Government-backed pension scheme NEST has set out its ‘post-annuity’ approach to managing savings through retirement
Government backed pension provider NEST, the National Employment Savings Trust, has outlined radical proposals that will give savers using the scheme low-cost, flexible access to their pension cash.
It has also outlined an “automatic” process by which all savers, on reaching a series of age triggers, will be channelled into investments that both safeguard their cash to provide future income and enable savers to spend it as needed.
The plans, published recently, go some way to pave the way for NEST to become a benchmark in low-cost, flexible pension access, currently being denied to many
Also, NEST’s proposals offer a solution to the problems posed by “lifestyle” funds. As was reported these funds, which hold billions of pounds of pensioners’ savings, were built for savers who would buy annuities on fixed retirement dates, rather than, as now, a flexible retirement where cash can be drawn or invested as savers wish. As a result of this, many such funds are exposing savers to unnecessary market risk.
NEST’s research concluded that once savers finally did retire, their money should be managed in three phases linked directly to their age.
Its proposed solutions take into account factors including longer working lives, and assume most savers will have a 30 year long retirement.
NEST came into being as part of the introduction of “automatic enrolment” into workplace pensions, a policy partly based on Australian experience.
How will it affect my retirement?
The first phase envisaged by NEST is “early retirement”, spanning the decade between someone’s mid-60s and early 70s.
At this stage most savers don’t really know what kind of income they need from their retirement pots now or in the future. So it doesn’t make sense for them to lock their money up in a guaranteed income, such as an annuity. A flexible approach will suit most people best.
As a result, NEST’s default options would see the money left invested. The portfolio would be designed primarily to protect savers’ money from inflation, so the majority initially would be in shares and commercial property. But there would be two crucial additional features to this stage
Around 10 per cent of savers’ pension pot would be kept in cash as an “emergency fund” which could be accessed instantly, at little or no cost to the saver.
Secondly, a small portion of the money should be saved in a separate pot, building up a reserve which in future years can be used to provide an income.
In the second phase, when someone is in their mid-70s to early 80s, savers would continue to take a flexible income from their invested capital. But NEST recommends that the money that has been set aside for later life income should now be “locked in” to stop savers dipping into it. This provides a greater degree of security and certainty that an income will be paid for the remainder of an individual’s life.
And in the final phase, when savers reach their mid-80s and for those who live into their 90s, their money would be converted into an income stream for life through the purchase of an annuity.
NEST’s research found that buying an annuity in your 80s offers better value for money than buying one in your 60s. It also found that savers in their 80s no longer wanted to take investment risk and therefore preferred the certainty of an annuity.
Until recently buying an annuity has been the default option for millions of over 55s but in April the Government introduced new flexibilities which, in theory, mean savers are no longer forced into buying a guaranteed income. Instead, they now have unfettered access to their money as well as a wider range of options to keep their cash invested to save or spend as they like.
NEST’s vision is to create a simple, hasslefree path to pension freedom for every saver.
20 years ago this summer, Drawdown, the main alternative to an Annuity at retirement, was introduced.Tuesday, 25 August 2015 08:00
Below we look at how drawdown has become progressively more flexible and how investors can now take advantage as it enters its third decade. In the last year alone, the number of people choosing drawdown has more than doubled.
What is drawdown?
Drawdown was first introduced in the summer of 1995. Initially, it was the preserve of a minority of wealthy pension investors. Plans were expensive as it was a niche offering and advisers and pension companies were able to apply high charges for their services. A set up charge of 3% of the total fund was not unusual (which would mean £7,500 on a fund of £250,000). Self-Invested Personal Pensions (SIPPs) were in their infancy and low-cost SIPPs did not yet exist.
Over its lifetime, a new breed of drawdown has emerged with lower charges, greater flexibility and more tax breaks for passing pensions on when you die.
After taking tax-free cash, which is usually up to 25% of the pension, drawdown allows you to draw income directly from the fund, which remains invested and subject to the ups and downs of the stock market. The income can be varied to suit your requirements.
Thanks to the advent of low cost SIPPs, the cost of pension investing has come down significantly.
How is drawdown more flexible? What are the risks?
Investors can now start and manage their wn drawdown plan for themselves if they are happy to make their own investment decisions. Today managing a pension in drawdown can be as easy and convenient as other investments.
You don’t need to take any income at all if you wish, and can instead take only the tax free cash and leave the rest to grow. Income can be stopped, started, or varied as required.
However drawdown is not secure and despite the greater appeal it remains a higher risk option than a secure annuity, which will pay an income for life. It’s important to remember investment returns aren’t guaranteed. Keeping your pension invested means it could fall as well as rise in value. If you take too much out, you live longer than expected or your investments perform poorly you could run out of money.
The value of pension and the income they produce can fall as well as rise. You may get back less than you invested.
The value of your investment and the income from it can go down as well as up and you may not get back the original amount invested. Past performance is not a reliable indicator for future results. Levels, bases and reliefs from taxation are subject to change and their value depends on the individual circumstances of the investor. Please contact us for further information or if you are in any doubt as to the suitability of an investment.
With the new pension freedom rules being introduced in April 2015 savers will be able to access their pension fund at any time from the age of 55. This means, if you wanted to, you could withdraw all of your pension savings as cash, subject to tax, and then spend it in any way you wish.
The Government is passing the responsibility to the pension holder to ensure that their pension money lasts through retirement. This means the safety net of restrictions, such as having to take most of your retirement savings in the form of an income will be gone.
Industry experts are concerned that some people retiring this April may feel instantly rich, for the first time in their lives, as their pension money that was locked away becomes very accessible. There are concerns that the over 55s will go on an unstoppable spending spree.
Many people are aware there are a number of pension scammers waiting for this event to begin and this is already of big concern to pension regulators. This is expected to increase as retirees have more options for using their pension savings. These scammers are expected to target the over 55s with promises of high returns in exchange for cash from small pension pots, promising to invest in complex structures which may seem valid and trustworthy, but turn out to be non-existent follies.
How to make your pension last through retirement
1. You have to remember that your pension savings will have to see you through for 20, 30 or even 40 years. So work out the pension income you are likely to need by identifying your fixed living costs, then calculate how much you need for other essentials . This, when totalled, is the bare minimum you require, but don’t forget to factor in inflation.
2. Never go it alone, always take professional financial advice. Simple actions like withdrawing your pension in one lump sum could have significant implications such as losing a large sum in tax. Also, taking a large withdrawal and putting it into a cash savings account or trying to invest the money yourself could be highly risky without knowing all the factors.
3. Appreciate the stock market rises and falls. Factor this in by investing sensibly and making planned withdrawals, then your portfolio should continue to provide you with a reliable income. It will be important to find the right product or investment that can meet your income plan and needs, but one that is not risk loaded
4. Always have a tolerance band built into your financial plans, as they rarely come in bang on target. Unless of course you are buying an annuity, which provides a guaranteed income for life, then you are guessing your life expectancy and hoping that your money lasts your lifetime.
5. Never underestimate inflation pressures, they are there and always will be. Costs generally over time always increase.
7. If you are ever concerned or worried about a possible scam pension proposal, you can inform the Pensions Advisory Service, Action Fraud, or the FCA or speak to your financial adviser.
The value of pension and the income they produce can fall as well as rise. You may get back less than you invested.
As of April this year, private pension wealth can be passed on to other family members, in some cases completely tax-free. This is a big opportunity for those looking to make investments for the next generation, as it opens up the concept of the pension family tree. Children or grandchildren can inherit your pension, and should you die before the age of 75 they will not pay tax on withdrawals they make from it.
Under the previous pension rules, once you had started to draw your pension, either by an annuity or income drawdown, in most cases anything paid out to your surviving beneficiaries was subject to income tax if taken as income, or a 55% flat-rate tax if taken as a lump sum. In the case of income, this could only be paid to someone financially dependent on you, like your spouse or a dependent child.
Under the new rules as of April 6th, regardless of whether you have started to draw a pension, your remaining fund can be passed on tax-free, if you die before the age of 75.
Your nominated beneficiary can use it to provide a tax-free income or a tax-free lump sum and does not need to be financially dependent on you. If you die on or after the age of 75, the beneficiary can receive the pension, but it is subject to tax at their highest marginal rate if taken as income. Pensions generally fall outside an estate, and thus are free of inheritance tax.
The Chancellor has made it possible to pass pension wealth on in a more taxefficient manner. That said tax rules can change in future and tax treatment will depend on your individual circumstances.
It is considered that the average life expectancy at the age of 65 in the UK is 86 for men and 89 for women, so the Government estimates most people will survive the age 75 threshold, and thus bring in tax receipts when they die. Pensions are governed by the lifetime allowance, which is currently set at £1.25m: anything over this is subject to a tax charge of up to 55%.
No news or research item is a personal recommendation to deal. All investments can fall as well as rise in value so you could get back less than you invest.
Your pension family tree
Husband dies age 74 with £500,000 in his SIPP
£500,000 passes tax free to wife
Wife inherits the pension. Withdrawals are tax free as husband died under age 75. Leaves £400,000 to pass on when she dies age 85.
£400,000 passes tax free to their two children
Two children inherit half each, which they both keep with a SIPP, so there is no tax to pay on the investment growth. Withdrawals are subject to income tax. Both children die after age 75.
Remainder passes tax free to grandchildren
Grandchildren inherit the pension with the same options as their parents. Withdrawals are subject to income tax.
How to structure and set up a pension family tree
You simply nominate who you would like the remaining pension paid to when you die (you can nominate more than one person) and you can change the nomination at any time. The nomination also applies to income drawdown, an option where you draw retirement income directly from the SIPP, but it does not apply to an annuity. The nomination is not legally binding, but it is seen as your wishes. Nominated beneficiaries and dependants can choose whether they take an income or lump sum.
This article is based on our understanding of current and draft legislation, which could change in future.
Have you ever thought “if only I could stop working”, but how could you afford it? The answer will be dependent on your pension and how well it has performed. Here we look at ways to get your pension into shape
1. Use your share of the £35 billion the taxman gives pension savers
When you put money in a personal pension the taxman also contributes. Imagine you pay in £1,000. The taxman automatically adds another £250, so your pension pot receives £1,250.
If you pay 40% or 45% rate tax, as a higher rate taxpayer you get even more.
You can claim back money through your tax return which means the £1,250 from the example above, could cost you as little as £687.50 or 55%.
The amount you get from the taxman depends on your circumstances and tax rules can and do change. So take advantage whilst it is still on offer.
2. Start a pension
It is thought that as many as four in ten British adults don’t have a pension, including 1.4 million who are within 10 years of retiring.
If you wish to retire at 65 on 65% of your salary, the rule of thumb is like this; so the calculation is like this, divide your age when you start your pension savings by two and contribute this as a percentage of your earnings. For example, if you’re 25 you should aim to save 12.5% of earnings. Obviously to retire at 55 you’ll need to save more, but the sooner you start, the less it should cost you to build a substantial pension.
3. If your employer offers you a pension at work, take it!
Some companies, especially the large ones, usually offer workplace pensions. In many cases, they pay money into your pension due to auto-enrolment which came into effect in 2012. Over the coming years all UK companies, will have to offer a pension to their employees. If you opt out, you could be missing out on ‘free money’ from your employer.
4. Check where your pension is invested
Half of the UK population have no idea where their pension fund is invested, but it is important to know because you could be missing good returns if you didn’t. Not all investments are the same and the difference could have a significant impact on your pension. That said, all investments go up and down so you may end up with less than you invested, but keeping a keen eye on it lessens risks on returns
5. Make small, regular increases
Take a person aged 30 contributing £150 net to his pension every month. If every year that person increases that amount by 5% or £7.50 a month for the first year, at age 65 he could find himself with an extra £190,642 in his pension, assuming basic tax relief and that the fund grows 4% a year after charges.
Never mind takeaways: this should pay for quite a few fine dining meals!
Meaning a little increase can go a long way in the future. however, this example is only based on today’s terms and doesn’t consider inflation which would reduce real values over time.
6. Trace old pensions
Most people have around 10 jobs during their working life and many forget or don’t keep track of all the pension schemes they have joined during their career.
If you recall joining more than one pension but don’t have the details to hand, you can trace them for free with the Pension Tracing Service.
7. Approaching retirement?
Retirement rules are changing as of April 2015. If you are 55 or over, you will have a lot more freedom and flexibility on how you can draw your private pensions. You can take lump sums (single or periodical), income (secure or flexible), or a combination, you can even take your whole pension fund as cash in one go.
However, remember the first 25% you withdraw is usually tax free, and the rest will be taxed as income.
Choosing how to draw your pension is one of the most important financial decisions you will have to make. Remember you may need it for 20, 30 or even 40 years. So ensure you find out about the new rules and opportunities available.
8. Don’t delay on your pension
It is thought that as many as 3.5 million people have no plans to stop working at all, many because they have no monetary support structure in place, but wishing they had.
What you do today could make all the difference for your future and relaxing at 55 sounds better than working hard well into your later years!
Retirement rules are changing as of April 2015. If you are 55 or over, you will have a lot more freedom and flexibility on how you can draw your private pensions
The value of pension and the income they produce can fall as well as rise. You may get back less than you invested.
In January 2015 the Government announced the name of its new pensions guidance service, which is to be run in partnership with the Citizens Advice and The Pensions Advisory Service (TPAS).
The service will be called Pensions Wise: Your Money, Your Choice, which the Government hopes will reflect the empowerment of people approaching retirement to make confident, informed choices about funding their retirement. The service is free and will offer impartial guidance on the many different pension options that will become available from April, and will be presented through faceto- face meetings, telephone conversations or online guidance.
The service will start with a pilot scheme to test what does and doesn’t work well and to receive customer feedback.
What does the service provide?
This service is there to give those approaching retirement guidance on their options and what steps to take, but it won’t offer advice. Detailed advice will still need to be taken from professional advisers. This new Government service will hopefully help the user understand what questions to ask and where to get the best help as well as provide an idea of how they can secure their retirement income.
Users have to book a appointment to use the service, whether they want a face-to-face meeting, or a telephone interview. After the meeting, users will be issued with a summary document so that they can reflect on the guidance provided.
Why do we need this service?
With the introduction of the new pensions reforms in April, the level of possible options has increased dramatically, bringing a new level of complexity into the pensions arena. This means, making an informed decision about how to manage retirement funds and ensuring retirees are able to maintain an income throughout the rest of their lives, is even important than before.
The Government’s pension guidance service promises to create an essential first step for pre-retirees who are looking to find out more about their pension options after April and will help to guide them through what could be a difficult journey.
The facts so far
There are still some outstanding issues and unanswered questions, the Government is yet to go into fine detail about what exact guidance will be offered. It is also important to point out that this service is offering guidance only to pre-retirees. After an initial meeting with Pension Wise, it is still advisable to meet with a professional financial adviser to go through your options in more detail.
How we invest our capital has expanded dramatically over the years.
Options range from individual company share ownership to more unfamiliar territory.
One “in vogue” option is Venture Capital Trusts (VCTs), they trade on the London Stock Exchange (LSE) alongside other publicly listed companies. They aim to produce a profit by investing in small, often unquoted, companies usually needing more investment to help them grow their business.
VCT managers are extremely experienced; they use this experience to help the business grow, taking a hands-on approach, to the investee company by taking a seat on the board.
VCTs, don’t invest purely for growth.
VCTs often provide part of their investment as a loan to the merging business with a smaller amount in shares. Such loans can help generate an income, which is paid to investors in the VCT. When underlying businesses are sold, a portion of any gain is paid to VCT investors as a dividend.
Many VCTs pay a tax-free dividend of around 5%. The majority of returns from VCT investment come from dividends, rather than capital growth. However, the fact remains that investing in smaller companies is higher risk and VCTs are aimed at more sophisticated investors.
The Government offers generous tax relief to those who invest in new issues of VCT shares. An income-tax rebate of up to 30% is available on the initial investment, meaning a subscription of £10,000 in effect costs you £7,000. Up to £200,000 can be invested each tax year and there is no capital gains tax to pay on the disposal of VCT shares. Any dividends are also paid free of tax.
To qualify for the 30% income tax relief,you must remain invested for a minimum of five years. Investors might consider VCTs, once they have used up their pension and ISA allowances, given the tax breaks they offer.
VCTs do fit in an existing portfolio and should be viewed as a pre-retirement plan to help build up tax-free income until retirement. Many investors do consider VCTs as very high risk and, therefore, they are often completely overlooked or avoided.
There are risks, but it is spread by investing in a portfolio of companies. Since VCTs were introduced in the mid-1990s, managers have become more experienced in their field and often have a vested interest; so by investing their own capital alongside other investors, they have their own risk and reputation to consider.
If you have utilised your ISA allowance and contributed fully to your pension, you may want to take a closer look at VCTs
The value of your investment and the income from it can go down as well as up and you may not get back the original amount invested. Past performance is not a reliable indicator for future results. Please contact us for further information or if you are in any doubt as to the suitability of an investment.
Following the pension reforms introduced in the Budget this year, the Government has recently announced further changes to the tax treatment of pensions on death.
These new changes, which are yet to be confirmed, will make it possible for money purchase pension funds, including those already in drawdown, to be passed on to beneficiaries free of tax.
This should encourage investors to maximise their pension contribution allowances. You can now save into your pension fund, knowing you can now draw on all of your savings from age 55, but you can also pass on any unused savings to beneficiaries’ tax free on death.
At present, it is only possible to pass on a pension as a tax-free lump sum if you die before the age of 75 and you have not taken any tax-free cash or income. If you have, the fund is subject to a 55% tax charge.
As of April 2015, regardless of when you die, you can pass on your pension tax free, provided your beneficiaries keep the money in a pension. Should they decide to make withdrawals, they only pay income tax at their highest marginal rate, providing you die after age 75.
This includes: - Pension funds paid out from drawdown before or after age 75 from a standard pension will not be subject to the 55% tax charge - Drawdown funds can be paid to inheritors as pension assets tax free - Income taken from inherited pension funds is tax free if the member died before 75
The tables below show the difference between old and new rules at a glance.
The Inheritance Tax (IHT) rules remain the same for both old and new rules where pensions are usually held in trust outside your estate and therefore inheritance tax isn’t usually applied.
Generally pension providers should allow you to nominate your beneficiaries, when you begin your pension. It should also be possible to change the beneficiary should your circumstances change over time. This nomination is not usually legally binding; however it does make your provider aware of your wishes.
It is expected that the new rules will be effective from April 2015. The information currently available suggests the announced death benefits flexibility will apply to death benefits paid after April 2015.
If you have already decided to go into drawdown, there should be no advantage in delaying. Even if the worst happened and you died before April 2015, your beneficiaries could opt to delay taking any lump sum payments until after April 2015.
Those currently in income drawdown should be able to benefit from the new rules from April 2015.
Those who have used their pension to buy an annuity, will be unaffected by the new changes. An annuity will stop on your death unless you have chosen to protect the income.
Death BEFORE age 75
Lump Sum - OLD RULES; Tax Free or 55% tax if in drawdown. NEW RULES; Tax Free
Income - OLD RULES; Taxed as income (via an annuity or drawdown) Option available only to dependents. NEW RULES; Tax Free if taken via drawdown. Taxed as income if taken via an annuity. Option available to any beneficiary.
Death AFTER age 75
Lump Sum - OLD RULES; SUbject to 55% tax. NEW RULES; Subject to 45% percent tax (unless paid as income)
Income - OLD RULES; Taxed as income. Option available only to dependents. NEW RULES; Taxed as income. Option available to any beneficiary
Details of the new pension reforms first announced in the March Budget have been set out in the Taxation of Pensions Bill published on 14 October 2014.
Chancellor George Osborne said people should “be able to access as much or as little of their pension as they want and pass on their hard-earned pensions to their family’s tax free.” People should be “free to choose what they do with their money”.
What does this freedom mean in practice? How will retirement be effected after April 2015?
The new rules apply to investors aged at least 55 who have a personal or stakeholder pension, a SIPP, an AVC or any other defined contribution pension and come into effect from April 2015.
How you take your 25% tax-free cash
Most people can take up to 25% tax-free cash from their pension.
From April 2015 you’ll be able to decide how you take that tax-free cash: take it all in one go upfront or have a portion of any withdrawals you make tax free.
So, someone with a pension worth £100,000 will have the choice of: Taking the £25,000 tax-free cash all at once, with any subsequent withdrawals taxed as income;
Making a series of withdrawals over time and receiving 25% of each withdrawal tax free. For instance, someone making lump sum withdrawals of £20,000 would receive £5,000 of each withdrawal tax free. Equally, someone taking an income of £1,000 a month would receive £250 of that payment tax free. Please note: this will not be available through an annuity.
The second option could be attractive because it could help you manage your tax liability.
In addition, whilst your money is in the pension, it can remain invested. So, if your investments perform well you could end up with more money available to withdraw over time. On the other hand, if your investments perform badly you could end up with less money available to withdraw.
Freedom in how you take your pension
The Chancellor has described pensions as similar to bank accounts. This is because from April 2015, if you’re aged at least 55, you’ll be able to decide how to make withdrawals from your pension: 1. Take the whole fund as cash in one go 2. Take smaller lump sums, as and when you like 3. Take a regular income (via income drawdown – where you draw directly from the pension fund, which remains invested – or via an annuity – where you receive a secure income for life)
Please remember though, any withdrawals in excess of the tax-free amount will be taxed at your marginal rate (the highest rate of income tax you pay).
Both annuities and income drawdown are already available under current rules.
However, whilst currently the income you can take through income drawdown is usually subject to a maximum decided by the Government’s Actuarial Department (known as the ‘GAD limit’), from April 2015 there will be no limits.
It will be your responsibility to decide how much income to take, bearing in mind the more you take, the greater the risk you will run out of money later in life. We don’t know how long we’ll live, so it’s important to think carefully about how much of your pension you can afford to take out.
Investors interested in taking advantage of the new freedoms, but wanting to take their tax-free cash now and start drawing from their pension before April 2015 could consider income drawdown now and benefit from extra freedom from next year.
Freedom when you pass your pension on
Until now there was little incentive to preserve a pension fund, because on death it could be subject to a punitive 55% pension ‘death tax’.
This has now changed.
From April the 55% pension ‘death tax’ will be abolished. When you die, any money left in your pension can be passed on to your beneficiaries. They will benefit from the windfall subject to income tax at their marginal rate, tax free or subject to a 45% tax (if you die after age 75 and your beneficiaries take your pension as a lump sum).
What happens if I’m already drawing my pensions?
If you’re currently in income drawdown, you should be able to benefit from the new rules from April 2015.
If you’ve used the whole of your pension to buy an annuity, it’s unlikely you’ll be affected by the changes.
The new flexibility is making pensions extremely attractive. You can build up your pension fund, knowing from age 55 you can not only draw on your savings without the current restrictions, but also pass on any unused savings to beneficiaries’ tax efficiently on death. However, with the freedom comes the responsibility of managing your pension responsibly.
People taking advantage of a concession that will allow a pension fund to be used as a cash machine could be hit by large tax bills on their withdrawals.
The withdrawals system was announced recently by the chancellor as an extension of the groundbreaking pension freedom system that will take effect next April 2015. Under these complex reforms, the purchase of an annuity will no longer be compulsory and instead anyone over the age of 55 will be allowed to make regular withdrawals from a fund.
With an increasing number of unemployed older people many may be tempted into withdrawing cash from their pension for everyday living costs without assessing the possible pitfalls. In some circumstances, tax at the rate of 45% could be deducted before the payment is made by the pension company, even though the recipient is not or has never been a higher rate taxpayer. This may be because an emergency tax code could be used by the pension company if it has insufficient knowledge of its customer’s financial position.
However, only 25% of the fund will be tax free. Any further sums taken out will be subject to tax based on the individual’s total earnings for that tax bill. People who do wish to withdraw funds from their pension can avoid having to pay emergency tax by ensuring that the pension provider is given proof of the individual’s tax code for the relevant year.
If an emergency code is used and too much tax is deducted from a withdrawal, then this can be reclaimed. But Revenue and Customs does not make immediate refunds. The possibility that a large chunk of tax could be taken is yet another reminder of how carefully people must plan be before seeking to benefit from the new pension freedoms.