Good advice or not?

missile

Friends of ours recently sold one of their properties and were advised to purchase a private pension with the £120,000 profit. Both are retired, he is 66 and has an idex linked public service pension and she is 62 with a private pension. Both are basic rate tax payers.

They were advised by their friend who is an accountant and financial adviser to buy a pension because of the tax advantages. Although he rebated half of his commission for their benefit, I don't feel this was good advice?

dunstonh

I don't feel this was good advice?

Why?

You wouldnt invest in a pension because of tax advantages. That would be silly. However, if you wanted to boost your income in retirement then the pension is the best option.

Plus, they couldnt have been basic rate taxpayers and pay £120,000 into a pension. They must have been higher rate taxpayers. You only get tax relief up to the level of your income.

So, if they got 40% tax relief and then take 25% back as tax free cash, then they have lost 35% of their capital to provide an income for life.

So, if you assume a 6% annuity rate and higher rate relief on the whole contribution these would be the income figures:

£120k minus 40% tax relief = £72,000. Minus 25% TFC of £30,000 means the net cost to them is £30,000.

Ignoring growth 6% on £90,000 = £5400 income a year. That £5400 as a percentage of their net cost is 18%.

So, the transaction means they only need just over 5 years to get their money back and 18% a year income cannot be achieved on any guaranteed savings or investment product.

Obviously, I have had to make a few assumptions in there as we dont know their circumstances but it seems like perfectly good advice if they were looking for an income.

missile

They are not higher rate tax payers. I understand one can consider previous years income when making pension payments?

They felt they already had adequate pension provision and said they were advised to invest in pension because of tax advantage.

dunstonh

They are not higher rate tax payers. I understand one can consider previous years income when making pension payments?

Can you clarify how they managed to pay in more than they earned into a pension and get tax relief?

Tax relief is only paid up to your earned income. Anything above doesnt get tax relief. Is their property portfolio run as a business and the contributions made from that?

They felt they already had adequate pension provision and said they were advised to invest in pension because of tax advantage.

If they felt they had adequate pension provision, why did they do it? Although it doesnt really matter whether they have adequate pension provision or not. The thing that matters is their income requirement. It doesnt matter if that comes from any tax wrapper or property or whatever.

The transaction makes total sense if they are higher rate taxpayers but there are flaws in the recommendation and/or your information if they are not. Pershaps they are only basic rate taxpayers because of the pension contribution. Maybe the contribution reduced their income enough to avoid capital gains tax on the property being disposed.

missile

Thanks for your response. It made no sense to me. When I asked, they said it was based purely on tax advantage and it seemed like one size fits all advice.

I really do not have the info required to answer your questions and I don't feel it appropriate to enquire further. I accept that their financial adviser would have a fuller understanding of their finances and perhaps it was good advice after all.

EdInvestor

I wonder if it was perhaps a purchase life annuity rather than a "private pension"?

These annuities have better tax treatment than annuities bought with money in pension funds, because the part of the income which represents a return of the investor' capital is not taxed.

missile

You could be right, but whatever it is they seem happy, so I recon I best keep my nose out.