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Maximum security

I am a member of my employer’s pension scheme and will have completed 20 years’ service by retirement in August 2008. Do I need to make any arrangements to take into account the new legislation in 2006?

On the face of things, it would appear that you do not need to take any action. Your fund is unlikely to be affected by the new lifetime allowance of 1.5m, your contributions are below the proposed maximum of 215,000 and you will be able to increase your tax-free cash to 25 per cent of the fund without having to transfer the benefits to a personal pension.

However, let us consider things further. You are currently contributing the maximum allowed under a company pension, which is 15 per cent of salary. Despite this level of funding and the contributions from your employer, you are unlikely to reach the maximum allowable pension of two-thirds of final salary, with your fund likely to produce a pension of around 22 per cent of your current earnings (see Table 1).

While the new regime will assist in increasing your tax-free cash entitlement to 25 per cent of the pension fund, the level of funding available to you personally under the current personal pension regime may help you to increase your benefits in retirement. I am assuming that you are not able to influence your employer to increase significantly the level of contribution being made into the company plan.

To do this, you would need to opt out of your employer’s pension scheme, with its agreement to continue to pay its contribution to a new arrangement. You would then start a personal pension in its place. This would enable you to increase your contributions to the maximum allowed under a personal pension, depending on your age (see table 2).

If you opt out in the current tax year, you can maximise your contribution based on your proportionate earnings. In April 2005, you will again be able to increase your contributions to the maximum allowable for the whole of the tax year. From April 2006, the maximum level of contribution will be based on 100 per cent of salary up to earnings of 215,000, allowing you to take full advantage of the new regime.

How will this affect your retirement fund, assuming you maximise your contributions up to April 2006 and then keep contributions at this level? Table 3 enables you to compare the extra benefits you could accrue, assuming an investment return of 7 per cent a year compound. These figures are based on retirement at 60, although your age has not been stated, and a recommended payment of 35 per cent of earnings a year to a personal pension.

The above figures could be improved even further by taking advantage of the post-April 2006 regime and using the more generous annual allowance of 215,000 or 100 per cent of salary.

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