In the March 2014 Budget, George Osborne took the UK by surprise by announcing changes to how people can access their private pension benefits. These new rules come into effect on 6th April 2015. Thousands (possibly even millions) of people are expected to make use of these new pension freedoms when they come into effect.
We can help you when you come to take benefits from your pension. We can also help you if you have already taken pension benefits or if you are still saving for your eventual retirement.
The old rules
Pensions are broadly split into two types: defined benefits (often referred to as final salary pensions) and defined contribution (including Personal Pensions and Stakeholder Pensions). These new rules only directly affect defined contribution pensions.
Under rules in the 2014-15 tax year you could draw up to 25% of the fund value as a tax-free lump sum. The remaining fund must be used to provide an income. This income is added to other incomes and taxed accordingly.
The most common method of providing an income from the other 75% of the fund value was to buy an annuity. This involves giving the fund value to an annuity provider in exchange for an income for life.
Another method of providing an income from the other 75% of the fund value was to use drawdown. This involves leaving the fund value invested and selling part of the investments to provide an income each month. Importantly, for most people the government imposed a cap on how much you could draw from your pension. This varied depending on your age (and other factors) but it was broadly 5% – 10% each year. The full name for this was Capped Drawdown. This was a much riskier option than buying an annuity because the fund value could rise and fall and your income would not be fixed for life.
Alternatively, if your fund value was small enough (normally £10,000 or less), you could have drawn the full fund value as a lump sum instead of using it to provide an income. This was known as commutation. Up to 25% of your fund value would be paid out tax-free and the remaining 75% would be added to your other incomes and taxed accordingly.
The new rules
The new rules are broadly similar to the current rules. You can still buy an annuity, use a form of drawdown or use a form of commutation. However some of these terms have been re-named: an annuity is still called an annuity but you can now use Flexi-Access Drawdown (instead of Capped Drawdown) or an Uncrystallised Fund Pension Lump Sum (UFPLS) (instead of commutation).
The key differences are that restrictions which were in place have been lifted, hence the term “pension freedoms”. Specifically:
- With Flexi-Access drawdown the cap that was in place under Capped Drawdown (of approximately 5% to 10% of the fund value) has been removed. You can now draw up to 100% of the fund value. This will be treated as income and will be taxed accordingly.
- With UFPLS the size of your fund is no longer a restriction. Someone with a fund value of £500,000 could take a UFPLS whereas under commutation your fund value had to be less than £10,000 (or £30,000 in some cases).
Factors to consider
With the new rules, an annuity is still the safest way to take a retirement income from your personal pension. Flexi-Access Drawdown is considered riskier because it involves taking investment risk and your fund value and income could fall over time. A UFPLS is considered the riskiest option because all your pension benefits are extinguished in one go.
Of course, some people are willing to take risks with their retirement income and other people are not willing to do this. We can help you choose the most appropriate way of taking benefits from your pensions. We do this by assessing your circumstances and requirements, performing independent research and then making a personal recommendation. We offer a free initial consultation so you can see how we can help you without incurring any fees.
Find out more
If you are interested in the pension freedoms rules please call 01642 477758 or visit our Contact page to arrange a free initial consultation.