We are fairly used to the government meddling with pensions, and 2016 was no different. Although reforms were less radical than expected, the Treasury continues to cut back on tax breaks for pension savers, and it’s likely that we haven’t seen the end of this trend.
The year’s two most significant changes both took effect in April. Firstly, the pensions lifetime allowance – the maximum amount of private pension savings you can amass before tax – was reduced from £1.25m to £1m. At the same time, high earners were hit with cuts to the annual allowance, the amount that may be paid into a tax-free private pension each year. For most people, this is £40,000, but the allowance now reduces steadily for people earning above £150,000, to as little as £10,000 for those earning more than £210,000.
Neither change affects large numbers of savers, at least to begin with. But a £1m pension fund is not as large as it sounds – it would currently buy a lifetime annuity of income worth between £20,000 and £45,000 a year, depending on the benefits required, such as inflation-proofing or the guarantee of a pension for your spouse after your death. Not bad, but hardly the stuff of millionaires. Similarly, while only the top 2% or so of the population is currently earning more than £150,000, that’s the equivalent of several hundred thousand people.
Nevertheless, the dog that didn’t bark this year was wholesale reform of pensions tax relief. Many expected tax relief on pension contributions to be limited to a new flat rate, rather than linked to people’s marginal tax rates. The flat rate could even have been the 20% basic rate of income tax. In the event, the Treasury has backed off this controversial measure, at least for now.
Finally, there was another announcement this year that in theory could have affected many existing retirees. The government said two years ago that it would figure out a way to let people cash in existing annuities. This year, however, ministers concluded they couldn’t find a safe way to deliver this proposal and scrapped the idea. Probably for the best.
Two more big reforms
• Major changes to the state pension system came into force in April 2016. Where there used to be both a basic state pension and an additional state pension – known as the state second pension (S2P) or the state earnings-related pension (Serps) – there is now just a single-tier pension. This new system applies to everyone retiring after 6 April this year.
The full flat-rate pension is worth £155.65 a week in 2016-2017. But that’s not the sum you will necessarily get. Those who have built up a certain amount of additional state pension will receive more, while those who were contracted out of the state pensions system – these savers paid lower rates of national insurance – before 6 April 2016 for a significant time will probably get less. Either way, the final figure will be whatever is higher – the amount you would have got under the old system, or the amount you would get had the new system been in place over the whole of your working life.
Note that the rules of the new scheme have also become more demanding. You used to need 30 years of national insurance contributions to qualify for a full state pension, but this has now been increased to 35 years.
• Meanwhile, the announcement of a new lifetime individual savings account (Lisa) will give people under the age of 40 a new option for retirement saving. The scheme pays a bonus of £1 for each £4 invested, up to a maximum of £4,000 a year, and the money must be used either as a deposit on a first house, or as retirement savings. There is a fee of 25% if you withdraw the cash for any other reason. The Lisa is now tipped to become a mainstay of many people’s saving for old age.