Good reads from around the Web.
The lifetime allowance for pensions1 will drop to £1.25m in April, but there’s still time to do something about it.
If your pension fund is already bigger than £1.25m or you expect it to end up that way – or if you’re on track for a company pension that is the equivalent of a too-large fund2 – then you have until 5 April to claim what’s called “fixed protection 2014” from HMRC.
This gives you a higher lifetime allowance of £1.5m. To claim it, you’ll also need to stop contributing to your pension, or to tell your employer that you no longer want to accrue benefits.
Money in your pension fund that’s in excess of the limit will be taxed at 55% if taken as a lump sum, or 25% as income – and this is additional to the normal taxes you’d pay on pensions.
In the main it’s high earners on final salary pension schemes who are being told to check whether they’ll breach the limit (although these rare creatures could sell one or two of their unicorns to cover their expenses in old age, anyway).
But compound interest means high-rolling savers with their own pension funds could be hit, too.
A fund worth £250,000 today growing at 8% a year would breach the limit in 21 years, for instance, even without any more contributions.
A £500,000 pension fund growing at 5% would surpass the threshold in 18 years.
Poo-pooing pensions
I appreciate this is likely to be a problem for only a few of you, even considering our unusually money smart readership.
Although I must admit that – optimist that I am – I did quickly check whether I would ever breach the limit! (Very unlikely, as I’ve got far more money in ISAs than pensions for various historical reasons).
More generally, the whole shebang looks like just another complication that will put people off pensions.
The lifetime limit was only introduced in 2006, and it has been all over the shop since then. Who knows where it will be in 10 years’ time?
What’s more, this ability to freeze the lifetime allowance seems designed to reward those who understand compound interest – and who bother to follow the minutia of the changing regulations – at the expense of others randomly left out in the cold.
There’s a reason we don’t write much about pension rules on Monevator. You really need to do a mass of research into your own situation to understand where you stand – even more so than usual – and the ground is shakier than the deck of a cross-channel ferry after a few too many glasses of cheap plonk.
The other reason I don’t cover pensions much is I’m still likely a couple of decades away from drawing mine. I can’t be bothered to learn about them in-depth, only for the regulations to be utterly different when I come to claim my locked-away loot.
Instead, I am simply putting away roughly half of what I put into ISAs every year into my SIPP, depending mainly on my taxes due for the year.3
This is a clumsy way to decide where to save, but successive governments have made it this way.
No wonder people just load up on a lovely tax-free home to live in.
Incidentally, my lack of deep knowledge on pensions means you should definitely read up for yourself on the lifetime allowance if you think you’ll be hit.
There are sure to be plenty of caveats and quirks that I know nothing about.
From the blogs
Making good use of the things that we find…
Passive investing
- Earn more? Invest obliviously! – Oblivious Investor
- Is there an optimal portfolio? – Canadian Couch Potato
- Enhancing the 60/40 portfolio – A Wealth of Common Sense
- It’s time for super-duper brilliant beta! – Rick Ferri
Active investing
- Facebook and WhatsApp: Trading Vs. investing – Musings on Markets
- Why one income investor avoids index funds – Simple Living in Suffolk
- NASDAQ and the R&D tech revolution – Investing Caffeine
- Bargain hunting for high yield shares – DIY Income Investor
- Actively invest for the challenge, not the returns – The Reformed Broker
- Seven under-followed fund managers on Twitter – The Infront blog
Other articles
- Lottery tickets and investing – Zone of Competence
- Exploring retirement savings rates – theFIREstarter
- What if investing was totally free? – Abnormal Returns
- Education influences marriage, which influences wealth – Econlog
Product of the week: Nationwide has a new 0% balance transfer card with a handling fee of 0.75%, but you have to be a FlexAccount customer to get it. The Telegraph wonders if it will spark a price war.
Mainstream media money
Some links are Google search results – in PC/desktop view these enable you to click through to read the piece without being a paid subscriber of that site.4
Passive investing
- Five lessons from the stock market recovery – MoneyWatch
- Why oblivious investors may know more than they think – Vanguard
- Investors are their own worse enemies – Terry Smith / Telegraph
Active investing
- There are two sides to every trade – Vanguard blog
- Why did Facebook buy WhatsApp for $19 billion? – Dealbook
- Investors have given up on emerging markets [Search result] – FT
- How to buy the Internet – Institutional Investor
Other stuff worth reading
- How to end up with £1 million in your ISA – City AM
- Bitcoin: Bonkers or brilliant? [Search result] – FT
- Meet the Cling-ons [The stressed middle classes: Remixed] – The Guardian
- Peston on the potential for a new financial crisis in China – BBC
- The truth – and maths – behind premium bonds – Telegraph
Book of the week: All the hedge fund guys are reading a book I’ve recommended here before, The Outsiders
Like these links? Subscribe to get them every week!
- It’s a bit of a misnomer, as it sounds like a contribution allowance but it’s really a size allowance. [↩]
- There are rules for working this out, so head to HMRC to read up. [↩]
- I try to reduce my 40% tax liability, but for basic rate payers pensions are pretty much a wash with ISAs. Yes there’s a tax-free lump sum, but there’s also a tonne of restrictions. [↩]
- Reader Ken notes that: “FT articles can only be accessed through the search results if you’re using PC/desktop view (from mobile/tablet view they bring up the firewall/subscription page). To circumvent, switch your mobile browser to use the desktop view. On Chrome for Android: press the menu button followed by “Request Desktop Site”.” [↩]
Comments on this entry are closed.
I have a chunk of money in a SIPP but I don’t contribute anymore. I have no idea what government rules will be in 10-15 years. Just feels like a bag of money sitting there that a cash strapped government can ransack anytime. Anyone near age 55 should take the 25% tax free whilst that is still available. I max out on ISAs now. Would not recommend a young person contributing to a SIPP, unless the employer is making a significant contribution.
HMG *must* stop these repeated attacks on private pensions as they are casting a huge pall of fear and doubt over the whole system that will discourage people from saving for their old age.
Thanks for including my article here TI!
The retirement fund allowance cuts seem rather short sighted to me. Surely they are going to have to increase them again in future anyway due to inflation and the younger generations coming through who won’t retire for another 40+ years? 1.25 Million won’t be worth as much in 40 years as we all know? I am sure they’ve thought of this but the way it sounds above is that 1.25Mil is the final and unchanging limit for everyone, regardless of age?
A friend astonished me a few months ago by revealing that he was close to hitting the £1.5M limit. How? He’s in a final salary pension scheme and two things happened near the end of his career. (i) He got a welcome (and non-bogus) promotion. Then he was asked to “act up” in a more senior post for a year until its holder could return to duty. He did so and got the consequent temporary salary rise. That fell within the period used for calculating his pensionable “final salary”. Bingo!
theFIREstarter, you are right the effect of inflation is a real potential problem here. As far as I can see indexation has disappeared.
From memory the limits were originally indexed and they started at £1.5m in 2006, they’d reached £1.8m by 2010.
All the fiddling can only discourage people from saving, even if it isn’t going to affect personally.
Last month the Lib Dems released a paper committing the party to further reducing the lifetime allowance to £1m. No way of knowing what the likelihood of them getting to actually do this is, but it is another sign (as if one were needed) that, far from any change of direction, the govt is likely to continue and worsen attacks on pensions.
I try to save for my retirement, but I find it incredibly easy to understand why other folk would not. It is a constant uphill battle against increasingly hostile govt legislation. Politicians love to grandstand over how the govt should support and encourage saving for retirement, but their actions completely belie their rhetoric.
I am closing in on 55, with a decent SIPP that could breach the current LTA in a few years through growth alone. This might turn my ‘Can I afford to retire at 55?’ question into ‘Can I afford NOT to retire at 55?’. Dropping out of the workforce and drawing down my pension earlier may be more cost effective for me than working longer and then paying silly tax rates on my pension savings. It is hard to believe this is what the govt intended, but for me it looks like a possible rational response to an irrational system.
I know a few successful and hard working people who’ve realised that the cap is just on what you can have in a UK pension. They have therefore upped sticks and are now working elsewhere in the EU doing pretty much the same job.
Of course, they are now paying tax elsewhere rather than in the UK.
Sorry, what was all this endless pension meddling supposed to achieve?
The key point surely is that once the annual limit has been in effect for a few years, the limit on the accumulated amount makes no sense. There’s obviously a public interest argument for limits, it’s just that the annual one is manifestly the better one, because then you always know where you stand.
For another (worrying) perspective:
Suppose that the lifetime limit remains fixed and that inflation continues at 2% per year. After 20 years that’s 50% inflation, so the £1.25M limit then will be worth £841k in today’s money. If annuity rates are the same (who knows?) then that will buy an RPI-protected pension of £29,400 in today’s money. If you’re at the 40% income tax theshold and you wanted to build up a pension of 2/3 salary, think again. It no longer sounds like a tax on the very rich.
I’m coming to believe that continuing pension raids are a dead cert (even if we’re “not Argentina”) and the next thing to worry about is ISAs, as it wouldn’t be too hard to implement some kind of maximum limit on those too.
I know TI doesn’t like too much politics in these comments, but you have to wonder if the tide is turning and we’re going to have to suffer a period of 1970s-style socialism after the general election next year – 98% tax on unearned income, anyone?
“98% tax on unearned income, anyone?” Just 98%? Phooey! In the 60s Woy Jenkins introduced a retrospective tax on income from gilts so that some people paid more than 100% marginal tax.
Quite honestly I see no reason why the personal pension limit of £1.25m isn’t still very high (thats up to £2.5m for a couple…)
If inflation reduces it further, good
To be honest reducing the LTA one of the few sensible policies this government has actually enacted
£360bn was spent in the last decade on personal pension income tax relief and has it got us a system where most people have a sufficient sized pension fund to provide for their own retirement?
Err no
I also see no reason why people should be allowed to accumulate £1m in ISAs tax free
If you want to have lower tax rates…. you have to eliminate exemptions and widen the tax base…. it isn’t going to happen through the magic money tree…
Link for anyone who is interested:
http://www.cps.org.uk/publications/reports/costly-and-ineffective-why-pension-tax-reliefs-should-be-reformed/
The Centre for Policy Studies is basically the armed (with spreadsheets) wing of the Spectator so hardly left wingers
It’s extremely complex and, sadly manipulated by politicians. As a free market capitalist (I gobbled up The Undercover Economist, Tim Harford)
People want Government to look after them when they’re old. But people also want television and the Daily Mail. People also think Romanians are coming to steal jobs and, simultaneously, claim benefits. People like fancy cars like BMW, Mercedes. But People also not like Banks. But also want yoghurt that’s good for bottom. And Branded YogaClasses.
People want HousePrice UP. But People want petrol go down. People want FairTrade coffee. But people not understand what mean fair trade.
Hmm. People stupid maybe. people read too much stupid news.
> Quite honestly I see no reason why the personal pension limit of £1.25m isn’t still very high (thats up to £2.5m for a couple…)
So, all couple have to do is not have children (and having career breaks to care for them) and their pension problems are solved. Sweet.
> £360bn was spent in the last decade on personal pension income tax relief
No, nothing was spent on it, zero, zilch. All that happened was that HMRC waved tax on the way in as it will be taxed on the way out. There are now proposals to tax on the way in, tax any “surplus” while in there, and then tax on the way out. Why would any sane person think these proposals are in any way right?
> If you want to have lower tax rates…. you have to eliminate exemptions and widen the tax base
Widening the tax base is a great idea. Currently 30% of income tax is paid by 1% of the population, which is an unsustainably narrow tax base. How wide do you think it should be?
I’m with Gadgetmind, enough of this lefty disinformation of 40% (and higher) taxpayers being “given” extra money from the government, they are simply taxed more in the first place.
Any tampering with this and 40% taxpayers will simply abandon personal pensions & SIPPs, probably in favour of ISAs and property.
But tampering is quite likely depending on the make up of the next coalition.
The biggest blocker to save us for a few more years is that it will be difficult to untangle public sector pensions from being hit also, which people voting to ruin private sector pensions tend to have.
Anyway, it seems prudent to split between SIPPs and ISAs depending on your exact circumstances and any other possible sources of income in retirement/semi-retirement. Once I look like hitting an inflation linked 10k per year from a SIPP pot I will cease adding to it in favour of ISAs and BTL.
This is an interesting discussion, but can we keep it civil please. 🙂 Let’s not question people’s sanity. 🙂 Clearly there are a range of views…
@ Gadget
Actually, the money saved by abolishing higherrate tax relief on pension contributions could actually be spent addressing some of the issues you are talking about the insufficient pension savings of the 85% of the working population who don’t even pay higher rate income tax
The money spent on the current pension tax relief regime is more than the defence budget each year…..and it doesn’t work
Your point about 30% of income tax being paid by 1% of the population is a red herring as you should well know. There are many other taxes levelled in the UK (e.g. VAT and council tax) which are far less progressive
@Semi
The Centre for Policy Studies was Margaret Thatcher’s favourite think tank, hardly a bunch of lefties
One of the biggest benefits of lowering the life time allowance, in my view, is that it severely curtails the ability of public servants (e.g doctors and judges) to build up large index linked future tax payer funded pension entitlements
However, your point about “40% taxpayers being given extra money from the government, they are simply taxed more in the first place” is exactly my point
In order for high marginal income tax rates to go down the current set of all-too-generous exemptions from tax (e.g. private pensions, residential housing, ISAs) need to be curtailed, there is no magic money tree that can fund tax cuts
> Actually, the money saved by abolishing higherrate tax relief on pension contributions could actually be spent
No it couldn’t be spent on anything. This money isn’t being spent now (it doesn’t even really exist) and abolishing HR tax relief won’t make it available to be spent in the future.
> Your point about 30% of income tax being paid by 1% of the population is a red herring as you should well know.
It’s certainly an inconvenient truth for those who claim that high earners don’t already pay their fair share of tax, but I’d love to see your numbers once VAT and council tax are included. I doubt it would make a significant difference.
@Gadget
2008/2009 tax year, sources of government ta revenue:
Income tax 29%
National insurance 19%
VAT 15%
Corp tax 9%
Fuel duty 5%
Council tax 5%
Other taxes 18% (if I can add-up)
I doubt it will have changed very much the last few years
I think high earners defined under the UK tax system are marginally overtaxed in the UK, but the wealthy (not entirely the same group) are rather undertaxed
The UK is not so dissimilar from Italy and France in its protection of special interest groups
I’d be happy to get 30% tax relief – which I gather several parties/think tanks are now working toward – if they drop my income tax rate from 40% to 30%. But that is extremely unlikely to happen. They will just implement the first part.
Anyway, all this talk of tinkering with pension rules just reinforces The Investor’s point.
A 3 way split between SIPP, ISAs and property – either BTL or buying slightly more house than you need to give the option of downsizing later – seems the best way to hedge against various outcomes.
That doesn’t really let us accurately determine what that 30% is reduced to. However, given that NI is no longer capped for either employer or employee (the latter being at an eye watering 13.8%!) it seems unlikely that it would make a significant difference.
Anyway, going back to pensions, these repeated attacks have clearly caused deep-seated distrust of the whole system, which now needs to be addressed.
Perhaps we need a cross-party pensions “bill of rights”?
1) You can put as much of your earned income into a pension as you personally see fit and we won’t tax you on it, nor threaten to do in future.
2) Build as large a pot as your investing skills allow. The more the better as we’ll tax you on it later.
3) The 25% PCLS is inviolable and we won’t even take this away.
I’m sure others can suggest others, but ideally not politically motivated ones.
These logical points all make sense, but politicians are going to act like politicians, aren’t they?
So they’ll do easy, short-term stuff that makes a good headline and wins votes from the majority. Like grandstand over whether £150k earners should pay 45% or 50% tax, for example.
Arguing that a current government should act fairly and in the long-term interests of pension savers when there’s no immediate political gain is like expecting a decision on Heathrow airport!
So look at what would be easy to attack – millionaire pensioners, owners of expensive houses, BTL landlords, and then act accordingly. And don’t forget pension pots are a capital control.
@Gadgetmind
The most sensible suggestion I have seen is for personal pension contributions of up to £4,000 a year net to be matched by a £4,000 contribution by the government
I think that might actually cost more than the current regime however
It woud create a huge incentive the middle quartiles of the income distribution to save for a pension and act rather like a funded version of national insurance alongside the basic state pension
I think its possible for people eanings £30-50k a year gross to save around £4k a year for retirement
Roughly thats where the middle 40% of UK earners sit in gross income terms
Rather hardheartedly I would argue that the bottom quartile of UK earners will have to rely on a combination of the basic state pension and other benefits
P.S. Thanks for ignoring the data I bothered to post showing that only half of the UK tax take is related directly to income
> P.S. Thanks for ignoring the data I bothered to post showing that only half of the UK tax take is related directly to income
I directly commented on your data. How is that ignoring it?
You observed we ought to include other taxes but didn’t provide the required information to let us determine an “all taxes” figure. I simply observed that there wasn’t enough data and voiced the opinion that it probably wouldn’t really dilute the argument in a material way.
@Gadget
You put up the usual straw man that 30% of income tax is paid by 1% of the population
It is quite conclusively demonstrated that just under half of the UK tax base is made up of income tax and NI
You said “That doesn’t really let us accurately determine what that 30% is reduced to”
Now you say “that it probably wouldn’t really dilute the argument in a material way”
Denial is not just a river in Egypt you know old chum! 🙂
You may like to look up what a “straw man argument” is on wikipedia as it doesn’t mean what you seem to think it does.
Absolute worst case, even assuming that those in the top 1% of income don’t pay more than others in VAT, council tax, and CGT (which I strongly doubt) you won’t get a figure below 15% of total tax for their “share”. I suspect the figure will be in excess of 20%, but would like to know what figure you’re working from.
Either way, they are shouldered far more of the burden than they should be expected to and beyond what is long-term sustainable. Even HMRC have expressed concerns about this.
BTW, I’m not in that 1% and am simply arguing from the standpoint of someone with a grasp of economics, psychology, and fair play. Those who base their views on other tenets will undoubtedly disagree, and probably feel that the country should somehow be punishing these high contributors even further, with the current fun and games with pensions people just part of this suffering.
@gadgetmind According to HMRC latest figures [1], the top 1% took 11.5% share of gross income (£101.89bn) and paid 25.4% share of income tax (£39.62bn) for an effective overall tax rate of 38.9%. Doesn’t seem unreasonable to me for the very top earners. And this was when the 50% rate was in force.
[1] http://www.hmrc.gov.uk/statistics/tax-statistics/table2-4.pdf (2011-12, which is the most recent confirmed set of figures)
How much would the taxpayer save if public sector defined benefit pensions were scrapped (except for accrued benefits, obviously) and replaced by defined contribution pensions of up to, say, 10% employer matching? I suppose it would depend partly on how much extra the taxpayer would have to shell out in salaries to attract and retain staff looking at lower rewards by way of pensions. I suspect that there would still be a massive saving. Are there any conceivable political circumstances in which it could be done?
@dearieme
Depending on the estimates used and the details of the many different public sector pension schemes the current value of the defined benefit schemes on offer are worth between 25-40% of salary including employee contributions from the various studies I’ve seen
This is obviously influenced a lot by the current historically low gilt rates
Also the recent change from final salary to career average earnings *may* have reduced the fugures quoted above a bit
Employee contributions are maybe 5-12% depending on the scheme I think (I don’t work in the public sector)
So the net saving from moving to defined contribution system with a 10% employer contribution would be in the order of 20-30% of public sector wages or 15-25% of gross employment costs (including the salary itself), going forwards
Well worth having in my view
Posible but contentious to change past accruals built up as it would be legally difficult to enforce
Easy to change future pension accrual conditions if you are willing to weather a 2/3 period of rolling public sector strike action
Have they all gone? Good. If you want to more about why pension schemes are a very good place to invest for your, er, pension, despite what all the cool kids say then: http://monevator.com/financially-independent-in-10-years-a-plan/
Also, it’s a good idea to think about stakeholder pensions as a cheap alternative to a SIPP: http://monevator.com/cheap-stakeholder-pension/
How to plan for it:
http://monevator.com/how-to-retirement-plan/
And some ideas for those close to retirement or actually retired:
http://monevator.com/the-most-important-goal-for-every-retiree/
http://monevator.com/secure-retirement-income/
http://monevator.com/level-vs-escalating-annuities/
http://monevator.com/reduce-tax-in-retirement/
http://monevator.com/buy-shares-in-retirement/
> And this was when the 50% rate was in force.
That the tax take from high earners would be reduced when such high taxes were imposed fits well with established theory.
http://en.wikipedia.org/wiki/Laffer_curve