I talked about retirement savings plans (PPR) available to citizens and residents of Portugal in the last article. In this article, I am going to talk about how financially literate Portuguese people get the most out of them, often even before they retire. So if you intend to live in Portugal for at least 5-6 years, pay attention to this type of investment and find an opportunity to make your future retirement work for you now.
Here you can read in great detail about what retirement savings plans are and the benefits, risks, and limitations of use. In this article, I will remind you that PPR is an investment tool that doesn't guarantee any precise income.
There are 2 types of PPR:
- in the form of insurance (Seguro PPR) - less risky, guaranteeing the safety of invested money, but with low profitability;
- in the form of a fund (Fundo PPR) - riskier, not guaranteeing the safety of investments, but with a potentially higher profit.
The main advantage of PPR over other types of investments is the lower income tax rate, which is determined depending on how soon and for what purposes you will withdraw your funds and interest on it.
So, let's see how you can use this financial tool. The described situations are absolutely possible, but please consider any coincidences with real personalities as accidental :)
Start living on a passive income
Francisco is 30 years old. He is a gifted programmer. Previously, he worked in Lisbon, in the Portuguese office of an international company. In 2020, he began working remotely, opening up opportunities to work part-time. As a result, he changed his workplace because he found an American company that didn't have an office in Portugal and paid much more than the locals. He also continues to participate in extra projects. Since Francisco is no longer attached to Lisbon, he has moved to a smaller city where the rent is much lower, but at the same time, the level of cultural life suits him.
Thanks to this, Francisco can save up for his dream to free himself from the need to work and start living on a passive income from the age of 50. He adheres to the FIRE movement (Financial Independence, Retire early).
Considering his high earnings and optimized expenses, he can painlessly invest 1,000 euros per month in the PPR fund. In addition, initially, he made a one-time contribution of 3,000 euros to the fund. This is not all his free money. He also cared for his reserve by investing in a risk-free financial product. Furthermore, he goes on vacation once a year and doesn't deny himself visiting restaurants and cafes once a week.
For 20 years, Francisco will invest 207,000 euros, bringing income. Interest is calculated monthly and added to the amount of his investment. That is, the compound interest formula works.
For example, let's compare 2 options for the profit of the PPR fund: 4% and 7%:
- With a 4% return, 207.000 euros invested will bring him 169.765, of which he will pay 8.6% tax. As a result, at the age of 50, he will have 361.891 euros.
- If his PPR fund pays 7%, the investment will bring him 329.097 euros. After paying the tax, the total amount at his disposal will be 507.794 euros.
Francisco will be able to invest this money, for example, in shares of large American companies that pay dividends and will live on this income.
Since Francisco plans to withdraw money from the fund until the age of 60, he won't use tax deductions.
Pay your mortgage with PPR
Ricardo is 30 years old. He manages a small department in a Portuguese company supplying access control equipment. The company is known in Portugal, but since it is not located in the capital, the salaries are far from the maximum possible, even for managers. However, Ricardo intends to buy a house. His wife also works, and they save for a down payment on a mortgage together. They started several years ago and expect the necessary amount to be collected in a few years. They keep the money for the down payment in bank deposits and savings certificates. They are not ready to take risks and invest them in products that don't guarantee the safety of investments.
Ricardo heard that there is such a tool as a retirement savings plan and that it is very beneficial to use it to pay the mortgage on housing for one's living. The conditions are:
- Savings can be withdrawn from the fund after 5 years;
- Income tax will be 8%;
- If you used tax deductions, you would not need to return them.
You can learn more about how the PPR tax deduction is calculated and why it sometimes needs to be returned in this article.
Ricardo created a retirement savings fund and transfers there 167 euros every month, which is 2.004 euros per year. Since he is not yet 35, he can count on the maximum tax deduction from this amount in the next financial year, which is 400 euros.
After 5 years, the amount of his investments will be 10.020 euros.
- If the return on the PPR fund is 4%, then the investment will make 1.257 euros for Ricardo, so after tax, he will have 11.176 euros at his disposal.
- If the PPR fund generates a return of 7%, then Ricardo will earn 2.174 euros, and after paying tax, he will have 12.020 euros at his disposal.
Furthermore, remember the tax deductions, which in 5 years will be accumulated by 2,000 euros, regardless of the fund's profitability.
He will use this money to pay the interest on the loan. The example shows what can be done in 5 years, but Ricardo can naturally continue to invest in PPR and pay the mortgage further. The only thing you need to pay attention to is that the maximum amount of tax deduction available depends on age, and after the onset of 35 years, it will be lower.
Currently, paying the loan amount with the help of the PPR fund is impossible. You can only pay interest on it. However, the rules may change in the future.
Give your child the right start in life
Senhora Idalina and Senor Juse Manuel have three adult children and five grandchildren. They are apprehensive about the future of their granddaughter Carolina, who is 5 years old. Her parents live in the moment, don't save money, and don't have a permanent job. Carolina's father, their youngest son, squabbled with all the other relatives, and only his parents maintained at least some kind of relationship with him and often helped him financially.
When Carolina was 3 years old, Idalina and Jose Manuel decided to create a PPR fund for their granddaughter on their own to have at least some money when she grew up. The fund will be transferred to the complete disposal of Carolina when she turns 18 years old. The couple also considered the option of creating a deposit in the name of the granddaughter. This would be an investment without the risk of losing capital and interest on it. However, the interest on deposits was so low that they opted for the fund in PPR, counting on the fact that over 15 years, it would bring substantial income, and possible drawdowns would be compensated.
The couple is not wealthy, and they have grandchildren from other children, so they can only invest 50 euros per month in the Carolina fund, which will amount to 9,000 euros over 15 years.
With a fund return of 4%, these investments will earn 3,531 euros, with a return of 7% - 6,547 euros.
If Carolina withdraws from the fund before her retirement, she will pay an 8.6% income tax. So, in total, she will have the following:
- 12.227 euros (with a profit of 4%) or
- 15.547 euros (7% profit).
She will be able to use this money to pay for her university studies and partially cover her living expenses during her studies. You can learn more about student expenses in this article. With a more favorable development of events, if her parents can support her during her studies, this money can become the basis for her own savings.
The tax deduction cannot be applied in Carolina's case because she is a minor. It will not count on her grandparents either.
Next, we will consider 2 cases of using PPR plans for their intended purpose, which is to save money for retirement.
Start saving for retirement early
Sandra is a graphic designer. She started investing in a retirement fund when she was 25 years old. At that time, she didn't have a significant enough salary, but she had free money since she lived with her parents. So she started investing 25 euros a month with the firm belief that when she started earning more, she would invest 2,000 euros a year to receive the maximum tax deduction (400 euros a year).
The following 5 years in Sandra's life were eventful: moving from her parents, sharing an apartment with a young man, and preparing for the wedding. She even went so far as to open her own business, an online shop for T-shirts of her own design. However, all that required money, and therefore, even though Sandra took on a lot of additional work as a freelancer, she could only send up to 25 euros per month to the PPR fund.
When she was 30, her business began to generate a regular income, and she could finally invest 167 euros per month in the PPR fund (a total of 2.004 euros per year). Sandra plans to continue doing this until her 65th birthday.
As a result, when she retires, she will have 71.640 euros of her savings, which will bring her: 90.602 euros in case of a fund return of 4% and 250.217 euros with a 7% return.
After paying the 8% tax, Sandra will have the following:
- 154.993 euros (with a profit of 4%) or
- 301.839 euros (7% profit).
In addition to one of these hefty sums, Sandra will receive tax deductions that could reach 12,050 euros over 40 years.
Sandra's example clearly shows how the compound interest formula works for capital growth in the long run.
Start saving for retirement after 40
Ana Maria lives in a big city and works as a lawyer. She is 48 years old and has 2 sons. The eldest is studying at a private university, and the youngest is in the 7th grade at an international school.
She always had a lot of worries, so there was no opportunity to think about her health or retirement. Then, a couple of years ago, she began to engage in health seriously and now spends decently on private medicine. So now it's time for retirement savings.
To compensate for the lost time, Ana Maria sent 450 euros to the PPR fund every month. In addition, she deposited 15,000 euros, which she previously kept on deposit. She intends to invest within 15 years, thinking about starting to work less after 60. She doesn't count on PPR tax deductions because she already has them high, thanks to medical and education spending.
Over 15 years, Ana Maria will invest 96,000 euros in the fund, earning her 42,053 euros if the fund returns 4%, or 89.382 euros if the return is 7%. In total, after paying a tax of 8%, she will have the following:
- 134.688 euros (with an income of 4%) or
- 178.231 euros (with an income of 7%).
Looking at the example of Ana Maria, we see that even if you start investing late, you can end up with a decent amount, although, of course, it is better to start early, like Sandra.
Should everyone use a retirement savings plan?
The five examples of using the PPR fund described above show impressive capital gains, especially in the long term. Regarding taxation, this is the most profitable financial product in Portugal. Compare 8 - 8.6% on income from PPR (provided that the money is withdrawn no earlier than 5 years after the deposit) and 28% on other deposits and investments. However, I cannot confidently recommend this financial instrument to everyone without exception. First, I am not a financial advisor. Secondly, these funds have the risk of completely losing investments. Thirdly, although authentic, the considered examples of profitability (4% and 7% per annum) are not guaranteed, especially in challenging times.
It must be said that I didn't consider inflation and salary growth so as not to complicate the calculations too much. I also assumed that the return on PPR funds would be the same throughout the entire period, although, of course, it would vary from month to month.
In summary, I suppose it's helpful to at least put yourself in the shoes of one of these five characters and consider whether you have any plans the Portuguese retirement savings fund would help you implement. If so, are you willing to take the risk?
Nevertheless, I wish you to make your own knowledgeable decision, which will positively affect your well-being!