View more on these topics

Gilt trip

Pensions offer more choice and flexibility than ever, says Mike Morrison, head of pensions development at Axa Wealth, but the fact that income remains linked to falling gilts is a hazard

Retirement income is, quite rightly, one of the big industry topics, especially when you consider the demographics, the baby-boomer generation and current longevity statistics – but it is only a few years since the rules gave us any leeway at all.

Income drawdown was only introduced in 1995 and the time seemed right for change. The industry was working hard to develop flexible annuities but the Inland Revenue intervened with the concept of income drawdown.

Fast forward to 2011 and the long awaited removal of the need to buy an annuity at age 75 required a revision of the rules.

Now two different regimes – capped drawdown and flexible drawdown – exist side by side and together with temporary and fixed annuities, third-way products and even scheme pensions, there is more choice and flexibility than ever.

However, the question remains, what is the point of flexibility if individuals cannot take the income they need from their fund?

The abolition of the need to buy an annuity at 75 brought the need to review the Government Actuary’s Department rates that are used to calculate income drawdown.

The new rates had been reduced to some extent, reflecting improvements to longevity, but, surprisingly, the new regime changed the percentage of the GAD rates that could be drawn as a maximum, reducing it from 120 per cent to 100 per cent.

The other variable that could perhaps not have been predicted was falling gilt yields, which are the external reference point that apply to GAD rates, and these have now fallen as far as 2.25 per cent.

From the table, we can see that the average yield since 1998 has been around 4.5 per cent, with the last year or so seeing a drastic decrease. In its December newsletter, HM Revenue & Customs indicated that 2 per cent will be the floor – for the time being.

The newsletter gives a wider flavour of HMRC’s thinking and says: “HMRC can confirm that 2 per cent should be regarded as the minimum level to be used when calculating the maximum drawdown pension payable. Consequently, if the 15-year UK gilt index yield were to fall below 2 per cent, the scheme administrator should calculate the basis amount using the gilt yield figure of 2 per cent.

“It is important to note that the tax rules never require the maximum income to actually be drawn in pension. The statutory calculations merely serve to determine whether a given level of drawdown pension is authorised for tax purposes.

“For advice purposes, scheme administrators are free to provide more modest calculations suggesting recommended maximum withdrawals, to avoid the possibility of prematurely exhausting the drawdown pension fund and ensuring the resulting payments do not exceed the statutory limit.”

A year ago, the gilt yield was 4 per cent and now it is 2.25 per cent, which, I think you will agree, is a dramatic fall.

I have seen one recent example suggesting that a 65-year-old male with a pension pot of £250,000 going into drawdown or reviewing income in February 2012 will have a maximum drawdown of £13,750. In February 2011, the figure would have been £20,400 – a reduction of 32 per cent.

This is not the worst example I have seen but it is dramatic enough.

From the client’s perspective, if they had other assets or income then the shortfall could possibly be made up from elsewhere, but if such an individual had no other income or assets, how would they survive?

I believe HMRC’s main concern is that funds are not prematurely depleted but I cannot see it in such simple terms. If the economic situation had been slightly different then we would still have had higher gilt yields and higher withdrawal rates.

Ironically, the introduction of flexible drawdown seems to suggest HMRC is not so concerned about the depletion of income limits below a minimum income requirement of £20,000.

There have been a number of suggestions for change, ranging from basing the drawdown calculation on the level of return from a selection of equities and gilts rather than just 15-year gilts, to link to a set of rates based on life expectancy or abandoning the link with gilts altogether. At the very least, there has been a call to reinstate the 120 per cent limit, even if it is a temporary measure.

Whatever the answer, there really is a need for a review. It might be possible to improve income to some extent via scheme pensions or even using a temporary annuity policy but still income limits are linked to gilts.

How are we supposed to reinstate or reinvigorate a culture of saving and retirement planning if individuals are not incentivised to put money in and are unable to take it out?

Recommended

2

Comparison sites may fall foul of MMR advice rules

Comparison websites could face a major shake-up as a result of the mortgage market review proposal to ban non-advised sales. The final MMR consultation paper, published in December, proposes that the majority of interactive mortgage sales must be advised. Financial consultancy Bovill is advising brokers and lenders on the MMR’s impact on their business. Bovill […]

Govt pledges tough line to stamp out duty dodgers

The Government has vowed to take a tough line on legal manoeuvres designed to avoid the new 7 per cent stamp duty on homes worth more than £2m. Lawyers are reportedly finding ways around the new stamp duty by using multi-year leases with values lower than the £2m threshold or selling a third party the […]

Kames switches inflation linked fund to new sector

Kames Capital has moved its £257.4m Kames inflation linked fund to the IMA mixed investment 0-35 per cent shares sector to better reflect the fund’s composition. According to the asset manager, the fund’s inflation-themed strategy means the fund is unlikely to exceed a 35 per cent holding in equities. The fund was previously a constituent […]

Loans for house purchase drop to lowest level since December 2010

Mortgage approvals for home purchases fell sharply to 43,450 in March, their lowest level since December 2010, according to the latest Mortgage Monitor from e.surv.   There were 7 per cent fewer purchase approvals than in March last year – the first year-on-year fall since May 2011. The drop also represents an 11 per cent […]

Newsletter

News and expert analysis straight to your inbox

Sign up

Comments

    Leave a comment