Earlier this week the Chancellor announced a consultation which proposes to reduce the money purchase annual allowance to £4,000 for those individuals that have accessed their pension flexibly.
The Treasury justifies it as follows: “An individual still in work can invest up to £10,000 of their earnings, tax-free, into a pension whilst also drawing out their existing DC pension savings. Although against the spirit of the tax system, acting in this way reduces an individual’s tax bill by 25% and, at the level of £10,000, this means £1,125 for an additional rate taxpayer.”
Setting aside for a moment the right and wrongs of the proposals, how might the planned changes impact on advice given to clients?
Clients anticipating a more traditional clean-break from work followed by straightforward income replacement from pension withdrawals may feel relaxed about forgoing future funding opportunities.
But retirement patterns are changing. It is not uncommon for someone to reduce their hours toward the end of their career, for example, and top-up their income via withdrawals from a pension. In this scenario they may suffer as a result of the Autumn Statement proposals.
The good news is there are lots of things clients can do to plan ahead. The important thing to be aware of is that it is only certain types of pension withdrawal, such as flexi-access drawdown payments, that will trigger the annual allowance reduction to £4,000. Uncrystallised funds lump sum payments will also trigger the MPAA cap, as will flexible lifetime annuities.
Taking tax free cash will not trigger the £4,000 money purchase annual allowance. Nor will anyone already in drawdown before April 6 2015 see their annual allowance reduced, provided they remain within capped drawdown limits.
Similarly, payments of up to £10,000 paid out under small pots rules will not trigger a reduction. It is possible to take up to three pots this way with a combined value of £30,000. Some schemes will allow existing pots to be split in order to allow withdrawals to made under triviality without touching the remaining assets.
So it is important to work through the decision with clients and to establish whether pension assets can be obtained through a withdrawal mechanism that avoids triggering the reduction unnecessarily.
Before making a withdrawal from a pension, however, it is also worth looking at withdrawing money from other assets instead, which may be more tax efficient.
For many clients leaving pension savings untouched will not only allow them to retain the maximum available annual allowance but will also represent a very efficient way of passing on wealth to family members. So where clients have income requirements and are keen to exploit their pension savings, look first at whether Isa savings can provide sufficient income and/or consider making use of their annual capital gains tax allowance, which currently stands at £11,100, before accessing retirement funds.
Jon Greer is pensions technical expert at Old Mutual Wealth