Ten months after stakeholder opened for business, there is still a
lot of confusion around. The source of this confusion appears to be a
perception that fundamental differences exist between stakeholder
pensions and personal pensions.
The truth is that both stakeholder and personal pensions (including
the self-invested variety) are subject to the same Inland Revenue
rules. They are effectively the same thing.
So what is causing the confusion? We need to consider product
offerings, employer requirements and the post-April 2001 rules.
Many life offices now offer both personal pensions and stakeholder.
Stakeholder must keep total annual management charges to within
1 per cent of the fund but, other than this restriction, there are
not a lot of product differences.
Most stakeholder pensions being offered are, in fact, based on
personal pension rules. With many providers now marketing personal
pensions on low charges, it would be difficult to spot the difference
between the two products.
Perhaps one area where
a personal pension still has
an advantage is its ability to allow the customer to pay for advice
through the product rather than being forced down the fee route. This
is an imp-ortant distinction as the
bulk of advice is still paid for in this way.
The Government has specified that all employers must designate a
stakeholder scheme if they have five or more employees.
The scheme must then
be offered to all “relevant” employees (these are employees
satisfying certain conditions for example. having been continuously
employed for three months).
However, it is possible
to avoid designating a stakeholder scheme by offering
a group personal pension
All employees must be offered membership within three months of
joining. In addition, the employer should offer to pay a contribution
of at least 3 per cent of
From October 8, 2001, this contribution could be made conditional
upon the employee matching the employer contribution (up to a limit of
3 per cent of basic pay).
Like stakeholder, there should be no exit penalties from the GPP and
payroll deduction should be available.
An exemption, which is subject to different conditions, is also
available for occupational pension schemes.
Well, that is about all there is to say about the difference between
stakeholder and personal pensions. But something else changed on
April 6 last year.
Actually quite a lot changed that applies to both personal pensions
Without having to prove your income, a contribution of up
to £3,600 each year (gross) can be paid by any eligible person.
Eligible people include all individuals under the age of 75 (this
includes children), employees not in pensionable employment, the
self-employed and partners, and those not in employment.
Where a higher contribution is allowed under the old-style
age-related maximum contribution limits (between 17.5 per cent and 40
per cent of earnings), then a contribution of more than £3,600 can be
paid subject to evidence of earnings.
Carry-forward scrapped, basis year introduced
It is no longer possible to carry forward unused tax relief from
previous tax years although there is a window of opportunity if a
valid election is made before January 31 to carry back a contribution
paid in the current tax year to 2000/01.
In place of carry-forward will be the basis-year method. This allows
to be paid for five years on the strength of one year's earnings.
For example, individuals who are going overseas to work can continue paying
contributions based on their UK earnings, even if these were last
earned three or four years previously.
The basis-year method
is also a useful facility for
self-employed people whose earnings fluctuate from year to year.
The new rules allow them to lock in their contributions at a high
level, for example, if they have a good year where profits are high.
If earnings are higher in any of the following years, it is possible
to reset the basis year.
This allows employees (but not controlling directors) in pensionable
employment, with earnings of £30,000 or less, to contribute up to
£3,600 (gross) each year into a personal pension or stakeholder, in
addition to contributions of up 15 per cent of earnings into their
occupational pension scheme.
Benefits from stakeholder are also paid in addition to the maximum
allowed by the Inland Revenue under occupational pension schemes.
This is a very useful facility, allowing employees who have left
their pension planning late to catch up or aim
for early retirement. It could also help younger people with free
funds to build up a decent pension pot before other financial
commitments reduce their spendable income.
New transfer regulations
For transfers to personal pension or stakeholder from occupational
pension schemes (including executive pensions and SSASs), there are
two main changes to be aware of.
First, an overfunding check, known as an appendix XI check
(previously GN11) now only needs to be carried out for high earners
aged 45 or over and controlling directors.
Previously, all high earners, regardless of age, had to pass this
test before they could transfer to a personal pension.
This means that fewer people will be tested. Anyone failing this test
will not be allowed to transfer to a personal pension.
Second, the new appendix XI check uses a prescribed basis for
calculating the maximum transfer value, whereas the old GN11 check
allowed the actuary who carried out the calculation some discretion
over the factors used.
Generally speaking, this will result in lower maximum transfer
values, meaning that more of the people who are tested will fail.
Change in the way that tax relief is given
Before April 6, employees paid contributions net of basic-rate tax
and self-employed people paid gross.
Now, both these groups pay contributions net of basic-rate tax.
There has also been another subtle change in the way the calculation
is carried out. Pension contributions were deducted from total income
before tax was calculated.
The new method adds the amount of the contribution to the basic-rate
income tax band, for example, employees are normally taxed at higher
rate on taxable income above £29,400.
By paying a contribution of £5,000, the basic-rate band would be
increased to £34,400. This change in the method of calculation does
not affect the amount of tax paid.
Life cover and waiver of contribution benefit
The premiums payable for new waiver of contribution benefit taken out
after April 2001 are no longer tax-relievable. The result of this is
that separate insurance needs to be taken out to ensure that pension
contributions can continue in the event of accident or long-term
One advantage of the new arrangement is that the benefits payable are
now regarded as the income of the individual and gain tax relief when
paid into their personal pension or stakeholder. Under the old
arrangements, there was no tax relief given on the benefit.
Life cover on new personal pensions and stakeholder pensions has been
virtually killed-off by the post-April 5 rules. These limit the tax
relievable premium to 10 per cent of total pension contributions as
against the old limit of 5 per cent of net relevant earnings.
For most people, the new rules drastically reduce the amount of life
cover they can have within their personal pension or stakeholder
pension. The only alternative is non-pension life insurance. This may
not be such a bad outcome, as the market for life cover has become
increasingly competitive in the last few years, with premium rates
Remember that all these changes apply both to personal pensions and
When the Government issued its Green Paper Part-nership in Pensions
three years ago, it referred to stakeholder as “Our new secure,
flexible and value-for-money stakeholder schemes…”
Isn't it funny that it turns out to be a good old personal pension?