'Purchased Life' Annuities

EdInvestor

Milarky wrote:

. The remaining 'risk' in this approach, however, is the assumption that the 25% tax free lump sum will always be available at retirement.

And that the tax rate on the pension payable will continue to be the same as it is now for the rest of your life.

One of the risks of a pension (compared with an ISA) is that you have no knowledge or control over the way a Chancellor may decide in future to tax pensions in payment - and no way to move the money elsewhere once it's in the pension, if changes are not to your advantage.

This risk was clearly demonstrated last week when Gordon Brown performed his U-turn on allowing property as an investment in SIPP pensions.Money already in a SIPP awaiting this new opportunity cannot now be taken out.Be warned.

dunstonh

What has changed is that this exercise can't be carried out 'in a rush' since the Chancellor has said that recylcing lump sums merely to obtain the tax relief is an 'abuse' and he won't allow it as it seemed a few weeks ago that he might have.

Ive done this a number of times over the years. My understanding, although I havent read any of the specifics yet, is that its only the recycling when no income has been taken that is being prevented now. So, those commencing an annuity and taking lump sum, should be free to reinvest the tax free lump sum again.

One of the risks of a pension (compared with an ISA) is that you have no knowledge or control over the way a Chancellor may decide in future to tax pensions in payment - and no way to move the money elsewhere once it's in the pension, if changes are not to your advantage.

And how does that differ to an ISA which is also open to such changes? As is the taxation on any investment product for that matter. Historically, any changes tend not to affect existing contracts. i.e. people that took out retirement annuity contracts can still keep them without needing to move them. People who get LAPR back in 1984 can still get it today, although new contracts cannot. Pension term assurance contracts taken prior to 2001 kept their tax relief and didnt need to comply with post 2001 rules.

This risk was clearly demonstrated last week when Gordon Brown performed his U-turn on allowing property as an investment in SIPP pensions.Money already in a SIPP awaiting this new opportunity cannot now be taken out.Be warned.

Big difference here was the rules were not in yet and were always subject to change. Gordon Brown did the same with ISAs, making changes just a couple of months before they came out and after many had prepared their brochures etc.

EdInvestor

And how does that differ to an ISA which is also open to such changes?

You have already paid tax on the money in an ISA.

Historically, any changes tend not to affect existing contracts.

Yes and thus an ISA should not be affected, nor should a pension contract.

But one pays tax on a pension income at one's highest rate of income tax, regardless of what the contract says.Rates of income tax are quite separate from savings contracts and can be changed at any time for completely different reasons.

How often do we see dire predictions about Gordon missing a target and needing to put " a penny on income tax"? If he did that,all existing pensioners would have to pay more tax on their pension income, nothing to do with what type of pension contract.

This risk relating to pensions is rarely mentioned and IMHO it should be.

It's already bad enough that the tax relief up front is always mentioned prominently while the fact that the pension income is taxable - ie that the tax is just deferred on most of the fund, it's not tax free - is hidden in the small print, if it's mentioned at all.

In America they call a spade a spade: what we refer to as a personal pension they call a "tax-deferred annuity". Unsurprisingly these products are not very popular.

dunstonh

How often do we see dire predictions about Gordon missing a target and needing to put " a penny on income tax"? If he did that,all existing pensioners would have to pay more tax on their pension income, nothing to do with what type of pension contract.

Something he hasnt done since Labour got into power and unlikely to do before his shot at PM. He prefers to hit other areas.

It's already bad enough that the tax relief up front is always mentioned prominently while the fact that the pension income is taxable - ie that the tax is just deferred on most of the fund, it's not tax free - is hidden in the small print, if it's mentioned at all.

It cannot be ignored though. You have a personal allowance in retirement where you pay no tax. Your spouse/partner also has this allowance. So at age 65, a couple can earn £14,180 and pay no tax and a further £4180 at 10% tax. So, lets assume £6822 of that comes from married couples pension (we will ignore SERPS/S2P/Graduated pensions - pretend the example was self employed). That leaves £7358 which can be earned tax free. This is where the personal pension will wipe the floor with an ISA. You make sure the pensions are split between partners to utilise that allowance. You get tax relief on the contributions. You take 25% back as a tax fee lump sum and the rest provides an income with no tax deducted. Any planning which will take you above that personal allowance, could then be diverted towards an ISA.

So, in that example, there is no deferment of tax. It is not an obscure example either. There are a lot of couples out there who need to plan for their retirement. The mistake is often concentrating on one of them and not utilising the others allowances. Therefore making the retirement income all lop sided and increasing the tax burden. If the above example was done all in one name, rather than split joint, the tax deducted would be £1309 a year. Thats £109 pm. All because the direct debit for that pension went into the husbands name rather than the wifes (or vice versa).

Ruling out the tax relief on the contributions as tax deferment is just as bad as including it as a blanket benefit for everone. Just because the income is taxable, doesnt mean it will be taxed.

In America they call a spade a spade: what we refer to as a personal pension they call a "tax-deferred annuity". Unsurprisingly these products are not very popular.

American pensions do not compare with British ones. I am no expert, even close, on US financial products but I dont believe that they have a tax free lump sum, which does make their product a tax-deferred annuity. Which is why they call it that. Unlike the UK version which has alternative options on maturity, albeit limited.

EdInvestor

So at age 65, a couple can earn £14,180 and pay no tax and a further £4180 at 10% tax.

Yes, but this is not immutable, fixed for ever, is it?

I can remember when the basic tax rate was over 30%.Gordon (he who changed his mind about SIPPs) isn't going to be Chancellor by the end of the decade, much less in 30 years time when most young people claim a pension.

The fact that you don't know what rate of tax will be payable on your pension income when you retire is a risk.It may be a reasonable judgment that the Government will treat pensioners reasonably tax wise or it may not. It's certainly much more likely to be a risk worth taking for a higher rate taxpayer who can arrange to be a basic rate taxpayer when he retires.

But IMHO it's another reason why personal pensions without a company contribution and the accompanying lower charges (because there are two advantages here) are much less likely to be the right solution for the less well paid.

dunstonh

Yes, but this is not immutable, fixed for ever, is it?

No, its increased annually in the budget.

I can remember when the basic tax rate was over 30%.Gordon (he who changed his mind about SIPPs) isn't going to be Chancellor by the end of the decade, much less in 30 years time when most young people claim a pension.

I can remember when it was a little more than that. So, all those people got 30% tax relief on their contributions now only face 22% if the income becomes taxable. They also got 30% relief on all their contribution but only fax tax on 75% of it at the other end.

The fact that you don't know what rate of tax will be payable on your pension income when you retire is a risk.It may be a reasonable judgment that the Government will treat pensioners reasonably tax wise or it may not. It's certainly much more likely to be a risk worth taking for a higher rate taxpayer who can arrange to be a basic rate taxpayer when he retires.

We dont know about returns, Government options/taxes, products that may appear in the future, whether we will live to retirement, become long term sick or whole bunch of other things. With all those things, you have to look at what is right now and the forseeable future. Otherwise you would never do anything.

But IMHO it's another reason why personal pensions without a company contribution and the accompanying lower charges (because there are two advantages here) are much less likely to be the right solution for the less well paid.

You obviously failed to read my example which showed that personal pensions are very advantageous over an ISA.