Making the most of the pensions regime

What is A-Day and what does it mean for directors and their employees?

A-Day - 6th April 2006 - marked the introduction of a new pension regime in the UK.  The intention behind the change is to achieve simplification by making all pensions subject to the same rules and regulations.  It should be beneficial for everyone saving for retirement, because it will give savers far more control over their own pensions - in terms of how much money you can put in, where you invest the money and how and when you can take it out.

However, directors should plan carefully for the change – in respect of both their own pensions arrangements, and the benefits made available to employees.  In many cases specific actions will be needed, both before A-day and afterwards, to avoid the pitfalls of the new system and to take full advantage of the opportunities for tax-free saving.

Greater scope for saving

The good new for savers is that after A-Day you are able to pay and receive tax relief on contributions into a pension scheme of up to 100% of earnings in the relevant tax year, up to a ceiling of £245,000 (tax year 2009/10), and there will be no restriction on the number or type of pensions you choose to invest in.  These new rules will give individuals far greater flexibility over the amounts and timing of payments when saving for retirement.

However, the new regime introduces the concept of the Lifetime Allowance - which is the maximum value of benefits you can have from all pension arrangements without being subject to penal tax rates.  For the year 2009/10 this will be £1.75m (increasing to £1.8m by 2010/11).  Benefits in excess of this level will be taxed at an effective rate of 55%.

High earners need to address this issue now, even if the value of the pension fund is currently well below the £1.75m limit.  For example, a 40 year-old with a pension valued at £800,000 today could break the £1.75m ceiling at 60, without putting a further penny in.

Choice of investment options

The new rules enable savers to put their money into any investment vehicle - such as residential property, fine wine or vintage cars - through a self-invested personal pension (SIPP).  The Inland Revenue insists only that the investment must be made on a commercial basis.

Residential property, in particular, has attracted wide interest.  The advantages of for example purchasing a holiday home, either in the UK or abroad, include: up to 40% tax relief on the purchase price; no capital gains tax payable on the future growth in value; and no income tax payable on rent received.  It is also possible to borrow up to 50% of the value of the investment when acquiring a new property.

The new regime will allow existing buy-to-let investors to shelter their investment within their pension.  When the property is sold, 25% of the sale can be taken as tax-free cash, while the rest is taxed as earned income.

Flexibility in taking money out of the scheme

Since A-Day, there is a greater choice of retirement options.  It is now possible for all employees to start drawing pension whilst continuing to work for the same employer.  This has led to more flexible employment arrangements - such as choosing to work three days a week whilst drawing a pension - as a transitional step in the run up to retirement.

The traditional annuity - requiring the pension holder to draw out the majority of the fund in the form of regular payments until death - will be a thing of the past.  A new option, the Alternatively Secured Pension (ASP), now enables savers to draw money from their pension when they choose.  An ASP can also be used to continue the payment of funds after death, to a nominated recipient such as spouse or partner.