Budget 2015: The devil is hiding in the detail

Neil Copeland

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Annuity freedom announced in Budget, but the devil, as always, will be in the detail.

“People who’ve worked hard and saved hard all their lives should be trusted with their own pension.” George Osborne 18 March 2015.

As widely trailed the Chancellor announced yesterday that the Government will extend its pension freedoms to around 5 million people who have already bought an annuity. This will be achieved via legislation to remove the restrictions on buying and selling existing annuities to allow pensioners to sell the income they receive from their annuity without unwinding the original annuity contract.  The change will be effective from 6 April 2016.

They can either take it as a lump sum, or place it into drawdown to use the proceeds more gradually, extending the flexibilities due to come into effect on 6 April this year for those who have yet to draw benefits.

Currently people wanting to sell their annuity income to a willing buyer face a 55% tax charge, or up to 70% in some cases. The Government will remove this charge, so people are taxed only at their marginal rate. Cynics might point to the accelerated tax receipts that will result from this apparent generosity.

What about DB schemes?

The Government announcement does not appear to address the millions of people in receipt of pensions from Occupational DB Schemes, who are in an analogous position. It appears there are still limits to the Chancellor’s trust.

Contractual agreements still apply

According to the Government the proposed approach will fully recognise the contractual agreements between the annuity holder and the annuity provider, and does not unwind those contracts. Instead it allows the annuity holder to access the value of their property rights where they can find a willing third party buyer.

The proposal will not give the annuity holder the right to sell their annuity back to their original provider, and the Government says it is “not minded to allow the original annuity provider to purchase, and then discontinue, their own customers’ annuities”. So the annuity provider would continue to pay the annuity payments for the lifetime of the annuity holder, but would reassign those payments to the purchaser.

It’s hard to envisage how these sales can be executed without the annuitant undergoing a medical, so it might be helpful to try and avoid coming down with something nasty around April time next year as your GP might be even busier than usual!

Is there a market?

The Government expects that obtaining the right to annuity payments could be attractive to a broad range of institutional investors and will be consulting over who should be permitted to purchase the annuity income. The government does not consider annuity income purchased on the secondary market to be an appropriate investment for retail investors owing to the complexity and difficulty in determining a fair price. It’s not entirely clear how attractive such a market will be to buyers, although DB schemes may be eyeing this new asset class with interest.

The risk highlighted when the measure was first trailed, that annuity holders who got a poor deal when they bought their annuity will get another poor deal when they sell it, must be high.

Pensions Liberation has shown that the lure of immediate cash can lead to poor and often disastrous financial decisions.

The Government says that to ensure people are in a position to make an informed decision, it will be working with the Financial Conduct Authority (FCA) to introduce appropriate guidance and other consumer protection measures.

Seeing the guidance that will be available around the new flexibilities does not fill me with confidence that this will serve annuitants well. It has to be hoped that the Government will consider requiring compulsory financial advice for people selling their annuity income, in the way that it has mandated advice for pension transfers in excess of £30k, and this point is alluded to in the accompanying consultation. It’s also possible that the final rules might prohibit such sales where this might lead the individual to fall back into benefits means testing.

It gives him a good sound bite, but the reality of this reform may be a disappointment to many of the 5 million annuitants cited by the Chancellor. Would it be overly cynical to note that the disappointment is likely only to become apparent after, rather than before, the election?

Pension Lifetime Allowance reduced – and indexed; more good news for savers

As expected, the Lifetime Allowance (LA) is to be reduced from the current £1.25M to £1.0M from April 2016, with savings estimated at £600M a year. The Annual Allowance – currently £40,000 – has survived unchanged on the basis that to make further reductions would bear heavily on middle income earners.

The Chancellor conceded that the immediate impact of the LA reduction might affect around 4% of pension scheme members approaching retirement. However, a significant impact is on younger workers looking to build up a reasonable retirement income and so the announcement was sweetened a little with a promise to index the new LA in line with inflation from 2018. Over the next few days we await news regarding a potential additional form of ‘protection’ to help those whose total pensions wealth is already at the £1M level. Financial advisers and tax planners will be the only stakeholders smiling this afternoon.

With the pensions industry trying manfully to get ready for Pension Freedom Day in a couple of weeks, the absence of any further substantial announcements was greeted with a resounding cheer.

Pensions aside, the general picture for savers was improved with the introduction of a £1,000 tax free allowance for interest earned from April 2016, new flexibilities for ISAs and a new Help to Buy ISA to help first time buyers. And, of course, any general enhancements regarding the savings regime should have a positive knock-on effect to pensions saving itself.

Neil Copeland

Post by Neil Copeland

Director, pensions consultant and adviser to trustees and employers on all aspects of work based pension schemes.