The Government could be forced to cut the annual allowance to £10,000 for people who buy an annuity in order to close a potential tax loophole.
Yesterday, HMRC published draft tax rules to accompany Chancellor George Osborne’s radical Budget reforms.
As well as allowing people to access their entire pot without tax penalties from age 55, policymakers want to loosen rules around annuities to encourage providers to develop more flexible retirement income products.
But while HMRC has confirmed the annual allowance will be reduced from £40,000 to £10,000 for people who decide to access their pension pot from age 55, this is not the case for those who buy an annuity.
Experts told Money Marketing the decision not to impose the annual allowance cut for people who annuitise under the new regime means that, in theory, savers could take the majority of their fund in cash in year one – including the tax-free lump sum – without seeing their yearly tax-free savings limit lowered.
AJ Bell technical resources manager Gareth James says HMRC has three options from its current position:
1. Proceed with the rules as proposed in the draft legislation but monitor annuity product development and marketing to see if there is any abuse. This would mean everyone with an annuity keeps an annual allowance of £40,000 at least for now;
2. Draw a distinction between those who buy a traditional annuity and those who buy a flexible annuity. Those with a traditional annuity would keep an annual allowance of £40,000 and those who can make use of the new options have an annual allowance of £10,000;
3. Move to a position where everyone with an annuity has an annual allowance of £10,000. “On the basis that the Government’s own figures indicate that only a very limited number of people would use more than a £10,000 annual allowance this may be the simpler option,” James says.
James adds: “It seems strange that the Government has focused so much attention on the potential for tax abuse through flexi-access drawdown but at the same time has left the door open with lifetime annuities.
“Given the limited number of annuitants likely to contribute more than £10,000 there is an argument for reducing their money purchase annual allowance to that level.”
MGM Advantage pensions technical director Andy Tully says: “Government are aware of it and if people abuse it Government will close the loophole.
“There aren’t hundreds of companies available in providing annuities and hopefully they all realise it would only be a short win, if a win at all. The £10,000 annual allowance was a reasonable solution for the industry and we run the risk of the Government taking stricter measures if the industry pushes things too far.”