In yesterday’s Budget the Chancellor announced several changes to the tax rules for defined contribution (DC) pensions which will give greater flexibility to individuals saving in DC pension plans over how they use their retirement savings. From April 2015, the Government will change the tax rules to allow people to access their DC pension savings as they wish from the point of retirement. The Chancellor also announced immediate changes to give people more flexibility in the interim and plans to issue a pensioner bond to help pensioners get a better return on their savings.
Greater flexibility from April 2015
In a package of measures designed to give DC pension savers greater flexibility over how they use their retirement savings, the Chancellor announced that from April 2015 the Government will:
- change the tax rules to allow people to access their DC pension savings as they wish from the point of retirement. To facilitate this, individuals will continue to be able to take 25% of their retirement funds as tax free cash. They will also be able to take the excess as cash and where they do so this will be taxed at their marginal income tax rate rather than the current rate of 55%. In addition, there will be no cap on the amount that can be withdrawn by way of income withdrawal.
- introduce a new guarantee that everyone who retires with a DC pension will be offered free and impartial face-to-face guidance on their choices at the point of retirement. To deliver this, the government will introduce a new duty on pension providers and trust based pension schemes to offer this guidance guarantee. The Government will make available up to £20m over the next 2 years to develop this initiative.
The Government recognises that giving greater flexibility to DC pension savers could lead to more people seeking to transfer from defined benefit to defined contribution plans. For public service defined benefit plans, this could represent a significant cost to the taxpayer, as these plans are largely unfunded. Therefore, the Government plans to introduce legislation to remove the option to transfer for those in public sector plans, except in very limited circumstances. The Government is also examining the need to introduce similar restrictions for private sector defined benefit plans.
The Government also plans to engage with stakeholders to review the current tax rules that apply to certain pensions on death to ensure that they continue to be appropriate under the new system. In particular, the Government believes that a flat 55% charge will be too high in many cases in the future.
The Government has published a consultation paper, Freedom and choice in pensions,alongside the Budget which considers how best to implement the changes to DC pensions and examines what these changes mean for private sector defined benefit plans. The consultation paper also reveals that the Government is planning to raise the age at which an individual can take their private pension savings from 55 to 57 in 2028, at the point that the state pension age increases to 67.
In advance of these reforms being introduced in April 2015, the Budget introduces a number of immediate changes, to give people greater freedom and choice now over how to use their DC savings. From 27 March 2014, the Government will:
- reduce the amount of guaranteed pension income people need in retirement to access their savings flexibly, from £20,000 to £12,000;
- increase the capped drawdown limit from 120% to 150% to allow more flexibility to those who would otherwise buy an annuity;
- increase the size of a single pension pot that can be taken as a lump sum, from £2,000 to £10,000;
- increase the number of pension pots of below £10,000 that can be taken as a lump sum, from 2 to 3; and (v) increase the overall size of pension savings that can be taken as a lump sum, from £18,000 to £30,000.
In a further attempt to help pensioners, the Chancellor announced that a new pensioner bond, which will be available to those over 65, will be issued by National Savings & Investment in January 2015. The interest rates will be confirmed in the Autumn but they are expected to be in the region of 2.8% on a 1 year bond and 4% on a 3 year bond.
In addition, the state pension is to be excluded from the new welfare cap which is due to be introduced in April 2015.
Finally, the Government will also legislate to give HM Revenue & Customs wider powers to address pension liberation, with greater controls over the registration and de-registration of pension plans, with effect from 20 March 2014.
The changes announced today will give greater flexibility and choice to individuals saving in DC pensions over how they use their retirement savings. Those who continue to want the security of an annuity will be able to purchase one. Equally, those who want greater control over their finances will be able to choose when and how they draw down their pension savings.
These changes are likely to have a significant impact on the pensions annuity market and it is likely that new retirement products will emerge which take advantage of these new freedoms. Savers will need advice in this new world to ensure that they make appropriate decisions. The Government has announced plans to ensure that people receive this, but it is not clear how this will be delivered or by whom and, it goes without saying, that it is essential that the Government gets this right.