Personal Pensions

Important changes have been made to how pension benefits are paid on retirement. The benefits payable under the NHSPS are largely unaffected by the new rules. However, other pension arrangements may be able to benefit from the increased accessibility and flexibility afforded by the new rules.

As well as the introduction of Flexible Drawdown, the Government has simplified some of the rules governing the treatment of benefits pre and post age 75. These largely affect drawdown contracts, sometimes referred to as ‘unsecured pensions’. Drawdown relates to the ability to take pension income directly from a money purchase pension fund as opposed to through the purchase of an annuity. However, to ensure that the capital within a pension fund is not significantly eroded by income payments, the Government Actuary’s Department (GAD) lays down the maximum permitted annual income. The main changes are as follows:-

  • New GAD rates (used to restrict the level of annual income that can be taken from a drawdown contract) have been used from April 2011. These have been updated to reflect current morality experience.
  • The maximum income allowed under standard drawdown rules reduced from 120% to 100% of the new GAD limits.
  • The maximum income allowed most be reviewed at least triennially before age 75 and then annually from age 75 onwards.
  • In the event of death in drawdown the residual fund can be used to provide lump sum death benefits. These will be subject to a special tax deduction of 55% (up from the previous 35% tax rate). There is no longer a distinction between death before or after age 75.

With Flexible Drawdown the fundamental feature is that the maximum permitted pension is unrestricted. There is no GAD maximum income level. It will be possible to take as much income as is required from one year to the next. Indeed, it will be possible to take the whole of the pension fund as a single pension payment. Any pension payment will be subject to income tax in the normal manner. It is still possible to take no income, should circumstances dictate.

To qualify for flexible drawdown, it will be necessary to declare the existence of secure pension income of at least £20,000 per annum. The £20,000 level is expected to increase over time. This is referred to as the Minimum Income Requirement (MIR). This secure pension income can be paid up of State Pensions, secure income from an Occupation Pension Scheme and income provided through existing annuity contracts. Existing drawdown income or unsecured pensions are not deemed to represent secure pension income. The NHSPS annual pension will qualify as secure income for the purposes of flexible drawdown.

Once flexible drawdown is selected it will not be possible to make further pension savings without incurring a tax charge. This is because the Annual Allowance for anyone taking flexible drawdown income will be ‘nil’. As such, all pension savings will be subject to a tax charge at an individual’s highest marginal rate.

Flexible drawdown allows flexibility and access. If an individual meets the £20,000 MIR and has made the decision not to make any further pension savings then it would be prudent to have flexible drawdown as a possible option. This would require individuals to make a declaration to the Scheme Administrator(s) of their existing money purchase pension plans. Once the declaration has been made, flexible drawdown becomes an option for later use (if appropriate). This also then guards against an increase in the £20,000 MIR level, as you only need to satisfy the conditions for flexible drawdown at the time of making the declaration.

The main advantage of flexible drawdown is the lack of a maximum GAD restriction on the level of annual pension that can be taken. This provides much greater access to pension funds and a higher degree of flexibility in choosing the annual pension entitlement.

In contrast the main disadvantage of flexible retirement relates to the tax treatment of taking pension income. Any payments would be subject to income tax deductions in the year of payment and so, large payments are likely to incur the highest rate of tax. Pension funds also have tax advantages in that they are largely free of investment and capital gains tax and also, enjoy favourable inheritance tax treatment. Removing funds from a registered pension scheme can therefore result in higher rates of income, capital gains and inheritance tax. This should be carefully considered before taking advantage of flexible drawdown.

There are risks associated with flexible drawdown and so, this option is unlikely to be a suitable option for all individuals. Whilst flexible drawdown does allow access to pension funds, this does have a potential detrimental affect on future income.

Would you like us review your existing personal pension plans to see whether they are performing in line with your attitude to risk? We will also check to ensure you are not paying excessive charges.