New Pension Rules – Timing is key

Hailed as “the most radical changes to pensions in almost a century”, it is reasonable to expect such changes – initially proposed by the Chancellor in his March budget and now confirmed to take effect from April 2015 – to have a profound effect on those in possession of a pension.  Having explored “How to turn your pension fund into cash for your business” in previous commentary (bit.ly/1oMg7LU), we turn our attention to how this can help individuals in terms of wealth management.

Put simply, the new rules mean that those over the age of 55 (age 57 as of 2028) can, essentially, ‘do what they like’ with their (defined contribution) pension income.  This not only relates to how and when they take it but also what they do with the funds – whether this be spend, invest or save.  While this, in itself, certainly sounds a positive move, it is perhaps useful to explore to what extent they can benefit from this newfound “principle of freedom” – cited by George Osborne as the rationale behind the changes.

The ability to take your entire pension fund as a lump sum is realised by these new rules.  Whilst the first 25% of this would be tax free, those in receipt of other income – the most obvious example being salary – should err on the side of caution as the remainder would be subject to income tax at the individuals highest marginal rate.  This could, of course, have the undesirable effect of accelerating a basic rate (20%) taxpayer into the higher (40%), or even additional (45%), income tax band, as these funds will be added to any other income received.

However, all is not lost, as logical analysis of individual circumstances combined with optimal timing can have a desirable effect in terms of tax planning and, fortunately, these new rules seem to facilitate this.  As the option is there to take your pension out in stages, rather than all at once, individuals are at liberty to take the tax free cash initially and the taxable income at a later date of their choice, thus realising an effective tax management tool.

At this point, readers may be forgiven for questioning ‘what is the downside?’  The downside could well be that for those who make such withdrawals in addition to any tax free cash, contributions could be restricted to £10,000 per annum (subject to certain exceptions such as those pensions worth less than £10,000) – certainly something to bear in mind.

One final note to consider; in order to benefit from the above, those with a defined benefit (eg final salary) pension will need to transfer to a defined contribution pension (eg a SIPP).  However, in so doing, valuable benefits associated with their former scheme could be lost.  The advice of an Independent Financial Advisor should therefore be sought in such circumstances.

As mentioned above, applying individual circumstances to the rules is fundamental in achieving an effective outcome in terms of tax, and ultimately wealth, management.  We would be delighted to assist in this way.  Please do not hesitate to contact Andrew Rand on 01223 461044 or email andrew.rand@stanesrand.co.uk.

As published in Cambridge News, Wealth Management Supplement, 18 November 2014.