I have been looking at the increasingly important issue of what alternatives there are to traditional registered pensions for those who are caught this year by the special annual allowance charge and, from next year, by the (dramatically) reduced annual allowance. For advisers with clients in this segment, time spent considering the alternatives, and how they can be used independently or combined to deliver a desirable and tax-efficient solution, could be an invest-ment worth making.
This is particularly so as there is strong evidence in the shape of the interest shown in Qrops, other pension export and unlocking strategies (some of which appear quest-ionable) and the generally expressed preference for cash as opposed to a pension.
As I said in my last column, for those affected by tax relief restriction and effective removal, the need for additional income in retirement (what-ever that may mean in the future) may be low due to existing, possibly healthy, pension provision.
So, if the potential investor (or beneficiary of a corporate investment) was relatively certain at the point of inves-ting that they would not need any more income in retire-ment, say, because they already had a well funded pension arrangement and/or expected that other sources of income would more than provide for their needs, they should seri-ously consider if an alternative investment to a pension should be considered.
This is an aspect of financial planning that will inevitably get more airtime once the pension reforms (especially those on tax relief) are fully implemented and there is already evidence of interest.
Clearly, especially for those affected by the tax relief restriction, the Isa springs to mind as a very tax-effective alternative. There is no tax relief on input but the accruals will be completely tax-free so here it matches the pension. However, all benefits removed from the Isa will be tax-free as opposed to the 25 per cent tax-free lump sum benefit from a pension. Most who are likely to be tax relief constrained on pension input will maximise their Isa. Of course, the Isa cannot be made subject to a trust but IHT is unlikely to be the main driver in most cases.
But how about potential investment that exceeds the Isa limit for the year? Well, we have the usual range of insurance and collective offerings both UK and offshore and the new (old) kid on the block in the shape of the qualifying savings plan. Most who have been around the financial sector for a while will remember the Mip – maximum investment plan – as being something that was (indeed is) very tax-efficient.
Its decline had nothing to do with any legislative changes, making it less tax-effective but more to do with the fund choices and charges becoming less than optimal. If the legis-lation delivering the tax benefits remains in place, if the other issues could be addressed, then there would seem to be a place for this type of product. And we are seeing some emerge.
Basically, provided it satis-fies the relevant tests in rela-tion to life cover, regular, relatively stable premium payments and payment of benefits after 10 years, or three-quarters of the term if shorter, then the emerging benefits should be tax-free and can be taken wholly in the form of a lump sum.
To be qualifying, the plan must be issued by a UK insurer so that means UK life fund taxation. – so not complete tax freedom on accruals like the Isa and pension but it is really not too bad. A UK life fund will pay no tax on UK dividends (and most foreign dividends) and will only pay 20 per cent tax on other forms of income. The rate of tax on capital gains allowed for in pricing funds/units will usually be less than 20 per cent and UK life funds (as for any UK company) qualify for indexation allowance.
And, of course, it should be possible for these new qualifying savings plans to be held subject to a reverter to settlor trust that ensures taxfree benefits are paid to the investor but IHT-free death benefits to beneficiaries.
It is thought that many who effect these new QSPs will not necessarily be funding (what could be relatively high mini-mum) premiums out of new money but converting existing potentially taxable benefits to tax-free benefits through the QSP. In this case, of course, before embarking on this new form of capital conversion, full account must be taken of the tax and commercial costs of disin-vesting and reinvesting to secure the undoubted tax attraction on benefits emerging from the QSP.
What else could be considered? Well, last year saw an upswing in interest in and business done in relation to VCTs and this is expected to continue this year.
On the face of it, these are an extremely tax-attractive pen-sion alternative/supplement. Next week I will remind you of the tax features and benefits of VCTs. In considering VCTs, though, it is essential to keep in mind that the tax reward comes with a higher degree of investment risk.