Pensions

Personal pensions are one way of saving for retirement. The government incentivises you to save by giving you tax relief.

Personal pensions may be suitable if you're employed and not in a company pension scheme, or as an addition to a company pension. You also may also wish to set up a personal pension if you are self-employed. If you have no income tax relief is only payable on contributions up to £2,880 per annum.

You pay a regular amount (usually monthly or annually), or a lump sum to the pension provider. Once inside the pension wrapper your contributions can then be placed into a variety of investments.

Funds are usually run by financial organisations e.g. insurance companies, platforms and unit trusts companies.

The final value of your pension fund will depend on how much you have contributed and how well the fund's investments have performed. The companies that run these pensions charge you for setting up and running your pension. Charges are normally deducted from your fund in the form of fund management charges.

Contribution Levels and Tax Relief

The Annual Allowance for pension contributions has been £40,000 since April 2016. This figure includes both employee and employer contributions.

This means that high-earning individuals will be able to receive up to 45% tax relief on their contributions.

You can carry forward unused contributions from the previous three years, potentially allowing contributions of up to £160,000 in a single year. HMRC has confirmed that you do not need to have made a contribution to a registered pension scheme in a year to be able to carry forward unused annual allowances - an individual must have been a member of a registered pensions scheme during the earlier tax year. The definition of a 'member' includes an active member, a pensioner member, a deferred member; or a pension credit member.

If you wish to carry forward unused annual allowance from previous tax years, you will need to have used up the annual allowance for the current year.

For each pound you contribute to your scheme, the pension provider claims tax back from the government at the basic rate of 20%. In practice, this means that for every £80 you pay into your pension, you end up with £100 in your pension pot.

Higher-rate taxpayers

If you're subject to the higher tax rate of 40 % (up to 45% with additional rate tax), you'll still get 40 % tax relief for any money you put into your pension. But the way that the money is given back to you is different:

The first 20 % is claimed back from HMRC by your pension scheme in the same way as for a lower rate taxpayer.

It's up to you to claim back the other 20 % if you're a higher rate tax payer or 25 % if you're an additional rate tax paper when you fill in your annual tax return, or by contacting your Tax Office.

Your pension scheme will invest the money you save (including the tax relief amount) in your pension. Your pension fund growth should be free of tax.

Any rise in the value of the scheme's assets between what you put in, and what they're worth at the end, is called 'capital gains'. This is tax-free.

Drawing your Personal Pension

You can take a pension commencement lump sum of up to 25% of the value of your pension savings, which is currently tax free, when you retire (up to a maximum of 25% of the lifetime allowance). lifetime allowance was £1 million in 2017/18 tax year and is expected to increase by inflation (CPI) each year.

You then have two main options:

• ▲ Use the rest of the fund you have built up to buy an annuity (a regular income payable for life) from a life insurance company. This does not have to be the same company that you have your pension plan with.


• ▲ Take an income (taxed at your normal Income Tax rate) from the remainder of your fund while it remains invested.

It should also be remembered that under the new pension flexibility rules, lump sums may be available to be taken from the pension plan from age 55 onwards. These lump sums will be available subject to the scheme rules allowing, and there will be taxation issues to consider if income is taken.

Putting money into someone else's personal pension

You can put money into someone else's personal pension (e.g. your spouse/partner, child etc.). They will get tax relief added at the basic rate, but this won't affect your own tax bill. If they have no income, you can pay in up to £2,880 a year (which becomes £3,600 with tax relief).

For example, if you put £80 into a spouse or civil partner's pension scheme, the government would put in £20, so their pension pot would increase to £100. Your tax would remain the same.

The fundamental idea behind a personal pension plan is simple. You put money into a savings fund and it hopefully grows in value. At retirement, you convert the fund into a regular income payment, which is designed to replace some (or all) of your employment income.

These notes apply to an individual who is looking to establish a personal pension.

1. PAYMENTS IN

You can typically save into a pension plan in one of two ways:

• ▲ Regular instalments - The pension payment can be taken automatically each month by Direct Debit. Once you start making regular contributions in this way, and become accustomed to the regular payments going out of your account, you may find it easier to plan your monthly budget.


• ▲ One-off investments - Some people prefer the flexibility of making one-off investments at a time of their choosing, rather than commit to regular monthly contributions. Providers usually place minimum contribution amounts on single premium payments. This method can be useful for self-employed people or those paying higher rate tax, as the amount of contribution will attract tax relief at the individual's highest rate. It is your responsibility to make sure that an investment is made.


• ▲ A combination of the above - This provides both the discipline of regular investments and enables one-off investments to also be made so that the best use of the available tax relief can be made.

2. TAX CONSIDERATIONS

Tax relief

Tax relief is granted on pension contributions. Currently, the basic rate of tax is 20% and higher rate is 40%. The additional rate can take this to 45%.

For employees contributing to a personal pension or stakeholder plan, the contribution is made net of basic rate tax. If you invest £80 into a personal pension, the provider will add the remaining £20 and invest £100 on your behalf (claiming the tax relief back themselves from HMRC).

If the investor pays tax at higher rates, it is possible to claim back the marginal rate via a tax return. In the example above, £100 is declared on the self-assessment tax return. The tax office will then credit you with £40 of tax, less the £20 already received and invested.

Self-employed investors face a complex system for claiming back pension tax relief, based partly on what they've already paid, and partly on an assumption about future payments. Care should be taken to understand the effect on self-employed tax assessments when a large single contribution is made or regular premiums are stopped.

The tax treatment is dependent on individual circumstances and may be subject to change in future.

Restrictions on payments

The amount you save each year toward a pension, from which you benefit from tax relief, is subject to an 'annual allowance'. The annual allowance for the tax year 2017/18 is £40,000. You may be able to carry forward unused contributions from the previous three years.

You can invest up to £2,880 net per year (£3,600 gross) in a personal pension (and still receive the 20% tax credit) even if you have no earnings. As the person making the contributions does not have to be the same as the person benefiting from the pension, this facility can be helpful in providing a pension for a non-working spouse - or for children and grandchildren as part of inheritance tax planning.

3. INVESTMENTS

You will have to decide on the type of fund in which you invest your money. Most pension providers have a wide range of funds available - some have literally thousands. Essentially, funds break down into two categories:

• ▲ Unit Linked funds - These are pooled funds, linked to the performance of underlying investments - usually equities (i.e. stocks and shares). The money is used by the fund manager to purchase more of the fund's underlying assets. The price goes up and down in line with the investments held. If the market falls, so does the unit price. This can be good news for people investing with a long time to go (a new cash investment will buy more units), but bad news for people about to use their fund to provide retirement benefits.


• ▲ With Profit funds - These also invest in stocks and shares and other assets, but the fund manager tries to smooth out the peaks and troughs of unit linked funds by holding back some of the growth as a reserve. This can provide a smooth increase in value in your investments. However, a Market Value Adjustment might apply on encashment. The value of this policy depends on how much profit the company / fund makes and how they decide to distribute that profit.

4. PROJECTIONS

Growth assumptions

When projecting pension fund values, certain growth assumptions are made by pension providers. These are currently 0.5%, 2.4% and 5.5%.

A better way to predict growth is to try to link inflation in and establish 'real growth'. In other words, if a fund achieves 5.5% per annum growth but inflation has been 2.5% per annum, the real growth is 3.0%. This more realistic real growth assumption is now the norm.

Pension options

From 6 April 2015 new "Pensions Freedom" legislation came into effect, and consequently, at retirement, there are now many new options as to how you take your pension.

5. HOW MUCH SHOULD I INVEST?

You should invest as much as you can comfortably afford, and as soon as you can. You should not overstretch yourself and you should be sure that if you commit to a monthly investment, it will continue for a long time.

The actual amount you should invest will be different for each individual. Once you have arrived at a figure, it is useful to try to link it to salary. If you have decided that you can afford £200 per month and you earn £40,000, a quick calculation will show this amounts to around 6% of salary. Try to maintain that link in future years.

You may choose to calculate the level of savings necessary to achieve a certain level of income (in today's terms) at your chosen retirement date. This target funding is then reviewed on a regular basis to account for revised objectives, investment performance and changing market conditions.

6. WHAT ABOUT STATE BENEFITS?

The new State Pension is a regular payment from the government that you can claim if you reach State Pension age on or after 6 April 2016.

You can get the new State Pension if you're eligible and:

• ▲ a man born on or after 6 April 1951
• ▲ a woman born on or after 6 April 1953

If you reached State Pension age before 6 April 2016, you'll get the State Pension under the old rules instead. You can still get a State Pension if you have other income like a personal pension or a workplace pension.

The full new State Pension is £164.35 per week, how much you get will depend on your National Insurance record. You'll usually need 10 qualifying years to get any new State Pension. Furthermore, you may need around 35 years to qualify for the full State Pension.

The amount you get can be higher or lower depending on your National Insurance record. It will only be higher if you have over a certain amount of Additional State Pension.

7. WHAT ABOUT OTHER FORMS OF SAVINGS?

Obviously if you are serious about retirement planning, you should not necessarily concentrate all your savings into the one area of personal pensions. However, personal pensions will certainly form part of your overall strategy.

8. SUMMARY

If you are considering starting saving to save for your retirement, ask yourself:

• ▲ Is the level of savings you are proposing realistic from a retirement and state pension perspective?
• ▲ Do you want the discipline of a monthly investment or could you make lump sum payments from time to time (or both)?
• ▲ How much would you need to live on, if you retired today? It's then possible to begin calculating the cost of achieving that objective.

We all know it's important to plan for retirement, but many of us are still not planning well or early enough.

Despite all the media headlines and Government initiatives, many of us still have a 'tomorrow will do' attitude. This is worrying for one simple reason - we are going to live longer than most of us think.

Those approaching retirement today have many more opportunities and challenges to face than their parents ever did. There are also many more ways to fund retirement, adding to the confusion about how to best prepare for all your needs.

Live long

In 1900, life expectancy at birth in the UK was only 46 years for men and 53 years for women. Just over a century later life expectancy at birth has increased by around 30 years. By 2014 it had reached 78.7 years for men and 82.6 years for women.

The population aged 85 years and over, often termed the 'oldest old', are now the fastest growing section of our population. For the 1921 cohort, only 18% of men and a third of women reached the age of 85 years. But for the 1951 birth cohort, it is expected that almost half of men and 60% of women will achieve that age*.

Knowing our chances of living to our late 80s and beyond leaves us with one fundamental question - will we have enough money to enjoy the lifestyle we desire for what could be 30 years or more after we stop work?

...and prosper?

Some of us are planning our pensions. But few of us plan for 'late retirement. This is a period from our mid-70s and onwards, when our expenses can rise faster than our pension income can keep up with.

This can happen for various reasons. It could be because we need more help around the home or even that we require nursing care. Then there are unexpected expenses like replacing the roof, health care, or financial help for our families.

But these days, it's just as likely to be because the older generation is leading a more active life through travel, work or leisure.

And don't forget our old enemy - inflation. It continually eats away at the value of our money over time.

Forward planning

This problem has been at the root of much of the recent innovation in the retirement market. Getting sound financial advice throughout the different stages of retirement will help identify which products can help you achieve the income you need.

Although it may seem a long way off, making robust financial plans now for late retirement will give you the peace of mind to enjoy your early retirement years - safe in the knowledge that you will be able to live the lifestyle you desire further down the line.

*Source data: Continuous Mortality Investigation Bureau November 2011.

Please note that most advice on auto-enrolment, occupational pensions and workplace pensions is not regulated by the Financial Conduct Authority but by The Pensions Regulator.

What is Automatic Enrolment?

Starting from October 2012, up to 11 million workers will be automatically enrolled into a workplace pension. By the end of 2018 all workers should be enrolled.

A workplace pension is a way of saving for retirement arranged by an individual's employer. It is sometimes called a 'company pension', an 'occupational pension' or a 'works pension'.

Automatic enrolment into a workplace pension is an easy, hassle-free way for workers to save for their retirement while they are earning.

Saving into a workplace pension can also help individuals to build up pension savings more quickly as they are not saving on their own. Their employer and the government (in the form of tax relief) also pay into the workplace pension and once the new employer duty is fully rolled out, an individual's contributions are effectively doubled by the employer contribution and tax relief.

Why is this happening?

Millions of people are not saving enough to have the income they are likely to want in retirement. Life expectancy in the UK is increasing and at the same time people are saving less into pensions.

In 1901 there were 10 people working for every pensioner in the UK. In 2010 there were 3 people working for every pensioner. By 2050 it is expected that this will change to just 2 workers.

Who will be enrolled into a workplace pension?

Employers will automatically enrol workers into a workplace pension who:

• ▲ are not already in a qualifying pension scheme
• ▲ are aged 22 or over
• ▲ are under State Pension age
• ▲ earn more than £10,000 a year (this figure is reviewed every year), and work or usually work in the UK

Opting out of a workplace pension

If a worker opts out within one month from the day they officially become a member of the scheme, it will be as if they were never a member of the pension scheme and any payments made by them to their pension will be refunded. If they choose to opt out after this period, depending on the scheme, the payments already made may not be refunded and will remain in their pension scheme until they retire.

Deciding to rejoin a workplace pension

If a worker opts out or stops saving into their employer's pension scheme but later decides they want to join again, they can do so. The employer has to accept them back in, once in every twelve month period. If the worker still meets certain requirements then their employer will contribute too. If the worker stops paying a second time and then requests to join again within twelve months, the employer does not have to accept them the second time. But they can do so if they want.

Being automatically enrolled back into a workplace pension.

If a worker opts out or stops paying into the workplace pension their employer has a duty to automatically enrol them back into their pension scheme at regular intervals, usually every three years. This is to give those workers who have stopped saving into a workplace pension the opportunity to reconsider their finances and pension saving options. They can choose to stay in this time or opt out again.

For further information please visit The DWP - Workplace Pensions website.

With pensions being most people's second-largest asset, they can become a major consideration in any divorce settlement.

1. PREVIOUS LEGISLATION

The consideration of pension benefits within divorce settlements was an issue in the 1969 study by the Law Commission, the key legislation has been:

• ▲ Matrimonial Causes Act 1973 - Ss 23-25 deal with the provision of a 'clean break' wherever possible.
• ▲ Pensions Act 1995 (PA) - The PA requires courts to take pension rights into account when assessing assets on divorce. It introduced the concepts of earmarking pension benefits as well as the basis for cash equivalent transfer values (CETVs) for assessing the value of a pension on divorce.
• ▲ Welfare Reform and Pensions Act 1999 - The Act brought in the option of Pension Sharing On Divorce from December 2000. The thrust of the legislation is to attempt a 'clean break' settlement for pension funds on divorce. The legislation states that pension benefits will still be taken into account in divorce settlements. Offsetting and earmarking will still be options to consider, however a new (and probably much more appropriate) option was introduced which allows the pension benefits to be shared or split between the parties at the time of the divorce.

2. OFFSETTING

This simply means that the pension funds are valued, and the spouse with greater benefits provides the other spouse with additional funds elsewhere in the settlement, to compensate them for the loss in pension rights.

In an ideal world, this system would be by far the simplest and arguably the best solution. Unfortunately, however, many people do not have sufficient assets to enable offsetting.

3. EARMARKING

Earmarking applies to all private pensions (including those in payment), but not state benefits.

It involves the court issuing an attachment order to the pension scheme. This attachment requires the scheme's trustees to pay a proportion of the member's benefits directly to the ex-spouse, when the benefits are taken.

The court can also earmark a proportion of the member's 'death in service' lump sum, and widow(er)'s pension benefits, for the protection of their ex-spouse.

Earmarking has many problems, not least that the pension remains under the control of the member. If he or she decides not to retire, invest riskily, or take any other action prejudicial to the ex-spouse there is nothing that they can do about it. In addition:

• ▲ If the petitioner remarries, the earmarking lapses.
• ▲ Earmarked benefits are all taxed at the highest rate of the pensioner, irrespective of the tax rate for the ex-spouse.

If there is the likelihood that the petitioner will remarry prior to the respondent's retirement age, then - except for some safeguard on the life cover side - this procedure is probably a costly waste of time.

4. PENSION SHARING

Pension sharing applies to all pensions, apart from the state basic old age pension.

All pension benefits are valued (see CETV below). The share can be granted by way of a transfer to the petitioner's own scheme, or the petitioner may become a 'paid up' member of the respondent's company pension scheme.

This latter option is rarely used, as the retaining scheme will not wish to have the increased costs, disclosure requirements and administrative inconvenience associated with additional members (non-employees).

The rules allow schemes to insist on 'buying out' the spouse's benefits, if the scheme considers it appropriate. Most schemes insist on this route. The exception is usually the government and Local Authority schemes, which are 'pay as you go' and therefore reluctant to pay large transfer values.

Pensions that are already in payment (e.g. through an annuity) can be 'unbought', split and 'rebought' using the annuity rates for the member and petitioner at date of divorce. Indeed, if the petitioner is much younger, they can use the lump sum as a pension contribution (or many other alternatives).

The biggest problem with pension sharing is the cost. Schemes are entitled to charge for the calculations and administration involved in splitting the benefits. The recipient must also consider the cost of any required financial advice, which may make the entire process uneconomical.

At present, little consideration has been given to "co-habitant" relationships, although it is the subject of significant lobbying.

5. CASH EQUIVALENT TRANSFER VALUE (CETV)

A CETV represents the expected cost of providing the member's benefits within the scheme. In the case of money purchase benefits, this is generally straightforward - it is the accumulated contributions made by and on behalf of the member together with investment returns. In the case of defined benefits, the CETV is a value determined on actuarial principles, which requires assumptions to be made about the future course of events affecting the scheme and the member's benefits.

6. SUMMARY

We expect pension sharing to be used in the vast majority of divorce cases, where offsetting is not an option. Cost will, however, be a key issue. Any transfers will have to be sufficient to warrant the large costs involved in calculating and organising the new arrangements.