What do the new rules mean for your pension?
The Government has introduced some major changes to the way in which people can access their pension savings, but what does that mean for you?
What hasn’t changed?
The minimum age at which you can draw a pension remains the same for the time being at 55, although it is planned to increase this to 57 in 2028 and, presumably, to 58 later. In other words aligning it to the increasing State Retirement Age, albeit 10-years earlier.
Also, the first 25% of any accumulated savings can be taken as tax-free cash (correctly Pension Commencement Lump Sum – PCLS).
That a pension is still intended to provide people with life-long retirement benefits, not a car, boat or holiday!
What were the old rules?
Before I go on to review the changes, let’s consider what the position was prior to 27 March 2014.
The balance of the fund, after the PCLS, had to be used to provide an income for life. There were a number of options for generating that income, the main ones being:
- An Annuity. An annuity is a guarantee from an insurance company to pay a certain level of income for life in exchange for a non-refundable lump sum investment. There is a wide range of options at the outset, but the principle is the same – give up the savings in exchange for a taxable income. Certainly in recent years, annuity rates have been very poor, because of the general economic climate, especially through the recession. Also regulatory changes and our own longevity have adversely impacted the rates available.
- Flexible Drawdown. The fund was left invested and any taxable income required taken as a withdrawal from those investments, without limit. However, to qualify for “flexible” drawdown, the individual had to be in receipt of guaranteed pension income from elsewhere, which could include the State Pension, of at least £20,000 per annum.
- Capped Drawdown. For those without the requisite guaranteed income, capped drawdown was available, which still provided taxable income withdrawals from an invested pension fund. However, the level of income was capped at 120%of the prevailing annuity rate (set by the Government Actuaries Department) for that individual.
What do the new rules mean?
Flexible Drawdown for all. From April 2015, Flexi-access Drawdown was introduced and no new capped drawdown arrangements can be set-up. Consequently, there are no minimum guaranteed pension income limits to qualify for what was flexible drawdown.
In essence, since April 2015, a pension comprises two elements:
- Tax-free cash, and
- Taxable cash
So, theoretically, anyone retiring after April 2015 can withdraw all of their pension savings immediately, with the first 25% tax-free and the balance subject to Income Tax.
The Income Tax Rates for the 2017/18 Tax Year are as follows
|Balance over £150,000||45%|
In addition, there is another sneaky band between £100,000 and £123,000 in 2017/18, where the effective rate of tax is 60%, because of the gradual withdrawal of the Personal Allowance between those two figures!
Of course, other taxable income in the Tax Year of retirement also has to be taken into account, so, if someone earning £50,000 gross per annum retires on 05 October 2015, exactly halfway through the Tax Year, they will have already received £25,000 in salary.
What are the issues?
Professional advice at the time of retirement is even more important now than it ever has been, because of the far-reaching implications of the new rules.
The issues to consider include:
- Longevity. How long are you going to live and what are you going to live on?
- Annuities. They’ll still be available, in their various guises, and may still be the most appropriate means of securing a regular income in retirement.
- Drawdown. How the remaining pension funds are invested has a very considerable bearing on whether the income withdrawals are sustainable.
- Tax. What level of withdrawal can be taken without unnecessarily incurring a Higher Rate tax liability?
- Death Benefits. Since April 2015 the rules on death have ben much more simple and less taxing. Death prior to age 75 will mean that the entire fund is available tax-free. Death after age 75 will mean the fund will be taxed at the beneficiary’s prevailing tax rate.
If you are about to retire, talk to me about how we can exploit the new rules to your advantage.