The new freedoms to pension schemes have now been introduced after months of build-up and anticipation. The changes mean that retirees have broadly three options to pick from when withdrawing their savings. They can either take the money out in one lump sum, withdraw it in instalments or put it into an annuity.
The introduction of the rule which allows people to withdraw the entire pot has resulted in a number of experts highlighting the dangers of doing so. Steve Webb, who is the Minister of State for Pensions, has implored people to take their time when planning what to do. On April 6th he stated: ìWe want people to take informed choices. This isnít a mad scramble rush to do something this morning.î
The main issue to be concerned with considering the lump sum is tax. Consider the example of a man called Tom who is over the age of 55 years old and has qualified for both the full state pension and has saved £100,000. Tom is permitted to withdraw 25% of the pot tax free, thus taking £25,000 instantly.
However, the £75,000 left is taxable as well as his full state pension at £115.95 each week. His total income for that year would therefore come to £81,029.40, meaning Tom would be taxed at 40%. He would end up paying £21,815 in income tax, a significant portion of the pension pot.
This problem is exaggerated if oneís pension fund is considerably larger. In the example of someone who has saved £280,000, they would end up paying a huge £80,643 tax bill. The new rule and the resulting tax bills are predicted to increase tax revenue by £4 billion across five years.
The representative for older workers in business, Ros Altmann, said the new rules represent the ìstart of a 21st century pension system, not a 20th century system where the pensions industry and the Government knows best.î
She also implored people to ìdo nothingî in response to the new freedoms. She went on to say: ìLeave it thereÖthere are huge tax benefits from having the money in the pension. The idea is you can take your money out, not that you should take your money out. Thereís no rush.î
It seems that the majority of pensioners have heeded Ros Altmannís advice, with the news that there has been a generally cautious response to the new legislation.
The investment service, Hargreaves Lansdown, reported a relatively calm Bank Holiday Monday with only 200 or so calls pertaining to the new rules. Tom McPhail, who is head of pensions at the firm, stated that time was needed to fully grasp the behaviour of investors regarding the changes. However, some patterns had already appeared.
He commented: ìInvestors saving with a pension company which doesnít offer a full range of choices are going to find themselves at a disadvantage and may have to move their money to get what they want. Initial demand has been focused on an investment income rather than buying an annuity, though we do expect this balance to swing back to some extent in the weeks to come.î
He went on to say: ìRelatively few people are asking to take all their money out. Weíll be tracking the sums involved; however, in the main, we expect it to be at the smaller end of pension pot sizes.î
For those still trying to decide what they are going to do, the government have set up a guidance facility called Pension Wise. The facility offers various different ways in which those 55 years and above in possession of a defined contribution pension can get guidance.
The saver can get face-face guidance provided by Citizens Advice, information online provided by the Government and guidance over the telephone through the Pensions Advisory Service (TPAS). Guidance will be personalized and offered according to the value of the individualís pension scheme and their plans for retirement.