The Chancellor quietly announced taking another £1.25bn from pensioners in his March Budget. He did not put it quite like that, of course. In fact, he did not mention it at all. But there it was in a line labelled “Annuities: secondary market”. He will take £485m in 2017/18, £475m in 2018/19 and then £150m and £145m in the following two years where the figure is expected to settle as an annual tax bonus.
This money is income tax. It will come from the next stage of pension freedom announced in March 2015, postponed in July 2015 and then confirmed in 2016 for implementation just before Easter 2017: selling back income for life for a lump sum. Otherwise known as creating a secondary annuity market.
The new rule will satisfy the demands of many of the six million people who had already bought an annuity with their pension fund before stage one of the freedoms was announced in March 2014. “Why not us?” they cried. “It is so unfair,’’ they complained. Well, be careful what you wish for.
The Government estimates around 300,000 of the six million will take advantage of this new freedom and warns that “for most annuity holders, continuing to hold the annuity income will be the right decision”.
For those that do sell, it has confirmed the newly liberated money would be added to income in the year it was received and taxed accordingly. That is the same as the way pension freedom lump sums are taxed, except, of course, that 25 per cent (usually) of those are tax-free.
The first part of the freedom and choice regime is already giving Osborne a nice bonus. In 2015/16, £4.35bn was liberated. But it was not spent on 16,000 Lamborghinis. The 232,000 people that cashed in 512,000 funds would have been lucky to buy a Ford Focus.
Sadly, HM Revenue and Customs tells me it “is just not possible” to work out how much tax was taken from the £4.35bn. It would need complicated sums.
But we do know that the Office for Budget Responsibility predicts the total tax take to be £900m in 2015/16, which is £200m more than it expected a year ago.
It is also a great deal more than the £320m figure booked at the time of the March 2015 Budget, which netted off the cost of extra tax relief as pensions became more attractive and more people paid more in.
Now we have the next stage of pension freedoms, which will bring in more than a billion pounds to help Osborne balance the books (well, not quite balance, but reduce the still rather stunning deficit of £74bn in 2015/6).
“Once annuitants are allowed to sell their income for life back to an insurance company in exchange for a lump sum from next April, Osborne is expected to rake in an extra half a billion pounds a year for each of the first two years”
Indeed, once the annuitants are allowed to sell their income for life back to an insurance company in exchange for a lump sum from next April, Osborne is expected to rake in an extra half a billion pounds a year for each of the first two years.
However, for some of those delighted with the freedom to cash in their income for life, it will come at a heavy price. When the lump sum is added to their income and taxed in the year it is received many non-taxpayers could end up paying 40 per cent on some of their liberated annuity.
Joyce has a state pension of £6,000 a year and a flat rate annuity of £5,000 a year, which she bought with her £91,000 pension fund five years ago.
She pays no tax as her income is below the personal allowance, which will be £11,500 from 2017.
Next April she wants to cash in her annuity and after a medical that finds her remarkably fit she is thrilled to be offered £55,000 (and that may be a generous guess).
When that is added to her income, however, she finds she has to pay £14,700 in tax: most of that at the 40 per cent rate.
Joyce has never paid higher rate tax in her life and it is some years since she paid any tax at all. She does not claim any means-tested benefits but if she did she would lose those too.
In some ways Joyce is lucky. Although the Chancellor is giving us the freedom to cash in our annuities he is not forcing any annuity provider to let us do it, nor is there any guarantee that any firm will buy it for a price we consider fair. At least Joyce sells hers.
Joyce was also healthy when she bought it and is just as healthy now. Not everyone will be in that position. People who had ill health when they bought their annuity but were missold a standard rate product will find their life expectancy is now a lot shorter than average and the value of the annuity will be far less than they paid. Instead of the income bonus unhealthy people get buying an impaired life annuity, the cashers- in will pay an illness penalty as the income stream they are selling will be coming to an end sooner than the insurance company (and they!) would like.
Anyone who has developed a health condition since buying their healthy rate annuity will be in the same position.
Come next Easter, taxing poor widows like Joyce at 40 per cent will take a bit of the shine off Osborne’s populist Budget policy – if he is still Chancellor, of course. And we all know an annuity is for life, not just for Easter.
Paul Lewis is a freelance journalist and presenter of BBC Radio 4’s ‘Money Box’ programme. You can follow him on twitter @paullewismoney