We are at the end of another year already. Shocking I know. This year seems to have passed through almost as quickly as the national debt has risen. It has been a year of political limbo, with so many decisions being made in view of next year’s election.
Will the election be March to save going through another nonsense budget, or will the idea of door knocking in the dark and snow ensure a May election. Either way, the Pre Budget Report certainly was done with this in mind. A banker’s bonus tax put in to drum up more votes than tax, and both stealth and blatant increases on anyone earning more than £150,000. As for the bonus tax, it probably won’t generate enough to offset the cost of the department created to implement it, as it will be the easiest tax planning the banks have done in ages.
Anyone earning over £180,000 will not only be hit with 50% tax, but 30% benefit in kind taxation on the employers pension contributions (they managed to keep that quiet for a few days), only 20% tax relief on the employees contributions (so pension contributions taxed at 30%), plus have taxation of 40 or 50% when you come to take the money out. And of course taxing someone’s income twice is never enough, so Inheritance Tax thresholds will also be frozen to really annoy the Tories.
We are in recession with a massive public debt though, so you might argue it makes sense to tax the higher earners so that increasing employment and company growth can be the top priority. An increase of 1% in National Insurance (tax on employing people) doesn’t therefore seem like joined up thinking, but when has that been necessary in politics? And what did we find out about how we half the national debt as promised? Well nothing really. That would involve a politician planning for the country’s future, something that is of little interest when the next 6 months is all that matters!
What is the moral of this story? I suppose financial planning becomes even more vital. Where in the past pensions were usually the main port of call, other options start to become much more attractive. Ensuring that trusts are used to protect your wealth being taxed time and time again is vital. Making sure you use the few tax breaks the government gives you (e.g. ISAs, Venture Capital Trusts, Capital Gains Tax allowance & Annual Inheritance Tax Gift Allowance) is key, as they are “use them or lose them” allowances. And once you are at retirement age, drawing money out of pensions in the correct manner to allow you to manage your taxation has never been so important. With the regularity of tax and pension changes at the moment, flexibility is key, and utilising different strategies essential.
Let’s hope that the new year brings lots of prosperity, a little more continuity and some simplification through red tape removal, although I am not sure the Tories are really geared up for the changes that are needed. They definitely need to have a bold 18 months if they get in; it is time for change! The pension area, for example is a complete mess. If the old age pension was put back to say age 70, possibly even later, a decent meaningful level of income could be provided. People could save for a set period of time if they wanted to retire earlier, and layers of complexity removed. With an increased basic pension, earnings related pensions could be scrapped, which would solve the deterrent of saving for lower earners, and remove around 48,000 pages of legislation, not to mention those employed to administer it. This is the perfect example of layer upon layer of bad legislation, rather than fixing the problem properly.
That’s it, the rant is over! Planning is the key, and if you would like us to help you build that plan, we’d be delighted. Remember; 'we don’t plan to fail, we fail to plan!’ Make sure you don’t.
From all of us at Efficient Portfolio, we would like to wish you a very happy Christmas, and a prosperous new year.
Merry Christmas.
Written by,
Charlie Reading Dip PFS
http://www.e-fficientportfolio.co.uk/
Tel; 01536 772077
Disclaimer
This document is intended for informational purposes only and no action should be taken or refrained from being taken as a consequence of it without consulting a suitably qualified and regulated person. It does not constitute financial advice under the terms of the Financial Services and Markets Act 2000. It is not an offer to sell, or a solicitation of an offer to buy, the instruments described in this document. Past performance is not an indication of future performance. Interested parties are advised to contact the entity with which they deal, or the entity that provided this document to them, if they desire further information. The information in this document has been obtained or derived from sources believed by E-fficient Portfolio Ltd to be reliable, but it does not represent that this information is accurate or complete. Any opinions or estimates contained in this document represent the judgement of E-fficient Portfolio Ltd at this time, and are subject to change without notice. © 2009 E-fficient Portfolio Ltd (which is not regulated or authorised by the Financial Services Authority).
Monday 21 December 2009
Thursday 10 December 2009
How to profit from this week’s Pre Budget Report
There have been a number of proposals made by Alistair Darling this week, and most lead to paying more tax one way or another. So what can the different groups of people that are all affected in different ways, do to minimise these effects, and even profit long term.
Partnerships and Sole Traders
The increase in National Insurance is likely to mean that more people will benefit from having a Limited Company rather than trading as self employed, so speak to your accountant about this. This will also allow you to share your income through dividends with a spouse, if appropriate, to provide greater tax savings.
Limited Company Owners
Business owners will be hit with a further 1% Employers National Insurance in the PBR’s proposals. Hardly much of an incentive for employing more people, but let’s leave the political rant for another day. One way of minimising the effect of this is to restructure the company pension to accommodate salary sacrifice. Rather than making an employer contribution and an employee contribution to the pension scheme, the whole amount can be made an as employer contribution, and the employee’s salary reduced to accommodate this increase. You will save Employer National Insurance on the amount the employees are contributing, which may have the effect of saving the company tax, even though rates have gone up. Finally, for companies looking to extract profits, Employee Benefit Trusts were expected to be attacked yesterday, but seem to have been left untouched. If you want to take more than £100,000 out of the business, this certainly needs to be considered.
Employees earning under £130,000
For the business owners I have just described how restructuring the pension scheme to accommodate salary sacrifice can save the company tax. This also has the effect of saving the Employee National Insurance as well. This is a relatively easy thing for an employee to ask their company to do, and as it saves the company money, either the company will be keen to comply to get the saving, or a very generous employer may even pass on this saving to you. This will enhance your pension fund even further, whilst also reducing the tax you pay.
Employees earning more than £130,000
The increase in higher rate tax to 50% for people earning over £150,000 from April 2011 initially looked like it would lead to a flood of money heading into pensions to reduce the liability. Obviously the idea of people saving for their retirement is seen as such a bad thing by the government, that they felt it necessary to create some anti-forestalling rules, making it more difficult for these people to get full tax relief on their contributions. The government amended those again yesterday to stop people making large contributions from their company, and to include those that earn over £130,000. As such, pension contributions will effectively be capped to a total contribution of £20,000 per annum, otherwise you’ll start to only get 20% tax relief, rather than the 40% (or 50%) you have paid. This is something to generally avoid, as you obviously run the risk of paying 40% tax when you come to take the funds out of the pension. After £20,000 has been funded, you should start to consider using Venture Capital Trusts which give 30% income tax relief, and the ability to reinvest after 5 years for more relief.
Anyone earning between £100,000 and £112,000
Anyone earning between these figures is going to be paying a marginal rate of 60% tax from April. That is because for each £2 they earn over £100,000, they will lose £1 of the personal allowance, adding an extra 20% taxation to the 40% they are already paying. As this group fall into the category of earning under £130,000, extra pension contributions will therefore see a theoretical tax saving of 60%, so make sure you use it.
Go Green
There are a number of proposals, if you want to spend a little to save over future years. A Boiler Scrappage Scheme providing a £400 incentive to households to replace ‘old boilers’ (no, not the wife) will be introduced, plus extra incentives to install solar panels and wind turbines. Finally, electric cars are to be exempted from company car tax for five years, with a 100% first year capital allowance for electric vans.
Benefit allowances
Benefit allowances like Child Benefit Allowance, and Disability Allowances will be increased this year, but provision has already been put in place for a ‘real’ reduction in these later next year. Anyone would think there was an election looming!
The conclusion
Although there seem to be a few areas where the Chancellor has gone for it, it actually turned out to be a Pre Budget Report of little note. Increasing the complexity of pensions with the 6 monthly tinkering has become the norm, although it still amazes me that they are so keen to stop people saving for their retirement. One suspects that the worst is yet to come, however one also suspects that it’s Alistair Darling’s last PBR anyway.
Written by,
Charlie Reading Dip PFS
http://www.e-fficientportfolio.co.uk/
Tel; 01536 772077
Disclaimer
This document is intended for informational purposes only and no action should be taken or refrained from being taken as a consequence of it without consulting a suitably qualified and regulated person. It does not constitute financial advice under the terms of the Financial Services and Markets Act 2000. It is not an offer to sell, or a solicitation of an offer to buy, the instruments described in this document. Past performance is not an indication of future performance. Interested parties are advised to contact the entity with which they deal, or the entity that provided this document to them, if they desire further information. The information in this document has been obtained or derived from sources believed by E-fficient Portfolio Ltd to be reliable, but it does not represent that this information is accurate or complete. Any opinions or estimates contained in this document represent the judgement of E-fficient Portfolio Ltd at this time, and are subject to change without notice. © 2009 E-fficient Portfolio Ltd (which is not regulated or authorised by the Financial Services Authority).
Partnerships and Sole Traders
The increase in National Insurance is likely to mean that more people will benefit from having a Limited Company rather than trading as self employed, so speak to your accountant about this. This will also allow you to share your income through dividends with a spouse, if appropriate, to provide greater tax savings.
Limited Company Owners
Business owners will be hit with a further 1% Employers National Insurance in the PBR’s proposals. Hardly much of an incentive for employing more people, but let’s leave the political rant for another day. One way of minimising the effect of this is to restructure the company pension to accommodate salary sacrifice. Rather than making an employer contribution and an employee contribution to the pension scheme, the whole amount can be made an as employer contribution, and the employee’s salary reduced to accommodate this increase. You will save Employer National Insurance on the amount the employees are contributing, which may have the effect of saving the company tax, even though rates have gone up. Finally, for companies looking to extract profits, Employee Benefit Trusts were expected to be attacked yesterday, but seem to have been left untouched. If you want to take more than £100,000 out of the business, this certainly needs to be considered.
Employees earning under £130,000
For the business owners I have just described how restructuring the pension scheme to accommodate salary sacrifice can save the company tax. This also has the effect of saving the Employee National Insurance as well. This is a relatively easy thing for an employee to ask their company to do, and as it saves the company money, either the company will be keen to comply to get the saving, or a very generous employer may even pass on this saving to you. This will enhance your pension fund even further, whilst also reducing the tax you pay.
Employees earning more than £130,000
The increase in higher rate tax to 50% for people earning over £150,000 from April 2011 initially looked like it would lead to a flood of money heading into pensions to reduce the liability. Obviously the idea of people saving for their retirement is seen as such a bad thing by the government, that they felt it necessary to create some anti-forestalling rules, making it more difficult for these people to get full tax relief on their contributions. The government amended those again yesterday to stop people making large contributions from their company, and to include those that earn over £130,000. As such, pension contributions will effectively be capped to a total contribution of £20,000 per annum, otherwise you’ll start to only get 20% tax relief, rather than the 40% (or 50%) you have paid. This is something to generally avoid, as you obviously run the risk of paying 40% tax when you come to take the funds out of the pension. After £20,000 has been funded, you should start to consider using Venture Capital Trusts which give 30% income tax relief, and the ability to reinvest after 5 years for more relief.
Anyone earning between £100,000 and £112,000
Anyone earning between these figures is going to be paying a marginal rate of 60% tax from April. That is because for each £2 they earn over £100,000, they will lose £1 of the personal allowance, adding an extra 20% taxation to the 40% they are already paying. As this group fall into the category of earning under £130,000, extra pension contributions will therefore see a theoretical tax saving of 60%, so make sure you use it.
Go Green
There are a number of proposals, if you want to spend a little to save over future years. A Boiler Scrappage Scheme providing a £400 incentive to households to replace ‘old boilers’ (no, not the wife) will be introduced, plus extra incentives to install solar panels and wind turbines. Finally, electric cars are to be exempted from company car tax for five years, with a 100% first year capital allowance for electric vans.
Benefit allowances
Benefit allowances like Child Benefit Allowance, and Disability Allowances will be increased this year, but provision has already been put in place for a ‘real’ reduction in these later next year. Anyone would think there was an election looming!
The conclusion
Although there seem to be a few areas where the Chancellor has gone for it, it actually turned out to be a Pre Budget Report of little note. Increasing the complexity of pensions with the 6 monthly tinkering has become the norm, although it still amazes me that they are so keen to stop people saving for their retirement. One suspects that the worst is yet to come, however one also suspects that it’s Alistair Darling’s last PBR anyway.
Written by,
Charlie Reading Dip PFS
http://www.e-fficientportfolio.co.uk/
Tel; 01536 772077
Disclaimer
This document is intended for informational purposes only and no action should be taken or refrained from being taken as a consequence of it without consulting a suitably qualified and regulated person. It does not constitute financial advice under the terms of the Financial Services and Markets Act 2000. It is not an offer to sell, or a solicitation of an offer to buy, the instruments described in this document. Past performance is not an indication of future performance. Interested parties are advised to contact the entity with which they deal, or the entity that provided this document to them, if they desire further information. The information in this document has been obtained or derived from sources believed by E-fficient Portfolio Ltd to be reliable, but it does not represent that this information is accurate or complete. Any opinions or estimates contained in this document represent the judgement of E-fficient Portfolio Ltd at this time, and are subject to change without notice. © 2009 E-fficient Portfolio Ltd (which is not regulated or authorised by the Financial Services Authority).
Thursday 19 November 2009
Venture Capital Trusts better than a pension for high earners?
Changes to the taxation of higher earners in the UK in April will mean that from April 2010, someone earning over £180,000 will potentially be paying 50% tax on the top end of their earnings, whilst only getting 20% tax relief on their pension contributions. This is quite clearly a big step up from paying 40% tax and offsetting this by 40% tax relief on pension contributions. Those earning in excess of £100,000 will also be caught in a slightly different way, as they will lose their annual allowance past this point. This is combined with the worry that they then may pay 40% tax on the income from the pension in the future if they are higher rate tax payers in retirement.
A small proportion of the country is at risk of exceeding the personal lifetime allowance (£1.8m for the foreseeable future), and they will be hit with an additional tax charge of 25% if they do, and then if this wasn’t bad enough, if they have funds in their pension when they die post 75, as they have been drawing the money out in the most flexible and tax efficient manner (Alternatively Secured Income) their children could face a tax bill of between 80-85% of the fund. That level of taxation would make even Dick Turpin blush! So for a select proportion of the country’s wealthier, pensions are becoming less and less appealing.
Could Venture Capital Trusts (VCTs) be the solution?
Venture Capital Trusts are collective investments (similar to a unit trust) that invest in a number unquoted companies (although they can be listed on AIM). As a result of this, the government gives certain tax breaks to investors as they are helping smaller companies grow (who in turn will pay more tax). They are high risk investments, which have put many people off in the past, however the risk attached to each varies widely depending on the areas they invest in. This means they are starting to attract more interest as a pension alternative, and efforts by some companies are being made to reduce the risk of these assets as much as they are allowed.
So what are the tax breaks?
If you were to invest £100,000 into a VCT, once this was entered onto your tax return and submitted, you would receive £30,000 tax back. This 30% relief means you are actually getting growth of around 43% instantly. The investment needs to be held for 5 years to maintain this tax relief, but then this is a much shorter period than you’d need to hold a pension. Unlike a pension, once you have held it for 5 years, you can have 100% of the fund back, tax free. This would in effect mean that you could reinvest the funds into another VCT or a pension, and get the tax relief all over again, but more about that in a minute. The dividends received from the VCT are virtually tax free (as with an ISA), and the growth of the fund free from Capital Gains Tax.
Why are they high risk?
Three of the biggest criticisms of VCTs in the past have been
a) Their exposure to small high risk companies; and those that have provided good returns have been more than offset by those that haven’t.
b) That they needed to be held for long timeframes to see any real growth.
c) Selling the VCT before the before the manager is ready to wind it up has led to poor values, as there is still very little secondary market for VCT shares.
And why are today’s any better?
VCTs have performed reasonably well where they have been held until wind up (typically 10 years), and some VCTs available today now aim to address these issues. This has been done in the following ways;
a) Certain VCTs hold only asset backed investments; e.g. a stately home that is a wedding specialist and hotel. If the business fails, the value of the stately home remains, and the VCT manager will have a charge over that asset to minimise losses.
b) Some VCTs are being set up with specific timescales for exit; typically 5-6 years, as this is when they realise investors will want to get out, and potentially reinvest for more tax relief.
c) Offering sensible buyback facilities so that you are guaranteed to have a secondary buyer.
d) A VCT has up to 3 years to get 80% of the funds into qualifying investments, so some are using discretionary managers or hedge funds to manage the money in the lead up to this; thus providing good returns from day one.
Pension changes in the future?
There are more significant changes to the pension and retirement market scheduled for 2012. If we get a different government next year, as looks likely, there is a lot of talk that these changes will be overhauled, and the pension and retirement market will again be altered dramatically. Whether these materialise or not, a VCT is a great way of benefiting from tax relief now, whilst leaving your options open in the future.
What next?
The minimum investments are typically only around the £5,000 mark, so these are not reserved only for the high earners. If you would like to look more seriously at a VCT investment, speak to a suitably qualified adviser who can talk you through the pros and cons.
Written by, Charlie Reading Dip PFS
http://www.e-fficientportfolio.co.uk/
Tel; 01536 772077
A small proportion of the country is at risk of exceeding the personal lifetime allowance (£1.8m for the foreseeable future), and they will be hit with an additional tax charge of 25% if they do, and then if this wasn’t bad enough, if they have funds in their pension when they die post 75, as they have been drawing the money out in the most flexible and tax efficient manner (Alternatively Secured Income) their children could face a tax bill of between 80-85% of the fund. That level of taxation would make even Dick Turpin blush! So for a select proportion of the country’s wealthier, pensions are becoming less and less appealing.
Could Venture Capital Trusts (VCTs) be the solution?
Venture Capital Trusts are collective investments (similar to a unit trust) that invest in a number unquoted companies (although they can be listed on AIM). As a result of this, the government gives certain tax breaks to investors as they are helping smaller companies grow (who in turn will pay more tax). They are high risk investments, which have put many people off in the past, however the risk attached to each varies widely depending on the areas they invest in. This means they are starting to attract more interest as a pension alternative, and efforts by some companies are being made to reduce the risk of these assets as much as they are allowed.
So what are the tax breaks?
If you were to invest £100,000 into a VCT, once this was entered onto your tax return and submitted, you would receive £30,000 tax back. This 30% relief means you are actually getting growth of around 43% instantly. The investment needs to be held for 5 years to maintain this tax relief, but then this is a much shorter period than you’d need to hold a pension. Unlike a pension, once you have held it for 5 years, you can have 100% of the fund back, tax free. This would in effect mean that you could reinvest the funds into another VCT or a pension, and get the tax relief all over again, but more about that in a minute. The dividends received from the VCT are virtually tax free (as with an ISA), and the growth of the fund free from Capital Gains Tax.
Why are they high risk?
Three of the biggest criticisms of VCTs in the past have been
a) Their exposure to small high risk companies; and those that have provided good returns have been more than offset by those that haven’t.
b) That they needed to be held for long timeframes to see any real growth.
c) Selling the VCT before the before the manager is ready to wind it up has led to poor values, as there is still very little secondary market for VCT shares.
And why are today’s any better?
VCTs have performed reasonably well where they have been held until wind up (typically 10 years), and some VCTs available today now aim to address these issues. This has been done in the following ways;
a) Certain VCTs hold only asset backed investments; e.g. a stately home that is a wedding specialist and hotel. If the business fails, the value of the stately home remains, and the VCT manager will have a charge over that asset to minimise losses.
b) Some VCTs are being set up with specific timescales for exit; typically 5-6 years, as this is when they realise investors will want to get out, and potentially reinvest for more tax relief.
c) Offering sensible buyback facilities so that you are guaranteed to have a secondary buyer.
d) A VCT has up to 3 years to get 80% of the funds into qualifying investments, so some are using discretionary managers or hedge funds to manage the money in the lead up to this; thus providing good returns from day one.
Pension changes in the future?
There are more significant changes to the pension and retirement market scheduled for 2012. If we get a different government next year, as looks likely, there is a lot of talk that these changes will be overhauled, and the pension and retirement market will again be altered dramatically. Whether these materialise or not, a VCT is a great way of benefiting from tax relief now, whilst leaving your options open in the future.
What next?
The minimum investments are typically only around the £5,000 mark, so these are not reserved only for the high earners. If you would like to look more seriously at a VCT investment, speak to a suitably qualified adviser who can talk you through the pros and cons.
Written by, Charlie Reading Dip PFS
http://www.e-fficientportfolio.co.uk/
Tel; 01536 772077
Friday 13 November 2009
Why put a pension in a trust, when it already is?
Pensions are typically held under a master trust with the life company. So why would you want to use your own trust for the death benefits of a pension as well?
In most circumstances, on the death of someone before retirement, the death benefits (usually 100% of the fund) would be left to the deceased's spouse. There is no Inhertiance Tax (IHT) to pay on this whether they are married or not, as pre retirement, pension death benefits are free of IHT. It is however from here on that the problems can start to arrise.
Lets use an example of Posh and Becks being married, and Becks sadly passing away. Firstly, if Posh were to remarry to say Juan, and then get divorced, Becks' pension pot is increasing the amount lost through a divorce settlement to Juan . Even worse, if Posh were to remarry, then die, Juan could recieve the full amount of Becks' pension pot. This means Juan could leave this money to his children, and Brooklyn et al recieve none of it.
Finally, when Posh sadly passes away, Becks' pension will be included in Posh's estate, and therefore will now be taxed through IHT at 40%, so Brooklyn et al will only recieve 60% of it.
Had Becks left the death benefits of his pension to a trust, Posh could have still used the proceeds, but as an interest free loan from the trust. This provides protection against divorce and IHT, whilst also ensuring that Brooklyn et al definately recieve what Becks' would have no doubt wanted them to.
Given that a pension fund is often the second largest asset somebody owns, after their house, it is vital to ensure that this passes through the generations in the manner, and with the tax efficiency that you would want. The life company's master trust cannot allow you do any of this planning, so you need to create a trust to shelter the benefits of the pension for your next generation.
In most circumstances, on the death of someone before retirement, the death benefits (usually 100% of the fund) would be left to the deceased's spouse. There is no Inhertiance Tax (IHT) to pay on this whether they are married or not, as pre retirement, pension death benefits are free of IHT. It is however from here on that the problems can start to arrise.
Lets use an example of Posh and Becks being married, and Becks sadly passing away. Firstly, if Posh were to remarry to say Juan, and then get divorced, Becks' pension pot is increasing the amount lost through a divorce settlement to Juan . Even worse, if Posh were to remarry, then die, Juan could recieve the full amount of Becks' pension pot. This means Juan could leave this money to his children, and Brooklyn et al recieve none of it.
Finally, when Posh sadly passes away, Becks' pension will be included in Posh's estate, and therefore will now be taxed through IHT at 40%, so Brooklyn et al will only recieve 60% of it.
Had Becks left the death benefits of his pension to a trust, Posh could have still used the proceeds, but as an interest free loan from the trust. This provides protection against divorce and IHT, whilst also ensuring that Brooklyn et al definately recieve what Becks' would have no doubt wanted them to.
Given that a pension fund is often the second largest asset somebody owns, after their house, it is vital to ensure that this passes through the generations in the manner, and with the tax efficiency that you would want. The life company's master trust cannot allow you do any of this planning, so you need to create a trust to shelter the benefits of the pension for your next generation.
Friday 9 October 2009
50-55 year olds pension planning
From April 2010, the earliest age you will be able to draw funds from your pension will increase from 50 to 55. This means that if you are 50 today, you could take the tax free lump sum from your pension, and either take an income from it, or defer that to a later date. From April 2010, you'll have to wait until fo anohe 4 1/2 years.
But why would somebody want to start to take their pension fund so early? Lets run through an example. A gentleman has £400,000 in his pension, and a £100,000 mortgage fixed at 5%, with 10 years remaining. He chooses to take the 25% tax free lump sum, but defer taking an income until 60. This enables him to clear his mortgage outright, as coincidentally, the tax free lump sum is £100,000. As he has no mortgage to pay, he now has an extra £1079 per month to put into a pension. With tax relief of a higher rate tax payer, this would be grossed up to £1,798 per month. Starting to sound good.
If he could achieve 5% growth after charges on this fund between now and retirement, and increase the contributions in line with average earning each year, this extra contribution of £1798 per month would have grown to just shy of £350,000, whereas had he left the £100,000 in his pension, it would only be worth £179,000. Not a bad way to enhance his retirement planning. In the mean time, the remaining £300,000 would also have grown to £537,000.
So why has clearing the £100,000 mortgage provided such an increased fund. In effect, you are getting the tax relief twice. When the funds were originally put into the pension, they received tax relief at his highest marginal rate. Although you cannot recycle the tax free lump sum directly back into the pension, by clearing a mortgage and then funding from income, you are clearly not recycling the same funds. As such, when the new funds are invested into the pension, they are awarded tax relief all over again.
There are a few instances where this cannot be done, but in the main, this makes good financial sense, if done at the right time, for the right people. Those aged between 50 and 55 will lose the ability to do this in April next year, so if this sounds like you, it may be worth considering this now.
So its not all doom and gloom about pensions after all! Make hay while the sun shines!
But why would somebody want to start to take their pension fund so early? Lets run through an example. A gentleman has £400,000 in his pension, and a £100,000 mortgage fixed at 5%, with 10 years remaining. He chooses to take the 25% tax free lump sum, but defer taking an income until 60. This enables him to clear his mortgage outright, as coincidentally, the tax free lump sum is £100,000. As he has no mortgage to pay, he now has an extra £1079 per month to put into a pension. With tax relief of a higher rate tax payer, this would be grossed up to £1,798 per month. Starting to sound good.
If he could achieve 5% growth after charges on this fund between now and retirement, and increase the contributions in line with average earning each year, this extra contribution of £1798 per month would have grown to just shy of £350,000, whereas had he left the £100,000 in his pension, it would only be worth £179,000. Not a bad way to enhance his retirement planning. In the mean time, the remaining £300,000 would also have grown to £537,000.
So why has clearing the £100,000 mortgage provided such an increased fund. In effect, you are getting the tax relief twice. When the funds were originally put into the pension, they received tax relief at his highest marginal rate. Although you cannot recycle the tax free lump sum directly back into the pension, by clearing a mortgage and then funding from income, you are clearly not recycling the same funds. As such, when the new funds are invested into the pension, they are awarded tax relief all over again.
There are a few instances where this cannot be done, but in the main, this makes good financial sense, if done at the right time, for the right people. Those aged between 50 and 55 will lose the ability to do this in April next year, so if this sounds like you, it may be worth considering this now.
So its not all doom and gloom about pensions after all! Make hay while the sun shines!
Monday 5 October 2009
In our bank we trust.
The banks really are in for a fun time of it at the moment. Every time you open a paper, there appears to be a new story as to how they have ripped off their trusting customers. Unfortunately this is something that we have been saying for quite some time. This is what happens when you leave a spotty teenager with 3 weeks training in charge of your finances. In summary, a few of the stories of late;
Accident, Sickness and Unemployment (ASU) policies sold to people who couldn’t ever claim on them. These types of contracts have a long history of not paying out. Not to be confused with income protection contracts, ASU policies are only underwritten at the point of claim. Only after paying the premiums for years do you find out you weren’t eligible for the cover!
Major high street banks, including their Private Banking divisions are among companies charging exorbitant fees for acting as executors on customers' wills, an investigation has revealed. As seen in the Independent this weekend, people taking up offers of free or discounted will-writing services have been warned their beneficiaries could end up paying "obscene" fees. An Independent on Sunday inquiry has revealed some major high street banks, solicitors and will-writing firms advise clients to appoint them as executors on customers' wills and levy fees of up to 4.5 per cent on the estate on death. On an estate worth £500,000, that equates to £22,500 - about four times as much as the fees that the best-buy probate firms charge.
Because the advisers in banks aren’t independent, and are therefore only selling the banks products, the advisers are restricted in the level of help they can give you in selecting investment funds. They can ‘sell’ you the concept of a stocks and shares ISA, and then not select an appropriate investment inside it for you. Investment selection is the most important part, as this will have the greatest impact on what you get back, and when. Banks have been seen to be putting low risk clients into funds that have lost 45% in 6 months. Hardly a low risk investment.
So in other words, when it comes to managing your money, I would strongly suggest that you go to an independent financial planner. Otherwise, you may well just get ‘flogged’ the latest product they are getting an enhanced bonus on! You have been warned.
Accident, Sickness and Unemployment (ASU) policies sold to people who couldn’t ever claim on them. These types of contracts have a long history of not paying out. Not to be confused with income protection contracts, ASU policies are only underwritten at the point of claim. Only after paying the premiums for years do you find out you weren’t eligible for the cover!
Major high street banks, including their Private Banking divisions are among companies charging exorbitant fees for acting as executors on customers' wills, an investigation has revealed. As seen in the Independent this weekend, people taking up offers of free or discounted will-writing services have been warned their beneficiaries could end up paying "obscene" fees. An Independent on Sunday inquiry has revealed some major high street banks, solicitors and will-writing firms advise clients to appoint them as executors on customers' wills and levy fees of up to 4.5 per cent on the estate on death. On an estate worth £500,000, that equates to £22,500 - about four times as much as the fees that the best-buy probate firms charge.
Because the advisers in banks aren’t independent, and are therefore only selling the banks products, the advisers are restricted in the level of help they can give you in selecting investment funds. They can ‘sell’ you the concept of a stocks and shares ISA, and then not select an appropriate investment inside it for you. Investment selection is the most important part, as this will have the greatest impact on what you get back, and when. Banks have been seen to be putting low risk clients into funds that have lost 45% in 6 months. Hardly a low risk investment.
So in other words, when it comes to managing your money, I would strongly suggest that you go to an independent financial planner. Otherwise, you may well just get ‘flogged’ the latest product they are getting an enhanced bonus on! You have been warned.
Tuesday 29 September 2009
Retiring in poverty forever?
If you watch the news, you'd be forgiven for believing that anyone retiring now is destined for poverty for the rest of their existence. They are of course looking specifically that people buying an annuity. At retirement, the traditional option was to take 25% as a tax free lump sum, and then buy an annuity with the remaining 75%. A annuity is effectively paying upfront for a fixed lifetime income.
The problem the press are referring to, is caused by two main factors. Firstly, as markets have dropped, peoples funds are worth less, thus providing them with a lower fund with which to purchase their annuity. Secondly, as interest rates are low, and also as a result of the impact of quantitative easing on gilts prices, annuity rates are now quite low. This means the level of income per £ of pension fund has also fallen.
So what is the solution? Well certainly one option is to defer buying an annuity. This does not mean deferring your retirement though. The press are very good at forgetting to mention something called unsecured income. Unsecured income still allows you to take the 25% tax free lump sum, but it allows you to leave the rest of the fund invested. It may be that you can then take no income from the remaining fund, and live off the tax free lump sum for he time being, thus allowing the fund longer to grow/recover. You can however still take an income whilst doing this, allowing you to choose the point in the future that is right to buy an annuity, if there ever is one!
Unsecured income has the potential to get over some of the problems of buying an annuity. Annuities provide a fixed income for life, with no ability to alter this with your circumstances in the future. You also need to decide whether you want a level or increasing annuity, spouses benefit, and any guarantees at the point of buying an annuity, decisions that are very difficult to make with potentially 40 years ahead of you. Unsecured income provides you with the flexibility to adapt as your situation changes, manage your tax more effectively, and provide better death benefits.
It isn't right for everyone, as it can lead to a fluctuation in your income in the future, but there are certain guarantees that can now be applied to underpin the income you receive. These aim to provide you with the best of both worlds.
So, if you are retiring with more than £100,000 in pension, it certainly is something to consider seriously, even if it is a relatively short term measure until you are clearer on the choices you have available.
The problem the press are referring to, is caused by two main factors. Firstly, as markets have dropped, peoples funds are worth less, thus providing them with a lower fund with which to purchase their annuity. Secondly, as interest rates are low, and also as a result of the impact of quantitative easing on gilts prices, annuity rates are now quite low. This means the level of income per £ of pension fund has also fallen.
So what is the solution? Well certainly one option is to defer buying an annuity. This does not mean deferring your retirement though. The press are very good at forgetting to mention something called unsecured income. Unsecured income still allows you to take the 25% tax free lump sum, but it allows you to leave the rest of the fund invested. It may be that you can then take no income from the remaining fund, and live off the tax free lump sum for he time being, thus allowing the fund longer to grow/recover. You can however still take an income whilst doing this, allowing you to choose the point in the future that is right to buy an annuity, if there ever is one!
Unsecured income has the potential to get over some of the problems of buying an annuity. Annuities provide a fixed income for life, with no ability to alter this with your circumstances in the future. You also need to decide whether you want a level or increasing annuity, spouses benefit, and any guarantees at the point of buying an annuity, decisions that are very difficult to make with potentially 40 years ahead of you. Unsecured income provides you with the flexibility to adapt as your situation changes, manage your tax more effectively, and provide better death benefits.
It isn't right for everyone, as it can lead to a fluctuation in your income in the future, but there are certain guarantees that can now be applied to underpin the income you receive. These aim to provide you with the best of both worlds.
So, if you are retiring with more than £100,000 in pension, it certainly is something to consider seriously, even if it is a relatively short term measure until you are clearer on the choices you have available.
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