An at-a-glance look at six newly-clarified rules for pensions, which will sit alongside the new freedoms for savers next April
The pensions revolution was sprung upon us in March, when George Osborne, the Chancellor, disclosed plans in the Budget to liberalise pensions. His initial outline has changed little.
Savers aged over 55 from April 2015 will be able to access their pensions with complete freedom. Instead of being forced, under Government rules, to convert savings into a chunks of annual income, they will be able to take out as much as they like, as often as required.
Historically, savers with non-final salary pensions – i.e. with pots of money invested in the stock market – have bought annuities. This turned a pension into a regular income that lasted for life. A small number of wealthier savers were able to avoid annuities and use “income drawdown”, where the money remained invested as an income was taken. However, a cap on withdrawals applied for all but the very wealthiest who had £20,000 annual incomes from other pensions.
From April 2015, savers have three main choices: withdrawal all their pension money immediately; leave it invested and take income when required; or buy an annuity. Withdrawals will be liable for income tax. People who have already bought annuities are excluded from the freedoms.
Since the Budget the Government has been in consultation on how the new pension system should work. Its conclusions, published on Monday, contained several key clarifications.
1 Final salary pension schemes
Ministers had contemplated a ban on savers transferring final salary pensions to other schemes that would pay out the entirety as cash lump sums. The Treasury feared a rush of transfers would have a detrimental impact on some schemes – and that might put at risk the businesses and members who stayed behind.
However, in its update the Government confirmed transfers out of private sector final salary schemes will still be permitted after 2015. Anyone transferring more than £30,000 will need to take independent financial advice. There will be a consultation on allowing savers to withdraw money directly, removing the need for a transfer. However, the vast majority of public sector workers will be blocked from transferring their generous pensions, it was confirmed.
2 Death tax rate
Currently, money inside a pension that has been accessed can be passed on to beneficiaries, less tax of 55pc, when a pensioner dies. This applies to the drawdown policies held by around 400,000 people. With millions expected to use drawdown in future, this tax rate is deemed too high. If it remained, it would encourage people to pull money out of pensions, even if this option was inappropriate. So the Government will in the autumn announce a reduction to the 55pc rate. This is expected to be 40pc – the same as other inheritance taxes – allowing families to pass on more of their wealth.
3 Rising personal pension age
An increase in the age at which savers can access their personal pensions had been mooted in the Budget. This will rise from 55 to 57 in 2028 and then stay 10 years below the official state pension age, it was confirmed on Monday. Anyone born after March 5 1971 [correction] will be unable to access pension money until age 57. Those aged under 40 are likely to have to wait until age 58. Younger workers may not be eligible for a state pension until age 70, and so will have to wait until 60 to access private pensions.
4 The closing down of the ‘recycling’ loophole
The reforms appeared to have opened a tax loophole to the over 55s. Under the ruse, called “pensions recycling”, a saver might have withdrawn up to £40,000 and immediately fed it back into the fund to cut taxes. This exploited the tax break on pensions, in which income tax is refunded at a saver’s highest marginal rate. From April 2015, anyone over 55 who has already accessed pension money will be allowed to contribute no more than £10,000 a year. This will apply to current drawdown customers, but not those who have bought annuities.
5 New annuities
New rules will permit the creation of “super annuities” that are much more flexible than the current deals. Pensioners could be allowed to withdraw lump sums from annuities or take a larger income in the early years of retirement. And pension firms will be able to provide more generous death benefits. Currently, many single person annuities include a 10-year “guarantee period” which ensures that, should the policyholder die early, an income is paid to a spouse for the remainder of the period. In future, annuities could be designed with lifelong guarantees. Pension providers may also have the freedom to hand back smaller annuities – perhaps worth less than £30,000 – as lump sums, rather than continuing to make regular payments to beneficiaries.
In March, Mr Osborne promised free, impartial help for savers mulling over how to use the new freedoms. But it was unclear which organisations would give this guidance, and many feared the pensions industry might hijack the process, surreptitiously pushing products on customers who thought they were getting free help.
The Government has decided that every saver will be entitled to obtain guidance, at no cost, from either the Pensions Advisory Service or the Money Advice Service. These two organisations are linked to the Government and do not sell products. The help will be basic, running through customers’ options. For tailored advice, savers will still need to pay for an independent financial adviser.