On 6th April of this year some significant changes in the world of UK pensions came into force. This will affect most UK pension holders so it’s important to be aware of how this could impact on your pension and retirement planning. This is a complicated topic, and admittedly not the most exciting, so this article aims to give an overview of the main points.
Take your pension as cash
Prior to 6th April 2015, when you reached age 55 you were able to take a cash lump sum of up to 25% of the size of the fund. This was previously known as a tax-free cash sum but is now largely referred to as a Pension Commencement Lump Sum (PCLS) as not all non-residents will receive it free of cash.
With effect from April 6, once you reach 55, you will be able to withdraw money from your pension in any way you wish. The first 25% will, for most people, be paid free of tax, but the remainder will be paid at your highest rate of income tax. For most people this will be 40% or 45% so a significant amount. This makes it a truly viable option for very few people and should assuage the fears of those who claim pensioners will withdraw all their money and buy Ferraris!
The mandatory requirement to buy an annuity was removed some time ago but these changes could make withdrawals even easier as it should be possible to take a series of smaller lump sums, in which case, 25% of each withdrawal you will typically be tax-free and the remainder will be taxed as income. Not all pension providers are allowing full flexibility and other options that provide a regular income may be more suitable for many.
Final salary schemes
People with final salary pensions, also known as defined benefit schemes, will have to transfer to a defined contribution scheme to take advantage of these new freedoms. This is not a simple as it sounds and such a move could mean that certain guarantees are given up.
The regulations relating to such transfers have also tightened up significantly and only UK authorised and regulated advisers are permitted to advise people if a transfer is appropriate. I am now working with a UK arm of Holborn Assets to provide advice to my clients.
Currently, UK residents can contribute up to £40,000 a year into their pension, including any contribution from their employer. If, after April 6, any money is taken from a pension in addition to the PCLS, the maximum amount that may be paid in and receive tax relief will be £10,000 a year.
The ability to use allowances from previous years has been withdrawn and excessive contributions will be subject to a tax charge of 55%. This is to stop people taking money from their pensions and then paying it back in to get extra tax relief.
Whilst not directly relevant to most expats, these restrictions mean that anyone who intended to take cash back to the UK to make large pension contributions when they become resident again and get the tax relief will find their options limited. Other means of saving for the long term may need to be considered.
Tax reduction on inherited pensions
Previously there was a tax charge of 55% to be paid when passing on a pension following the death of the policy holder prior to age 75 years but this has been removed and any unused pension can be given to a person of their choice free of UK tax. (There was an option to take income and reduce the tax.)
For those who die over the age of 75 with monies still in a pension fund monies can be passed on, either as lump sum taxed at 45%, or as income at the recipient’s marginal rate.
The purchase of an annuity is the traditional way of receiving an income in retirement as payments are guaranteed for life and not subject to the vagaries of investment markets. Although they have had some bad press for many the guarantees they provide make them suitable.
As part of “pensions freedom” with effect from 6th April 2016, the government will remove the restrictions on buying and selling existing annuities to allow pensioners to sell the income they receive from their annuity without unwinding the original annuity contract.
People will then have the option to use the capital as they wish, taking it either a lump sum or putting the money into a drawdown arrangement to use the proceeds more gradually. Monies taken out will still be taxed in the same way as other pension income, at the individual’s marginal rate.
This is now subject to consultation and I would not expect the final details to be announced until early 2016.
The changes are fairly radical and have led to a great deal of confusion. Further guidance is expected in June particularly with regard to the drawing of income and proper advice should be taken before making any withdrawals.
Should you have any queries, regarding this or any other financial issues, please do not hesitate to contact me at firstname.lastname@example.org