Experts warn of ‘unintended consequences’ of Osborne’s plans, writes Jeff Salway
Government plans to scrap “death tax” on pensions will result in savers walking away from valuable guarantees and putting their retirement pots at risk.
Experts have warned of serious unintended consequences after the government revealed that pension funds in drawdown would no longer face a 55 per cent inheritance tax (IHT) charge on death.
Investors in drawdown will from next April be able to pass on those funds to their beneficiaries tax-free, if they die before turning 75. Beneficiaries of those who die at 75 or over will pay tax on drawdown funds at 45 per cent.
The rules will take effect alongside radical reforms giving people greater freedom with their pensions. Those changes will allow savers to cash in their entire pension pot from the age of 55, including 25 per cent tax-free. The remainder will be taxed at the individual’s marginal rate, rather than the current 55 per cent charge.
The shake-up is expected to diminish the appeal of annuities and encourage more people to use drawdown, where their pension fund remains invested and income can be taken from it incrementally.
Analysts at Barclays warned earlier this year that annuity purchases could plunge by at least 75 per cent under the new rules as more people go for income drawdown.
While that figure seems high, removing the IHT charge will certainly encourage more people to defer annuity purchase or avoid it entirely, according to Kevin LeGrand, head of pensions policy at Buck Consultants at Xerox.
“It is likely to reinforce the move away from buying annuities, which may not be a good idea for those people with less understanding and confidence with financial issues,” he said.
“Despite this change, an annuity would still be the most simple and effective option for many.”
Others warned that the change will backfire and leave some savers worse off.
Craig Palfrey, managing director of independent pension advice website Increaseyourpension.co.uk, dismissed Osborne’s move as a “political headline-grabbing tweak”.
He added: “It could actually have a negative impact, because it may encourage people with smaller pension funds to put them into investment-backed pension drawdown products which are unsuitable for their circumstances.”
The end of the IHT charge applies only to defined contribution (DC) pensions, which in tax terms leaves annuities and final-salary schemes looking unfavourable.
That factor could, in addition to diminishing the appeal of annuities, trigger a surge of demand for transfers from final-salary schemes to DC plans.
In other words, said Paul Renz, partner at accountancy firm Scott-Moncrieff, members of final-salary schemes will be tempted to give up their valuable retirement income guarantees and instead take on the investment risk inherent in DC pensions.
“However, there will be costs and risks attached to doing this and it may be difficult to quantify the likely benefit with real confidence,” said Renz. “Many final-salary scheme members – in the public sector for example – may not be allowed to transfer.”
The ultimate beneficiaries could therefore be large employers seeking to reduce their pension liabilities, he added.
“The losers will be those at the lower end of the scale, who may exchange lower pension benefits whilst alive for a possible but not certain uplift for their beneficiaries after their death,” he said.
The prospect of potentially avoiding IHT may be appealing, but Andy Thomson, of actuarial consultants Thomson Dickson Consulting, said the main concern for savers should be ensuring they have enough income throughout retirement.
“The death benefits available from a final-salary scheme compared to a DC pension plan and the amount of tax to be paid on them are just two of a number of factors to consider before a member decides to transfer out,” he said.
“Arguably, the more important factors are attitude to risk, expected investment returns, age and health considerations, and therefore I wouldn’t expect this latest tax change to cause an increase in the number of transfers.”
Energy costs forcing more Scots to take out loans or use credit cards to pay their bills
The number of Scots forced to use loans or credits cards to cover their energy bills has soared in the past year – and it could continue to rise sharply over the coming months.
One in ten Scots paid for at least one of last month’s utility bills using their credit card or by taking out a loan, according to research by Debt Advisory Centre Scotland (Dacs), up from 4 per cent 12 months ago.
The fee-charging debt advice provider also found that 22 per cent of Scottish households are worried they may struggle to pay their next energy bills.
Ian Williams, spokesman for Dacs, said: “The fact that more people are paying for everyday expenses by taking out a loan or using a credit card is worrying, as these bills should be among their first priorities.”
The research came as uSwitch warned that thousands of households are facing annual energy bill increases averaging almost £200, as popular fixed-rate deals with suppliers including Scottish Power and EDF come to an end this month.
Tom Lyon, energy expert at uSwitch, said: “Small suppliers have consistently given the big six a run for their money this year by offering some of the cheapest deals on the market – with some at less than £1,000.
“For example, Extra Energy’s ‘Fresh Fixed Price Oct 2015’, allows you to lock into a deal of £990 a year, while First Utility’s ‘iSave Fixed October 2015’ plan costs £992, also fixed until October 2015.”