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UK Government Forced to Look Again at Pension Annuities

Alison Steed, 20 September 2006

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The UK government is considering scrapping new rules that prevent pensioners being forced to buy an annuity when they reach 75. Prior to Apr...

The UK government is considering scrapping new rules that prevent pensioners being forced to buy an annuity when they reach 75. Prior to April 6 2006, pensioners were forced to buy an annuity at age 75 with at least three quarters of their pension fund, if they had not bought one before. But groups, such as the Plymouth Brethren, objected to this as they have a religious opposition to pooling risk. As a result, under sweeping changes to pension legislation last April, the UK government introduced a way of avoiding annuity purchase with the alternatively secured pension. This legislation was intended to help the Plymouth Brethren avoid having to buy an annuity, and compromising their beliefs. However, because of the way the legislation has been written, there is nothing in the current Finance Bill which states your client has to have a religious objection to annuities to use an Asp. It is questionable whether such a stipulation would stand up to legal scrutiny, and plenty of people will find it an appealing option as annuity rates have fallen dramatically in the last 10 years, and it is not possible to pass on your client’s pension fund to his or her dependents. Despite this, in July this year, the UK’s economic secretary to the Treasury Ed Balls insisted that these rules had always been intended to just help the Plymouth Brethren and “would apply in the specific and narrow case of individuals with such principled religious objections”. He told the UK Parliament: “It has always been our intention to replicate the lifelong income obtainable from an annuity through those measures, but not to allow that to become a way in which a small and wealthy minority could benefit from tax advantages to taxpayers overall. We have always made it clear that we shall not allow those concessions to be taken up more broadly to get round the annuity rules. This is not a mainstream product, and it must not become a tax avoidance measure. We shall not be going down that road.” Without a shred of irony, Mr Balls delivered this speech to Parliament, outlining how the government was planning to prevent people doing what they want with their retirement fund, on July 4 – US Independence Day. Annuity rates have more than halved in the last 10 years, and pension funds themselves have performed badly in some cases. For example, research from statisticians Moneyfacts released this week shows that in July 1996, a man retiring aged 65 having contributed a £500 a year gross into his with profits pension fund for 20 years would have received £61,592. In July this year, he would have received nearly 60 per cent less, at £26,168. For 25 years of saving, the figure in July 1996 would have been £120,239, falling to £55,992 in July this year. Richard Eagling, editor of Investment, Life & Pensions Moneyfacts said: “Many pension savers may have enjoyed better returns over the last three years but it is vital that they do not become complacent. The fact remains that today’s pensioners are facing a longer retirement with pension pots half the size of those fortunate enough to have retired a decade ago. These latest figures should serve as a powerful reminder that securing a comfortable retirement will only be possible for those individuals who actively monitor and manage their own pension provision.” The double whammy, of course, is that over the last 10 years annuity rates have halved, so not only have your clients seen their pension fund values fall, they are also less able to generate a decent income from them. This, in itself, would be a good reason for them to consider holding off buying an annuity if possible in the hope that rates might rise. Plenty of high net worth individuals use income drawdown to generate pension income before age 75, but using an Asp would allow them to continue the same method of producing income, even though you can take less income as a maximum. Under income drawdown rules, pensioners can take 120 per cent of the Government Actuary’s Department limits from their fund annually. This falls to 70 per cent under Asps. The Treasury has been candid about its inability to prevent anyone else from using this legislation to their advantage, but it is adamant that it will look at ways of limiting the use of Asps to the Plymouth Brethren. A Treasury source said: “ We introduced this special concession for a very small group of people for a specific set of religious reasons, and it is unfortunate that a group of tax avoidance advisors are wilfully seeking to abuse it in this way. We will take all action necessary to clamp down on this abuse, but if it persists, we will unfortunately have to remove the concession entirely." The Treasury claims it will lose tax on pensions if large numbers of people insist on using Asps. But Tom McPhail of independent financial advisor Hargreaves Lansdown, has calculated that the tax revenue to the Treasury would be more likely to increase than decrease if the Asp was taken up on a wider scale. For example, consider a man buying a compulsory purchase annuity at age 75, with the income ceasing on his death after 10 years. Mr McPhail added: “For a £100,000 fund this produces a tax take of £30,695. The majority of CPAs are set up as single life, but for a joint life annuity with a two thirds widow’s pension payable for a further 10 years, the tax take rises to £35,693. “By comparison, an Asp has the maximum income paid for 10 years, and after the male death for a further 10 years for the widow’s pension. After that, the remaining fund is passed to family members’ pensions, less inheritance tax at 40per cent. “It suffers a total tax of £42,250. If no dependent’s income is paid, but the Taxable Lump Sum Death Benefit is still subject to tax on the second death, then the tax take is £42,487. The difference between £30,695 and £42,250 is an increase in tax revenue of over a third. “ The ASP farce drags on, with the Treasury continuing to argue that its religious discrimination is justified because ‘we planned it like this from the beginning’. Meanwhile it seems that many advisors are recommending Asps to their clients, albeit with suitable caveats about possible future changes to the rules.” However, it could be that the Treasury’s concerns are largely unfounded. For example, Norwich Union has been selling Asps as part of its pension package since the legislation changed on April 6, and so far “less than 10” people have signed up for the product, said Iain Oliver, head of pensions at NU. It is still early days, and the amount of uncertainty about the future of the product is undoubtedly going to make pensioners think twice before they sign up for the product. Mr Oliver added: “Most people are not going into Asps to draw an income, they are trying not to draw an income at all. These are individuals with a lot of wealth who don’t need to draw an income, or people who don’t want to buy an annuity because they don’t feel it offers them good value.” Whether the Treasury carries out the threat to remove Asps remains to be seen, and it is doing its own research into the issue at present, and it is likely we will get an update in the Chancellor’s pre-budget statement later in the year. An industry source who did not want to be named, said: “There is a bizarre paranoia among Treasury officials about how the tax systems work. They are concerned they are losing a lot of money in tax relief and they are trying to close loopholes that are not there. You talk to them and they are in a world with the fairies. They see abuses in every corner, and they are just not there. The Government gets its money.”

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