Category Archives: Pensions

Focus On: Pension Nominations

By now, we’re all fairly well versed on the various flexibilities associated with ‘pension freedom’ legislation.

Pensions now have the potential to be an extremely tax efficient vehicle via which to transfer wealth. If you’ve built up a substantial pension pot and are able to retain as much of this as possible by drawing a retirement income from other sources (such as ISAs, collectives and bonds), you may think that you’ve got it sussed. By avoiding accessing your pension funds during your lifetime, less of your wealth will fall into your estate, thus reducing or mitigating Inheritance Tax liability. Furthermore, if you die before the age of 75, the entirety of your pension can be inherited free of tax (IHT and income) for your beneficiaries to access as they wish.

On the face of it, this is the case. But surely it can’t be that straightforward? There must be a catch somewhere! Indeed, there is some lesser-publicised small print.

In order to be able to benefit from all of the flexibilities, you’ll need to ensure the necessary requirements are in place. Let’s look at some of the issues that surround so-called ‘death benefits’, particularly pertaining to nominations.

Have you got the right pension?

Not all pension schemes can offer the full range of death benefit options. Some schemes have not adopted the full flexibilities or don’t have the systems in place to offer them. In fact, over the last few years I have reviewed countless contracts that will only provide lump sum death benefits. If a tax efficient legacy is important to you then you may need to consider moving your pension to a contract that will allow you to benefit from the full range of death benefits available under the current legislation. However, this decision shouldn’t be rushed into as your existing pension contract may have other very valuable features – such as guarantees, guaranteed annuity rates or enhancements to tax free cash – that need to be balanced against death benefit flexibility. Who said pensions were simple?!

Have you made the right nominations?

It is in fact up to the trustees of your pension to determine who should benefit from your pension on your death. This may sound worrying, but their discretion is important because without it, there could be significant and needless Inheritance Tax consequences.

A death benefit nomination, however, helps to guide the scheme trustees/administrators when exercising their discretion. The last instructions they receive will be used to guide their decision, so it’s vitally important that nominations are regularly reviewed. The more information you can provide regarding the payment of benefits, the better.

The rules now allow for someone who is not dependent upon the deceased (for example, their adult children) to retain the pension fund inside the tax efficient wrapper and draw an income as they require (this is commonly termed ‘inherited drawdown’).

But there’s a little known trap that can prevent this from happening.  If there is a surviving dependant (e.g. a spouse or disabled child), inherited drawdown can only be offered to someone else if the deceased had nominated them during their lifetime. Without that nomination, their adult children, for example, won’t be able to choose inherited drawdown, meaning the only option is to pay them a lump sum. Although a lump sum might seem an attractive proposition, if death of the pension owner occurs after age 75 then this lump sum payment will be subject to the non-dependents’ marginal rate of income tax and could result in an eye-watering amount of tax due immediately and unnecessarily. Furthermore, the net amount received would then come out of the pension wrapper and form part of the non-dependents’ estate. Had they had the ability to move into inherited drawdown, they would have been able to nominate their own beneficiaries and the fund could have cascaded through generations to come without Inheritance Tax implications.

Issues may also arise where people nominate their spouse to inherit 100% of the benefit of their pension. Although this may be the right option in many circumstances, family life has undoubtedly become more complex in recent years. Those that have remarried and/or have children from previous relationships may want to re-visit their nominations to ensure their current spouse is taken care of upon first death, as well as leaving instruction for any remaining pension fund to be passed to their own children upon second death.

For those with large estates, building in some flexibility on first death is also important. If your spouse is never likely to need the value of your pension, it may be advantageous to allow your adult children to benefit from the fund upon first death as opposed to second death, which could occur much later on in life. If this nomination is in place and the pension holder dies before age 75, the full death benefits of the pension could be realised and the entire pot passed tax free into the beneficiaries’ hands.

Additionally, many people omit to specifically detail how they would want benefits to be treated if both they and their spouse died together.

The time is now

Whilst we cannot place any obligation on the trustees of your pension, a carefully worded nomination form can help to ensure there is some flexibility should the worst happen.

It’s easy to think that these decisions can be left until another time. However, an untimely death or the diagnosis of a serious illness can mean that what you would have liked to happen to your pension savings cannot be followed through.

Nominations can normally be changed at any time and should be regularly reviewed. Changes in your personal circumstances, how much your spouse needs in retirement, or reaching age 75 may all prompt a rethink on how benefits are to be distributed.

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Reasons to Pay into Your Pension Before 6 April 2017 – Part 2

Last week we looked at 5 reasons to consider paying into your pension for in the current tax year before the clock ‘resets’ on 6 April 2017.

Here we look at a further 5 reasons.

For additional advice or assistance in relation to pension contributions, please do not hesitate to contact us.

Dividend changes for business owners

Since April 2016, directors of SME’s will likely face larger tax bills due to the increases in dividend taxation rates. Whilst any dividends over and above the current £5,000 tax free allowance will still be chargeable at the relevant rate, making pension contributions could help to reduce overall tax liability. By making employer pension contributions from profits, corporation tax liability can also be significantly reduced.

Company directors aged 55 and over could divert profits that would otherwise have been paid in dividends into their pension and then withdraw a portion of it tax free (up to their own 25% tax free allowance).

It is worth noting that the Chancellor announced in the Spring Budget plans to reduce the dividend tax free allowance to £2,000 from April 2018.

Pay employer contributions before Corporation Tax relief reduces

Corporation Tax will reduce to 19% as of 6 April 2017, with a timeline to further reduce this to 17% by 2020. In order to benefit from the current rate of tax relief of 20%, companies may want to consider bringing forward pension funding plans.

Sacrifice bonus for employer pension contributions

If you are due an annual bonus as an employee, or now is the time you look to take a lump sum in a dividend from your business as a director, you may want to consider making an additional pension contribution instead. As a bonus often takes you into a higher income tax bracket, receiving a pension contribution instead can result in a significant effective rate of tax relief.  Although salary sacrifice cannot be used to avoid falling into the annual allowance tapering covered in last week’s article.

Boost SIPP funds now before accessing flexibility

Anyone looking to take advantage of the new income flexibility for the first time may want to consider boosting their fund before April, potentially contributing the full £40,000 from this year plus any unused allowance carried forward from the last three years. The Money Purchase Annual Allowance (MPAA) will mean the opportunity to continue funding will be restricted. The MPAA is currently £10k but will fall to £4k in April 2018 with no carry forward available.

Anyone already in capped drawdown (remaining within pre-set income limits), or who only takes their tax free cash will retain their full £40,000 annual allowance.

Providing for the next generation

Should you choose to make additional pension contributions as a result of any of the above points, or those detailed in our previous email on the same topic, the overall effect will leave you with a larger pension pot to draw on in your retirement, or potentially before thanks to pension freedoms. Since pension freedom legislation came into play, the new death benefit rules also make pensions an extremely efficient way of passing on wealth to family members. In the vast majority of cases, if death occurs prior to the age of 75, family members can inherit the remaining value of a pension fund free of tax (subject to Lifetime Allowance limits).

It is also worth noting that pensions are generally sheltered from Inheritance Tax (IHT) – making a compelling case for transferring funds from other taxable savings environments to the IHT advantaged environment of a pension.

 

If any of these points are relevant to you and you’d like to discuss how best to proceed with your pension contributions for this tax year, please contact us.

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Reasons to Pay Into Your Pension Before 6 April 2017 – Part 1

The end of the current tax year is looming meaning you only have a limited time left to make arrangements to pay into your pension for 2016/17.

Whether you are an employee, an employer or a company director, there are some compelling reasons to look at making additional pension contributions this side of the tax year.

Here is the first in a two-part series of articles looking at the reasons to act now.

Recover personal allowances

Personal pension contributions can significantly reduce income tax liability. There are a number of ways in which tax relief can be received but most commonly, basic rate tax at 20% is automatically claimed from HMRC by your personal pension provider and added to your pot.

If you’re a higher or additional rate taxpayer, you can claim further tax relief from HMRC. This is usually claimed through your self-assessment tax return, although HMRC may also adjust your tax code to give you this additional relief.

The highest effective rate of tax relief available is for those with a taxable income of between £100,000 and £122,000. A personal pension contribution that reduces income to £100,000 would elicit an effective rate of tax relief at 60%. For most higher income earners, the effective rate will be somewhere between 40% and 60% – still representing a significant tax break.

Tax relief at highest rates

For the time being the rate of tax relief on pensions savings (as described above) remains relatively generous. It is unclear how long this will be the case, especially as pension savings have regularly come under the spotlight of the Budget in recent years.  In short, the higher rates attracted by personal pension contributions may not be around forever – so act now whilst you have the opportunity to maximise on these.

Avoid annual allowance tapering

If you are a higher earner (over £150,000) you may be aware that the annual amount you are able to pay into your pension tax free may now be liable to tapering. Every £2 of ‘adjusted income’ received over and above £150,000 results in a £1 reduction in your annual pension allowance, until their allowance drops to £10,000.  If you have unused pension allowances from the previous 3 years, you may be able to carry these forward to reduce or remove the impact of allowance tapering.

Last chance for £50k contribution

As mentioned above, pension rules allow you to carry forward previous years’ pension annual allowances, to a maximum of 3 years (currently back to 2013/14).  In 2013/14, the annual allowance was £50,000, £10,000 higher than the current allowance. 5 April 2017 is therefore the last opportunity you have to access this higher allowance available.

Avoid the child benefit tax charge

Child benefit, which can be worth around £1,800 per year for a family with two children, becomes taxable if one of the earners in a household receives over £50,000 in ‘taxable income’ and the benefit is cancelled out altogether over and above £60,000.  Making a personal pension contribution can reduce your ‘income’ for calculation purposes so it may be worthwhile investigating.

 

If any of the above reasons resonate with you and you would like to discuss your options further, please contact us to speak to one of our advisers.

For further reasons to contribute / make additional contributions to your pension before the end of the current tax year, look out for our next article.

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The Trouble with Tapering – Higher Earners and Annual Allowances

Tapered Pension Contributions, IFA Manchester

Since 6th April 2016, the annual allowance (AA) available for individuals to contribute to their pension pot has been subject to tapering restrictions, meaning certain ‘high earning’ individuals may only be able to contribute as little as £10,000 per annum as opposed to the standard £40,000 limit.

For the purposes of AA tapering, a ‘high earner’ is an individual with an ‘adjusted income’ of over £150,000 per annum and for every £2 of income over £150,000 the individual’s AA will be reduced by £1 to a minimum £10,000 (a £30,000 reduction).

‘Adjusted income’ is broadly the individual’s total taxable income plus the value of any pension savings for the tax year, including both personal and employer pension contributions such as those made via salary sacrifice. This means that a person cannot reduce their adjusted income by simply sacrificing salary or bonus payments in exchange for employer pension contributions.

Whilst many individuals might think they fall below this bracket, it is important to highlight that rather than gross salary income alone, the calculation for adjusted income includes earned salary, bonus, dividends, self-employed profits, benefits-in-kind, pension income and property income plus any personal and employer pension savings during that year.

There is a safety net in place to ensure that lower paid individuals are not affected by the rules in the form of an income floor, known as the threshold income. If adjusted income is more than £150,000 the Tapered Annual Allowance will only take effect if the threshold income limit of £110,000 is also breached. This test is intended to protect those with a spike in earnings and/ or pension contributions. If an individual’s net income (total taxable income less personal pension contributions) is less than the £110,000 threshold, then they will not normally be subject to the AA tapering.

The issue with the new rules is that many individuals will not know their adjusted income figure until the end of the tax year in question and consequently it will be difficult to calculate their AA until this point. Therefore, pension contributions made on a regular basis may need to be restricted to avoid inadvertently falling foul of the new AA rules.

To provide some leeway, it is possible to carry forward unused AA from the three previous tax years and add it to an individual’s AA in the current tax year. Therefore, depending on pension contributions made in the previous three years, any reduction could be offset by carrying forward unused AA.

Clearly the rules regarding annual allowances are extremely complex and can be easy to overlook, particularly if you receive an unexpected bonus or other form of taxable income within any given tax year.

If you earn over £110,000 it may be worth investigating further whether the annual allowance tapering rules affect you. If you are a high earner and have exhausted your previous three years’ AA, there are other tax efficient ways in which you can save for your future.

If you think the Tapered Annual Allowance provisions may affect you, please contact us – our financial advisers would be happy to discuss your situation and advise on the best way forward specific to your personal circumstances.

NB. Tax advice is not regulated by the Financial Conduct Authority

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Pension Freedom Data Released

Some 18 months since the introduction of ‘pension freedom’, data has been released as to how pensioners have been using their newfound options. Whilst at the time of the changes many concerns were voiced that pensioners would withdraw all their funds and go on a mad spending spree, it seems that this hasn’t been the case.

The information, released by The Association of British Insurers, reveals that a total of about £4.3 billion has been taken out of pensions in lump sums in the year April 2015 – April 2016, with the average cash payment being £14,500. £3.9 billion has been paid out via 1.03 million drawdown payments, with an average payment of £3,800.

Statistics from the latest quarter (Q1 2016) indicate that 57% of individuals withdrew money from their pension pots at a rate of 1 percent in the last quarter, which would equate to around 4 per cent a year, suggesting most pensioners are taking a sensible approach.

Despite the overall trend for sustainability, there are a small percentage of retirees that could be at risk of running their pension pots dry during retirement.  In fact 4% of pots had 10% or more withdrawn during the first year of the new rules and there are also those who took their whole pot in one go.

Although pension freedom has brought more options to retirees, with more options comes greater risk of getting it wrong, especially for the lay person.

After all, most of us spend the majority of our working lives saving towards a pension fund, so the last thing you want to do is squander even a fraction of your hard-earned funds by taking the wrong course of action. Taking professional advice has never been more important to help individuals fully understand the implications of their choices; even more so considering that annuity rates have fallen so drastically and are likely to fall further following the recent decision to cut interest rates.

So far as our advice to clients goes, it very much depends on the individual and their particular set of circumstances. For some, taking some or all of their cash free entitlement might be necessary to fund retirement or make planned expenditures.

However, this should not be the default position. Where clients have other sources of income to draw down from in retirement, this may be the preferred approach. After all, one of the other significant changes that came about as part of pension freedom was the changes to death benefits, which we discuss at length in a separate article. In short, keeping money in a pension environment may now be a much more tax efficient way for individuals to pass on wealth to their spouse or future generations.

If you are approaching age 55 and would like to discuss your options regarding your pension, please contact us.

 

Please note that Gresham Wealth Management Limited is only able to service clients with £250,000 in their pension pot as a minimum level.

 

The value of investments can fall as well as rise. You may not get back what you invest.

 

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