. Withdrawals from 401(k) and traditional IRA plans upon retirement are subject to regular income tax rates. While contributions to Roth IRA are made with after-tax dollars, the total earnings are not subject to any taxes upon withdrawal after reaching the right age. For all three accounts, investments grow tax-free — no capital gains tax, dividends, and interest income have to be paid.

Now, PERA’s main features as as follows:

Availability Anybody can open an account
Employers can make pre-tax contributions
without exceeding contribution limit
Additional tax benefit5% non-refundable tax credit
2019 Contribution LimitPHP 100,000
PHP 2000,000 for overseas Filipino workers
Investment GrowthTax-free
No tax on dividends, and interest as investment grows
Stock transactions subject to stock transaction tax (0.6%)
Age for Penalty-Free Withdrawal55 years
Taxation of Penalty-Free WithdrawalTax-free
Early withdrawal 20% tax on earnings
Return of 5% tax credit

It appears to me that PERA offers some of the benefits of all three U.S. retirement accounts, although some benefits are a little half-baked:

  • PERA contributions grow tax-free like all three U.S. retirement accounts.
  • PERA contributions can be withdrawn tax-free after reaching the required age like the Roth IRA account.
  • PERA contributions are generally made with the worker’s own after-tax pesos like the Roth IRA account.
  • Like 401(k) accounts, employers can make pre-tax contributions but subject to the same limit as employee contribution.
  • Unlike 401(k) accounts, it does not appear that employees can make pre-tax contributions from their salary to save on income tax.
  • There is a 5% non-refundable tax credit that can be used to offset income tax liabilities. Based from what I’ve read, this is not yet fully implemented so nobody knows how to use this tax credit to offset taxes.
    • Supposedly, overseas workers will also be able to use the tax credit for “national internal revenue tax liabilities”.

The main attraction of US retirement plans are the tax benefits. PERA does offer some of those benefits. The clearest benefit is that the contributions can grow tax-free. No interest and dividend taxes need to be paid.

The 5% tax credit offered by the government is a nice bonus but it’s not yet fully implemented. It would have been better and a lot simpler if the government just directly contributes the amount to the worker’s PERA account instead of making it a nonrefundable tax credit.

The 5% tax credit pales in comparison to potential tax benefits for pre-tax contributions made to a PERA account by the employer:

  • To maximize the tax benefits of PERA, ideally the entire maximum contribution has to come from the employer. Any contribution by the employer to an employee’s PERA account does not count as as part of the employee’s taxable income.
  • Presently, it does not appear possible that an employee can make pre-tax deductions on his/her own. Assuming an employer’s PERA contribution is zero or does not reach the maximum limit:
    • Can an employee negotiate with his/her employer that his/her official salary package be reduced, so that part of it would then be paid by the employer to the PERA account up to the maximum limit? Would this be legal?
    • Alternatively, if the employer is offering a salary raise, can an employee ask for PERA employer contributions instead of a raise?
  • Based on Philippine tax brackets, the first PHP 250,000 of an employee’s annual income is tax free. Every peso earned above PHP 250,000 is taxed at marginal rates starting at 20% and reaching up to 35% for the highest bracket.
  • So if an employee (earning above PHP 250,000) is able to contribute the maximum PHP 100,000 pre-tax (by way of asking his/her employer to make the contribution as suggested above), he/she can save PHP 20,000 to PHP 35,000 withholding tax depending on the tax bracket. That’s in addition to the PHP 5,000 tax credit he/she would still receive in any case.

PERA is a good start. It offers tax-free earnings like a Roth IRA after-tax account with the option for 401(k)-style employer pre-tax contributions. The tax-free growth of earnings, and the potential benefit from pre-tax contributions, should be enough incentive for anyone to participate in PERA.

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