1
Q
What is the ‘Pension input period’?
A
- The time frame in which individual’s pension benefits can be accrued and set against the annual allowance.
- Pension benefits are increased by contributions, increases in pension rights (DB scheme) or salary increase.
2
Q
What is the ‘annual allowance?’
A
- A limit on how much pension benefits can be accrued before a tax charge is due.
- Currently, £60,000
- Annual allowance can be carried forwards (unlike MPAA) from the past 3 years, so long as:
- used all current allowance
- UK taxpayer at time of year brought forward.
- active member of pension scheme at time of year brought forward
3
Q
Describe the taper relief on the annual allowance
A
- Tapered for those with adjusted annual incomes, including their own and employer’s contributions over £240,000.
- For every £2 of ‘adjusted income’ over £240k, an individual’s annual allowance is reduced by £1.
- minimum of £10000
4
Q
Assessing the pension input amount set against annual allowance for DC schemes:
A
- DC scheme: all contributions, excluding pension credits received on divorce and contributions paid byt the individual or someone either than the individual’s employer from 75 onwards.
5
Q
Assessing the pension input amount set against annual allowance for DB final salary schemes:
A
Notional increase in the capital value of any defined-pension rights.
- calculated by taking the value of the member’s pension benefits at the beginning of the pension input period and multiplying by 16.
- Then increased by the CPI.
- the value of pension benefits at the end of the pension input period is then taken and multiplied by 16.
- the difference between these two numbers is the amount tested against the annual allowance
6
Q
What is Market value reduction?
A
A reduction to amount paid out when a policy holder switches or decides to take benefits earlier than otherwise stated in a with-profits pension.
This is to protect the interests of investors who remain invested in the with-profit fund.
7
Q
Unit-linked pension fund
A
- Personal pensions are DC.
- Unit-linked policies operate like unit trusts:
Units are sold at the offer price, and bought back from the investor at the bid price.
Value of each unit = value of fund assets/number of units at issue
With the value of the fund depending on the underlying performance of investments.
- Offer a range and flexibility in funds to invest in.
- Individual choice in funds, not available on with-profit plans
8
Q
Unit-linked pension example fund categories.
A
- Managed
- Equity
- Fixed Interest
- Property
- Overseas equities
- Guaranteed
- Charges are more specific than with-profit funds
9
Q
What is a Stakeholder Pension?
A
- A type of personal pension
- DC = Pay money into pot over time, pot then invested into a range of assets such as stocks and shares.
- Typically lower annual charges (1.5% first 10 years, 1% thereafter)
- May offer lower minimum contribution (as little £20)
- Narrower range of funds invested in. May reduce growth.
- Funds are chosen and managed for you, unlike SIPP
10
Q
Investing in pensions: With-profit fund characteristics
A
- Relatively conservative
- ‘Smoothing’ provides stable return.
- There is no minimum guarantee as to the value of the fund at retirement, and it is possible for the value of units to fall, although smoothing is used to reduce that risk as far as possible.
11
Q
What is ‘smoothing’ in with-profit pension fund.
A
- The end of year process where actuaries assess how much of the fund is needed to pay current and future liabilities, costs, and guarantees provided.
- Once assessed and liabilities settled, the balance is then used to bolster reserves, which will be distributed to with-profit policyholders in periods of poor performance.
- Creating a less ‘peak and trough’ investment return (smooth)
12
Q
What happens when a with-profit policy holder decides to take benefits?
A
- A terminal bonus may be added to units held; portion of the returns made on investments in good years is held back to subsidise or “smooth out” years of weaker investment performance.
- The retirement fund will be the value of units multiplied by the number of units held.
- If benefits are taken earlier than previously stated, the policy may be subject to an early retirement penalty or Market-rate reduction (MRV
13
Q
Charges on a Unit-linked policy
A
- Charges are more specific than with-profit plans.
- Allocation rates: Some older contracts may be set up so the provider only allocates a proportion of the investment to buy units. The proportion = allocation rate, i.e. 50% of premiums are used to buy units during the first 12 to 24 months
- Policy fee: Monthly or annual policy fee to cover the cost of administration.
- Annual Management Charge (AMC)
14
Q
What is an Annual Management Charge (AMC)?
A
- Policies are subject to annual charges for the management and administration of the investments within the pension fund.
- There may be a charge for taking benefits earlier than the planned retirement date. As with all registered pension schemes, personal pension funds grow free from income tax and capital gains tax.
15
Q
Earliest you can access pension benefits
A
- Normal minimum pension age (NMPA) = 55 Years. (Going to 57 in 2028)
- You may be able to access earlier if:
- Retiring due to Ill-health (12 months to live and under age 75)
- You have Protected Pension Age (Built in policy for the ability to take before NMPA)
16
Q
What is the LTA (2023/2024)?
A
- Life time allowance, the amount an individual can accrue in pension benefits without being subject to additional tax charges.
- £1,073,100
To be abolished in 2024, replaced by Lump sum allowance (LSA) and Lump sum death benefit allowance (LSDBA)
17
Q
What is the AA (2023/2024?)
A
- The annual allowance is the maximum amount of pension savings an individual can make each year without an annual allowance charge applying.
- To calculate:
Amount you’ve gone over AA x your tax rate. - £60,000
18
Q
What is an Benefit Crystallisation event (BCE)? and give examples.
A
When benefits are taken for the first time from a pension scheme. This triggers the pension fund to be assessed against the LTA.
- Buying an annuity (BCE 4)
- Starting pension drawdown (BCE 1)
- Reaching age 75 in drawdown pension (BCE 5A)
- Reaching age 75 with uncrystallised benefits (BCE 5B)
- Taking the PCLS. This does not apply if the PCLS is not paid until after age 75 – this is because BCE 5A and 5B ensure that the sum involved is already tested against the lifetime allowance.
19
Q
PCLS
A
Pension commencement lump sum.
- Upon crystallisation of pension benefits, transfers out of a pension fund receive a 25% tax relief.
- It is possible in some policies to take the PCLS and defer pension income until a later date.
- Plan holder can take 25% of the pension pot as a tax free lump sum.
- Alternatively, an individual with a phased retirement plan can take the PCLS from a
number of segments and leave the remainder invested. - Any PCLS drawn from age 75 onwards will be restricted to 25 per cent of the lifetime allowance remaining at age 75.
20
Q
What is an annuity?
A
- An annuity is a long-term investment made using your pension pot, which provides a regular, guaranteed income from the proceeds.
-This uses your remaining pension fund after any tax-free lump sum withdrawals.
- Good for those wanting security (Guaranteed income).
- Depending on the options chosen when purchasing your annuity, this income can go to your spouse if you die first, or your beneficiaries, so long as you are under the age of 75.
21
Q
Key points of annuities.
A
- It’s the simplest option (but also the most final - pension pot is consumed in purchase of annuity).
Pros:
- Guaranteed income for life
- Very little management/admin.
- You can shop around for the best annuity rates to provide a greater income. (Medical conditions may increase income - less time to pay out).
- Can be organised to provide an income for a surviving spouse under a joint-life policy.
Cons:
- Should you die early, you may miss out. (Funds are locked into annuity, no flexibility on utilising pension income/fund for last few years)
22
Q
Annuity Options
A
- Joint or Single life?
(Joint will be lower income) - Annuity income paid in advance or arrears?
(First payment can be up front, or start at a later date; advance payments result in lower income)*
*With proportion annuity will pay
any income due between the last payment and the annuitant’s death. Without
proportion = not further payments after death, higher income.
- Annuity income fixed or rising?
(Here the income can increases over time, either with a set % p.a. or index-linked to CPI or RPI). - Annuity Protection?
- Annuity guarantee?
(A guaranteed annuity pays the income during the life of the annuitant, but it will also pay the income for a guarantee period from the annuity starting, even if the annuitant dies before the end of the guarantee.)
23
Q
What happens to pension fund (if to be a death benefit lump sum) in the event of death:
- Below age 75
- 75 or older
A
- Before 75, pension fund is inherited (transferred) tax free.
- After 75, the fund is taxed at the beneficiaries marginal income tax rate
24
Q
Unit-linked investment annuities
A
- Not very common.
- Not for the risk adverse.
- More volatile (potential for more or less income)
- Fund buys units in a unitised fund linked to equities and the income is based on the bid value of the units.
- In some cases:
- Investor choses rate of growth.
- If funds grow at chosen rate = income same.
- If faster = increased income, if slower = lower income
25
With‑profits investment annuities
- Similar to Unit linked -> choose Anticipated Bonus Rate (ABR) of between 0% and 5% p.a.
- The higher the ABR, the higher the initial income but the more the danger of a reduction later.
- Each year the income is reassessed – the annuity is first reduced by the ABR and then the newly declared bonus is added, together in many cases with a one‑year temporary bonus.
-Providers usually provide a guaranteed minimum level, below which the annuity cannot fall, regardless of bonus performance.
26
Calculating with-profit annuity income.
- ABR = Anticipated bonus rate
- Initial income
- Bonus.
Initial income/ABR = the new base income.
Base income * bonus = New annuity rate
Example: £1000 initial, ABR of 4%, 3% bonus.
£1000/1.04 = £961.54
£961.54 * 3% = £28.85
New annuity rate = £990.38
27
Enhanced and impaired‑life annuities
- Annuity rates are based on life expectancy.
- Those with poor life expectancy can expect a greater income (as the duration of income is expected to be less)
-Enhanced annuities = for those whose lifestyle characterises them as having a lower life expectancy. I.e. Smokers.
- Impaired-life = Life-threatening medical conditions.
These terms may often be used interchangeably.
28
What are the three categories of Draw-down pensions?
- Flexi-access drawdown.
- Short term annuities.
- Pension commencement lump sum
29
Flexi-access drawdown
- No limit to withdrawals.
- Pension fund remains invested (unlike when purchasing an annuity)
- After tax-free lump sum has been taken (25%) remaining withdrawal enters into a DRAWDOWN account - to be invested or managed as an income.
- Withdrawals over their tax free allowance are charged at marginal income tax rate.
- Triggers MPAA (£10,000). Replaces AA.
- Flexibility lends to risk of funds running out. Advice paramount.
EXAMPLE: £200,000 fund.
£40,000 taken out, £10,000 tax free into personal account. Remaining £30,000 goes into DRAWDOWN account that can be taken ad hoc or provide an income.
30
MPAA
Money purchase annual allowance
- Created by Gov in light of concerns over ultra tax-efficiency of flexi-access.
Triggered by:
- Enters flexi-access drawdown + takes withdrawal greater than PCLS (25%).
- Takes UFPLS
- Takes out a flexible annuity
- MPAA is £10,000 (2023/2024)
- Unused MPAA cannot be carried forward (Unlike AA which can be carried forward max 3 years.
31
Short-term Annuity
Alternative to Drawdown pension.
- Short term Annuity is purchased to provide pension income.
- The remainder of the fund remains invested to hopefully continue to grow (inherent risk)
- STA's only 5 years in duration, on expiry another can be purchased.
32
UFPLS
- Bypasses the drawdown account.
- Funds taken from pension go directly into account.
- Funds above the 25% tax free amount are charged at marginal income tax rate
-Doesn't have to be entire amount, rest of the pension fund is left untouched.
- A UFPLS is a authorised transfer NOT a PCLS (PCLS must be part of an entitlement to income.)
To qualify for UFPLS:
- Transfer from Uncrystallised fund held in DC pension.
- NMPA or early due to ill-health.
33
Is there a PCLS for UFPLS?
- No
- UFPLS is a form of authorised payment not a PCLS.
- It's described as a tax-free element rather than a PCLS.
- Individuals cannot take more than 25% of the UFPLS tax free.
34
What is allocation rate?
- In unit-linked pensions
- The amount of what you pay that is invested in your pension.
-I.e. a allocation rate of 98% means 98% is invested, and you pay a 2% charge on each deposit you make
35
Advantages of Drawdown Pension
- Annuity purchase can be delayed -> potentially better rates (Life expectancy less)
- More control of investments
- Further investment growth potential
- Flexibility of income.
- Allows for ready to access capital lump sums if required
36
Disadvantages of Drawdown pension
- Potentially high charges when administering funds and on withdrawals.
- Risk of adverse investment performance (annuity may perform better in comparison).
- Delaying to purchase annuity may not always result in more favourable rates. (Taking A. in first place would be better).
- Potential for outliving capital reserves. Needs to be managed efficiently.
- Large withdrawals may face higher or additional tax rate charges if the withdrawal pushing the individual into these brackets
37
Tax treatment of DC pension if member dies BEFORE age 75
For uncrystallised funds:
- Tax-free up to the deceased lifetime allowance
For crystallised fund:
- Tax‑free to any beneficiary if member died in drawdown or an
annuity protection lump sum is paid out.
For pension Income:
- Tax‑free if taken as income via drawdown
- Tax‑free if taken as income via a joint life or guaranteed term
annuity
- Option now available to any beneficiary (can leave DC to any beneficiary they nominate - beneficiary will not have to pay income tax on the pension income they inherit)
38
Tax treatment of DC pension if member dies AFTER age 75
For both Crystalised and uncrystallised lump sums
- Tax at beneficiary's marginal rate of income tax
For Income:
- Taxed at beneficiary’s marginal rate of income tax
39
Pensions and IHT
Pensions are usually held
in trust outside the member’s estate and therefore inheritance tax is not usually applied.
40
SIPP
Self-invested personal pension.
- PP arrangement that allows the individual to make direct investment choices from a wider range of investments than usually offered.
- Flexibility means SIPPs becoming more popular.
- SIPPs can borrow funds for investment purposes and can purchase commercial property
41
SIPPs investing in residential property?
RP is classed as a prohibited asset and will be subject to punitive tax charges.
- 40% on the member
- 15% surcharge on the scheme.
If assets represent 25% or more of the fund value, there are further tax charges and the risk that the scheme is deregistered
42
Since A-day (6 April 2006) Occupational pensions must be set up under trust.
How can a pension scheme be established?
- Deed poll.
- Trust
- A contract
- A board's resolution
43
Common factors throughout occupational pension schemes.
- Scheme does not have to state a normal retirement age for members (Usually state pension age, however).
- Contributions by employer and employee qualify for tax relief, subject to the annual allowance.
- PCLS can be taken on retirement (25%)
- Pensions are paid as earned income (as such, taxable at marginal income tax rate)
- Fund grows free of UK tax
-Death benefits free of IHT. So long as distribution of benefits occurs within 2 years of member's death.
44
Unfunded Occupational pension schemes
- Known as PAYG schemes
- Civil service Pension fund is an example
- Employer (the government) does not make contributions. Instead, it comes out of the 'public purse'
- Controversy: UK taxpayer funding what could be seen as very generous benefits without provision of their own
45
Funded Occupational pension schemes
- rely on the investment of contributions to provide future benefits for scheme members. Funded schemes are either contributory or non‑contributory.
- Contributory = Just employer pays
- Non-contributory = Employee + employer
46
DB scheme eligibility
Schemes can determine eligibility as they wish, though typically stick to Pre A-day rules:
- Min. Age 18-21
- Probationary period (<1 year)
- May exclude part‑time or temporary employees, or segregate them
so that a different benefit structure applies.
- Schemes are non-compulsory (Opt-out)
-Employers can auto-enrol employees that do not meet 'eligible jobholder' status.
47
Defined benefit schemes also known as
Final Salary scheme
48
Defined contribution schemes also known as
Money-purchase scheme
49
What is 'Contracting-out' within DB Schemes?
Prior to A-day, employees and employers could pay reduced NI to fund DB scheme.
'Contracting-out' of the additional state pension (SERPS). Would therefore result in a lower state pension so ->
Employers had to guarantee a minimum pension (GMP) at least in line with what they would receive from SERPs along with an number of other benefits in order to do this.
SERPS was replaced in April 2002 by S2P
50
What is SERPS?
State Earnings-Related Pension Scheme (SERPS)
Also known as:
- Additional State Pension
- State Second Pension
Extra money on top of state pension if you're:
- man born before 6 April 1951
- woman born before 6 April 1953.
51
Employer contributions in DB schemes.
- Must contribute an amount that facilitates the benefits guaranteed to employees
- Higher than expected wage-inflation or poorer than expected investment returns may result in an increase in contributions.
- Contributions holiday if overfunded
- Contributions usually paid annually.
- Employer contributions are treated as a deductible business expense and offset against profits in the accounts.
52
Employee Contributions in DB schemes.
- Small number of schemes contributions are non-compulsory.
- The employee contribution is usually set at a percentage of their salary– typically around 5–6 per cent.
- Paid through net pay arrangement:
Deducted from gross income -> income tax relief at their rate.
53
Retirement benefits
Determined by:
- Length of service.
- Scheme accrual rate:
Expressed in fractions (usually sixtieths or eightieths)... representing 1/60th of final salary for each year of scheme membership. 30 years services = 30/60 = 50% of final salary.
- Scheme pay:
What amount of renumeration is counted towards benefits (usually just basic pay but some schemes include additional).
RB taken out under the schemes MRD (minimum retirement date) where no penalty given.
54
DB and PCLS
- Can be taken but at a reduction to pension income
- Commutation = income given up for lump sum.
Post A-day and subject to scheme rules:
- Can take 25% of pension 'fund'
Commutation rate calculated by:
- Multiplying their pension
benefit by 20 and applying certain actuarial factors.
This would potentially provide a
larger tax‑free sum than the pre‑A‑Day calculation.
55
DB and retiring due to Ill health
- can take before MRA if life expectancy suggests appropriate.
- IF LE < 1 year, can be taken as a tax-free lump sum up to the limit of their remaining LTA.
Pension fund could be calculated from:
- Service up to date with no penalty, or;
- What they would have accrued at MRA
56
DB Death‑in‑service benefits
Either paid as:
- Lump Sum
- Pension for dependants
Lump sum:
- Since A-day, any amount can be paid tax-free is employee dies before 75. Amounts over LTA subject to 55% tax.
- Usually paid out at 2-4x salary.
Dependant's Pension
- Pension paid as earned income (Income tax)
Pre A-day pay out limited to
- 2/3rd income for spouse
- 1/3rd income per child.
Post A-day, no limit (though expensive, so usually stick to Pre A-day rules)
57
DB death after retirement
Scheme can provide pensions for a spouse, civil partner or other dependants of the deceased.
- Set at fixed proportion, usually 50-67%
- Treated as earned income.
58
DB schemes and AVC
Pre A-day, only way to top-op DB scheme contributions.
Advantages
- Lost cost
- Pension held in one source
- Immediate tax relief
- Provides certainty of benefit through added 'years of contribution
Disadvantages of AVCs are, however, that
- Limited investment choice
- Employer knows the individual’s funding level
- AVCs are tied to the main scheme.
59
Example: DB final salary pay-out. public sector
30 years’ service in the scheme, retiring
on a salary of £40,000 pa, would receive:
Historically, pay-outs are at 1/80, with 3/80 for tax-free cash.
30/80 * £40,000 = £15,000
30 * 3/80 * £40,000 = £45,000 tax free cash
60
Advantages of a DC scheme
- Easy for employees to understand benefits and contributions rates
- Usually better value for short term members of staff.
- Easy for employers to see cost/ outlay of providing benefits
61
Disadvantages of DC scheme
- No underlying benefit promise for members.
- Employee bears risk of scheme underperforming - employer only has responsibility for contributions.
- Ultimately, members' benefits will be affected by the fund value on the date of retirement
62
Contracting out of a DC scheme
Since 2012, you have not been able to contract out of a DC scheme.
63
What is an EPP?
Executive Pension Plan
- Occupational pension plan built for one person.
64
SSAS
Small self administered Scheme
- Group DC scheme
- For up to 12 members, all must be trustees.
-Useful for small/medium companies.
Common use is to buy the business premises through the pension scheme:
- Free from Income, corporation and CG Taxes.
- Increasing asset.
Can borrow up to 50% of its net assets to purchase commercial property. Can also loan 50% of its net assets to sponsored member.
As with SIPP, residential property is prohibited and shares the same punitive tax charges (40% +15% surcharge to the scheme)
The pension scheme can invest up to a maximum of 5 per cent of the fund value in the sponsoring company’s shares.
Important caveat: Trustees must treat tenants and borrowers, etc, in the same way as a normal profit‑making institution would.
The sponsoring company will consequently have to pay a market value rent to the pension fund for the use of the business premises.
65
Investments from SSAS
SSAS can invest a maximum of 5% of the funds total assets.
65
Loans from SSAS
- Maximum term of 5 years.
- Must charge base interest rate plus 1%
- Must be secured by a first charge on the company's assets.
- Must be repaid in equal instalments of interest and capital
66
Options when leaving DB schemes
Early leavers have 3 options:
1. If leaving within 2 years:
- Contributions can be refunded without interest.
- Refund is paid less tax charge, which is 20% of first £20,000 and 50% of the balance.
2. If completed 3 months membership, employer can offer to leave the pension built up, to be taken at normal retirement date - known as 'Preserved pension'
3. Transfer pension benefits (contributions and tax relief) to another scheme if more than 3 months membership completed.
67
Reasons for transferring pension
- to consolidate pension benefits
- to achieve freedom from a previous employer
- for investment choice and flexibility
- to secure greater flexibility of benefits, particularly those offered by the pension freedom legislation
- a desire for personal and private arrangements
- the possibility of improved benefits
- the option to retire early.
68
Retained benefits
Accrued benefits built up in a previous employer’s scheme
69
Transfer Decisions:
Transferring to a new employer's scheme
One of two ways:
If DB scheme:
- Cash value of previous scheme fund is used to purchase additional years service. The rate of conversion is down to the scheme's policy, and can represent bad value.
If DC scheme:
- Cash equivalent is transferred to new scheme under a separate pot
70
Transfers:
Transfer club
Is an arrangement between two schemes that are similar to transfer on a like-for-like basis.
For example, DB schemes that hold similar levels of benefits for each subsequent year of service.
i.e. 15 years service in public sector job (in transfer club) = 15 years service in another public sector job (as if there was no break)
Makes for an efficient and low cost transfer agreement
71
Advantages of transferring to a personal or stakeholder pension plan (From DB)
-there is no further employer involvement or contact
- the individual owns the plan
- fund growth may allow for higher benefits
- there is greater flexibility over taking benefits
- the individual has personal investment control
- the plan escapes the issues that might arise if the scheme were to become
underfunded or be wound up.
72
Disadvantages of transferring to a personal or stakeholder pension plan (From DB)
- the loss of guarantees and future increases
- if an annuity is purchased with the personal pension benefits these will be dependent on annuity rates, which are likely to be lower in the future owing to increasing life expectancy and lower gilt yields – this in turn is likely to place more emphasis on
fund growth to match the benefits;
-the loss of a share of any future surpluses.
73
Trivial commutation and small pots rule
For very small pension pots, a conversion into a cash payment can be made under this rule.
TC = Pot< £30,000
- Can be from DB or DC
- 25% tax free, rest at marginal income tax rate
Small pot = < £10,000
- Does not trigger MPPA
- Taxed as income.
Minimum age to do this is the MRA, although ill health allows for earlier.
74
National Employment Savings Trust
(NEST)
Government workplace pension scheme Introduced from pension reforms of the Pensions Act 2008.
- Employer contributes min. 3%
- Employee contributes min 4% with 1% tax relief
- Can be less, total must be 8%
Employees who opt out will be re‑enrolled every three years.
Members charged 0.3% of their fund each year, and 1.8% contribution charge.
The Pensions Regulator is responsible for ensuring employers meet their obligations.
75
4 main types of ISA
- Stocks and Shares ISA
- LISA (Lifetime individual savings account)
- Cash ISA
- Innovative Finance ISA
76
ISAs
- No tax relief on contributions
- However, withdrawals are tax-free
£20,000 tax-free contribution allowance
ISA is a tax-free wrapper for Investments:
- No CGT
- No tax on dividends coming from ISA
- No income tax on interest
Useful for:
- Those who wish to have their retirement capital available at all times
Not possible to take out joint ISAs or on behalf of another.
77
LISA
Lifetime Individual Savings Account.
Can be opened between 18 and 40.
Government top up for saving for retirement or to purchase first property.
- Additional 25% p.a. if contributions hit £4000 threshold up to a maximum of £1000. (up to the age of 50)
Either cash or stocks and shares can be held in a LISA or a combination of both.
25% tax charge if funds withdrawn before 60 (if not to purchase first property).
78
Cash ISA
Effectively a bank account in a tax-free wrapper
- Interest is tax free and cash available at any time.
- However, there may be some penalties on interest gained depending on providers policy.
A cash ISA can include unit trusts and OEICs
Transfers from previous years’ ISAs will not affect the current year’s contribution limit.
Retirement:
Good place emergency funds, short‑term
savings and perhaps cash to supplement retirement income on a day‑to‑day basis.
Lack of growth (Interest vs inflation) means its not an ideal long-term retirement saving strategy -> Stocks and shares ISA is a better choice.
79
Stocks and Shares ISA
Tax wrapper for a variety of different investments
- Compared to Cash ISA, far more potential for growth in the medium to long term.
Can have holdings in:
- Unit trusts and OEIC
- Shares
- Investment trusts
- Gilts and Corporate Bonds.
This means that the performance risk and growth potential can be similar to that of
pension funds.
- No income or CGT
- Withdrawals at any time without affecting tax-free status
- There is no limit on the total value of ISA holdings.
80
IFISA
Innovative Finance ISA
The IFISA allows savers
investing in peer‑to‑peer loans to receive the interest they earn tax free.
Only available from peer‑to‑peer lending platforms
- No cover from FSCS
81
Unit trusts/OEICs as a retirement saving strategy.
Collective investments, such as unit trusts and OEICs offer diversification and professional fund management.
Similar performance risk to pensions
- No tax relief
- No CGT on disposal into UT/OEIC
- However, CGT may be due when fund is encashed
Income tax:
- For a unit trust/OEIC that invests in equities, dividends are received gross. (Amounts over Dividend allowance are charged income tax .
A non‑equity unit trust/OEIC also pays income gross.
Such income is eligible
for inclusion in an individual’s tax‑free personal savings allowance.
There are no limits on investments into a unit trust/OEIC, and no restrictions on when
capital can be withdrawn.
82
Investing in Property as a retirement saving strategy.
Generally stable market - seen as a safe bet against beating inflation. Over short-term however, loses are likely.
Buy-to-let strategy to provide retirement income, however tax situation needs evaluation:
- CGT due on 2nd property, 18% or 28%.
- Rent liable to income tax.
- Upkeep
- No tenant = losses
- Stamp duty
83
Retirement funds can be raised by releasing equity in an individual’s main residence in one of three ways:
- Sale of primary residence (No CGT) and downsizing.
- Taking a lifetime mortgage on the property
- Arranging a home reversion scheme - Part of the property is sold for a discounted lump sum but can still live in residence.
84
Lifetime Mortgage
Interest only mortgage
Agreement that interest will be rolled‑up and repaid when the property is sold or the owner dies.
Can release 20-50% of equity in property depending on their age.
Existing mortgage would have to be paid off as part of the arrangement.
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Advantages and Disadvantages of Lifetime Mortgage
Advantages:
- Owner can stay in their own home
- No regular payments
- 'no negative equity guarantee' if the loan exceeds the value of the property when the owner dies, they will not have to pay the excess.
- Cash raised (from equity release) is tax free.
Disadvantages:
- Debt rolls up quickly
- Having just paid off a mortgage, may be reluctant to take out another.
- Debt will reduce inheritance.
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Assessing retirement needs and objectives.
Starting Questions to consider
At what age does the client wish to retire?
*Annuity rates much lower for younger individuals, therefore requiring greater provision*
What level of income will they need to facilitate their idea of retirement?
*Helps to discuss in terms of percentages of current income to provide retirement they want (realistically)* **and** *their attitude towards risk in order to obtain - annuity = guaranteed income*
Are there any capital needs at retirement?
**Debts that may impact their retirement lifestyle goals**
Should an individual take the maximum 25 per cent tax‑free cash PCLS from the pension arrangement?
- For DB this will lower the pension income and may be undesirable.
- For DC, useful for clearing debts, and achieving income in a tax-free manner through an ISA.
A lifetime annuity purchased with the PCLS will provide income that is partly tax‑free (unlike pension income, which is fully taxable).
Higher income at start of retirement? **more able for travel etc**
What level of dependant’s pension will be needed?
Is long‑term care an important factor?
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Follow up questions for building retirement strategy.
How much of their pension need is already provided for?
- State pension
- Employment schemes
- Retained benefits
- Personal pensions and other.
What is the gap between what is funded and what is needed?
How is this shortfall to be funded?
What impact will this have on retirement lifestyle if not funded?
Budgeting pension provision: current liabilities and how these may not be an issue at retirement. I.e. mortgage.
Inflation vs rate of growth?
Consider client's other financial provision outside of pensions - are they funding long term investments/ ISAs. What are these for and can they be used for retirement funding?
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Retirement planning - Risk
It is vital to have a conversation and ascertain their approach to risk:
- Do they understand the concept of risk and reward?
- Are they aware of the relative performance of each asset type?
- How do they feel about the potential for losses?
- Do they understand a more secure investment will require greater funding, to compensate for lower growth potential?
-Do they have other pension provision or assets that they might use in retirement? If the proposed provision is only part of the overall plan, they might be able to take more risk.
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Retirement planning - Asset allocation
Diversification reduces risk. Asset allocation dictates performance
Choice of asset depends on two key factors:
- Attitude to risk
- Time till retirement
Low risk Assets:
- Fixed-interest securities (bonds and Gilts)
*produce a fixed income*
- Cash
*typically struggles against inflation*
**Requires greater funding to expedite lower growth**
Higher risk Assets
- Equities (ordinary shares that provide growth potential over the medium to long term)
*Consistently outperform cash and Fixed-interest securities, however, fluctuate significantly over short term*
- Property - usually commercial
*growth in the medium to long term, losses offset by rental income*
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Investment assets for retirement:
What should the portfolio largely consist of if retirement is greater than 10 years away?
Equities
There is a good chance of capital growth ahead of inflation and the money can be tied up for the long term
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Investment assets for retirement:
How should portfolio change as retirement becomes less than 10 years away?
Shift from assets in equities towards Fixed-interest securities such as bonds and Gilts.
Offers some growth, but avoids risk of loss closer to retirement.
The amount of a switch depends on the individual's attitude to risk.
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Lifestyling option in Personal pension plans
Some schemes provide an automatic switch in which money is moved from equities to fixed‑interest investments during the last five or ten years to retirement.
Still providing some growth, whilst lowering chance of capital loss as retirement date becomes closer
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Client wishes to defer taking their state pension - How much will it increase by?
*It will increase by 1% for every 9 weeks it is deferred.
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Financial Reporting Standard (FRS) 17 requires employers to revalue the assets and liabilities of occupational pension funds every:
*Every three years
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'Smoothing' is a feature of which type of pension fund? Explain what it is?
*With-profits funds
*Provides a more stable return by spreading investment gains and losses over a period of time.
*This is achieved by holding back some returns in good years to support payouts in years when investment performance is poorer.
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SSAS (Small Self-administered Scheme). What is the maximum value the SSAS can use to purchase property?
*Can use assets and borrow up to 50% of its net assets.
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