The imminent Pension Reform has been heralded as the “largest pension shake-up in almost a century”. It will create more freedom and options for those aged 55 and above who are saving for a pension. The Reform and recent Budget announcements are both economically and politically motivated: older generations will be pleased they are finally trusted with their own money; and by allowing pension savers to dip into their pension pot freely the economy may well be stimulated by spending.
By now everyone is probably aware of the biggest and potentially most beneficial change: you may draw however much from your pension, whenever you like, and receive up to 25% of the sum tax free. Previously, savers have had the option to take 25% as a tax free lump sum, however now they are allowed to take smaller sums as many times as they like until they use up their fund. This will only affect those aged 55 and above who have a Defined Contribution pension.
It is important to understand the tax implications of drawing money from your pension beyond the 25% tax free lump sum and we strongly recommend seeking advice from a financial advisor before taking any action.
There are however, a few other forthcoming changes announced in the budget that people may not be aware of. Below we outline what is still to come and how you can benefit.
Accessible Alternatives to Annuities
According to the government, an estimated 75% of people buy an annuity with their pension fund because it is seen as the secure and straightforward option. Some drawdown and SIPP schemes weren’t available to people on incomes lower than £20,000 a year so an annuity was their only choice. Now an annuity is still an option but most people with a private pension have the freedom to do what they wish with their hard earned money.
The benefits: The choice is yours of whether to purchase an annuity; use a drawdown scheme or keep the pension invested and withdraw lump sums as and when they are needed. Withdrawing cash sums is risky if you don’t have a plan of what to do with it, so for those with little investing experience an annuity may still be the most practical; guaranteeing you won’t run out of money.
Greater Access to Drawdown
One of the reasons the majority of people bought an annuity was because you could only enter a drawdown scheme if you were earning at least £20,000 per year from your various forms of pension income. The government have now reduced this to £12,000 so that majority of people will be able to access flexible drawdown as an alternative to annuities.
The benefits: This gives people another choice and one that will help to grow their fund. A flexible drawdown means you can take any sum of money whenever you like and a capped drawdown means the money you withdraw annually is limited; similar to an annuity.
Pension Contribution Restrictions
If your pension is classed as uncrystallised (not drawn from) you may contribute up to £40,000 a year. Once you have withdrawn money from it or taken part to invest, you will then be restricted to only a £10,000 per year contribution. This is to prevent people over the age of 55 from avoiding tax by putting earning straight into a pension fund, benefiting from the tax relief and then withdrawing.
In the March recent budget from George Osbourne, a controversial lower lifetime allowance was announced: previously you could contribute £1.25 million to your pension throughout your lifetime but this has been reduced to £1 million. This seems like a lot of money and across a working life of 45 years you would have to contribute £22,000 a year, however for those who think about pensions early on in life (child pension schemes exist for the financially savvy) it can actually be off-putting.
The benefits: The changes to pension annual pension contribution are better then previous rules as those who had entered flexible drawdown weren’t allowed to continue contributions.
Capping the lifetime allowance is clearly a disadvantage, although it is said to only affect 4% of the population. If they do exceed the allowance (LTA) they will be hit with a hefty tax bill – usually 55% depending on the saver’s earnings.
Annuity Freedom
Another change announced in the March 15 Budget addressed the issue of current pensioners who felt left out by the pension revolution. There are an estimated 5 million people who currently have annuities and many are unhappy that they are poor value. From April 2016 it should be possible for a pensioner to sell their annuity to an insurer or pension holder in exchange for a cash sum which they can then invest an draw upon with the same rules implemented this April.
The benefits: his policy could be tricky logistically, but if it works it would make a lot of people more satisfied, financially in control and potentially wealthier.
These are just a few of the changes which happened in April and further into the future. To discover more about the Pensions reforms, your options and the tax implications, Belvoir host regular seminars by experts in the industry, please contact emma.falco@belvoir.co.uk for details about the latest seminar
Belvoir also recommend you seek personal advice from an established financial management company in order to understand the consequences of each investment scheme or method, particularly if you are considering high risk schemes like a SIPP. To parody Voltaire, “with great financial freedom comes great responsibility”: the Pension Reform has many benefits as more options open up to people, however, you only get once chance at pension planning so it is vital you make smart, informed decisions.
The information provided in this article is meant as a guide to the recent changes to the pension reform and any individual should not make financial decision based upon it. Independent advice should always be sought prior to investment, change or consideration of management of your pension and finances.
Belvoir introduces to St. James’s Place Wealth Management plc. which is authorised and regulated by the Financial Conduct Authority.
