Significant changes to pensions were announced in the Budget – offering pension savers more freedom, choice and flexibility than ever before on how they access their pension savings.
One of the main changes announced in the Budget was that there will no longer be a need for pension savers to buy an annuity. Anyone will be able to draw as much (or as little) from their pension pot, when they choose, once they reach retirement age. 25% of this pot will still be tax-free while the balance will be taxed as income in any year it is taken.
Changes so far
The proposals are still subject to consultation at present. However, several immediate changes have been introduced, including increasing the capped drawdown income limits by 25% (to 150% of an equivalent annuity) and reducing the secured income hurdle to enter flexible drawdown from £20,000 to £12,000. The intention is to remove this income limit altogether in 2015.
This new flexibility will raise some important issues for those reaching retirement, such as the level of a policyholder's disposable income in retirement and what happens if he or she pre-deceases their spouse?
Professional advice will often be needed on tax-efficient withdrawals of income, income sustainability, investment risk and cashflow planning – to guide people through the options and help them make the best decisions.
The role of annuities
The removal of annuity requirements is generally seen as a welcome step, although annuities still have a place for some retirees. As people live longer and have fuller retirements, it's important to ensure that lifestyles can be maintained and that a surviving spouse is catered for.
Annuities provide a guaranteed income for life and ensure that people are less likely to stretch themselves beyond their financial means. Death benefits are determined at the outset, as retirees can build in income allocations (e.g. 33%, 50%, 100% of income) to their spouse on death. However, this assurance against uncertainty is reflected in the cost of the provision and so will affect the ultimate annuity rate.
Under drawdown the risks related to longevity are met by the retiree, who will also need to factor in his or her spouse's requirements. On death a spouse may either inherit the pension fund in the current 'wrapper' and continue to drawdown or purchase an annuity without triggering a tax charge at that point. Income received will remain subject to the spouse's marginal rate of income tax. Alternatively, the spouse can opt to receive the cash value of the pension but will be subject to a 55% tax charge at current rates. The 55% tax charge may be reduced after the current consultation.
Meeting retirement aims
This added flexibility has been well received, but time will tell whether it is a good move and how the market and pension savers will respond to it. Either way, many individuals would be well advised to continue seeking professional advice to help them fulfil their aims in retirement.
We have taken great care to ensure the accuracy of this newsletter. However, the newsletter is written in general terms and you are strongly recommended to seek specific advice before taking any action based on the information it contains. No responsibility can be taken for any loss arising from action taken or refrained from on the basis of this publication. © Smith & Williamson Holdings Limited 2014. 14/494. exp: 30/11/14
