Despite the UK population’s £27bn savings deficit, Gordon Brown did little in his budget to encourage us to save more, says David Prosser in the Sunday Express. But as far as pensions go, the news was not all bad. As of April 2006, the Government is to simplify pensions, replacing eight sets of pension rules with a single lifetime pensions allowance for personal and occupational pensions. And if you can afford to, it will be possible to put up to 100% of your annual earnings into a pension each year, up to a limit of £215,000. Savers will be allowed to build up as many pension funds as they wish, subject to a lifetime savings cap of £1.5m (rising to £1.8m by 2010). Any surplus will be taxed at 25% (on top of the existing tax payable on pension income).
By capping the total, however, Brown is hardly giving us an incentive to save, says Melanie Bien in The Independent on Sunday. While the National Audit Office has calculated that the cap will only affect 10,000 people, industry experts estimate otherwise. More importantly, the cap doesn’t make the pensions regime more fair, as it favours final-salary schemes over defined contribution (also known as money purchase) schemes. If you have a pot of £1.5m in your final-salary scheme, this is deemed to equate to a final-salary income of £75,000 per year, rising with inflation. However, it would cost a 60-year-old man around £1.9m to buy such income in the form of annuities in the private sector. According to Richard Harwood, pensions specialists at accountants Grant Thornton, to receive the same level of income in retirement – £75,000 per year – the man with a defined contribution scheme would have to pay extra tax of more than £145,000. Put differently, the best pension the same man could buy with the proposed £1.5m pot is £44,614 – less than two-thirds the income allowed on final-salary schemes.
It shouldn’t come as a surprise to learn that public-sector staff, including civil servants and MPs, are the largest block of workers still enjoying final-salary benefits, says John Greenwood in The Sunday Telegraph. Final-salary schemes run by private firms have proved so expensive that 45% closed to new members in 2002 and 2003. Yet the difference between the treatment of the two pension schemes is so stark that experts predict that some people may set up their own one-man final-salary schemes for the extra tax breaks, despite the additional cost and complexity.
Fortunately, that is not the only way round the problem, says David Budworth in The Sunday Times. If your fund will be over the lifetime limit, you can boost your contributions now and then register the value of your fund on “A” day – 6 April 2006 – to ringfence the amount saved. Your money should then be safe even if it grows beyond the limit. If you have a few years to go until retirement and your fund is still less than £1.5m, you can register for enhanced protection, which means you will be exempt from the recovery charges as long as you and your employer stop contributions by 6 April 2006. Ask for remuneration from your employer to compensate; it may then be worth putting it in an alternative investment to a pension, such as a unit trust.