Personal finance: five pensions protection guidelines

Don't put all your eggs in one basket, especially if that means reinvesting a pension pot in a poorly paying savings account that will tax you rotten. Picture: Contributed

Don't put all your eggs in one basket, especially if that means reinvesting a pension pot in a poorly paying savings account that will tax you rotten. Picture: Contributed

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Tomorrow’s green light to cash in savings for retirement doesn’t mean it’s safe to ignore the danger signals, writes Jeff Salway

Pension firms and advisers are braced for a surge in demand this week from Scots seeking access to their savings as wide-ranging reforms take effect.

Radical new rules coming into force tomorrow allow people aged 55 or over who are in defined contribution (DC) schemes to take their pension pots in one go, with no obligation to use their liberated cash for a retirement income.

Those eligible to take advantage of the changes from the outset have been urged to take their time. But pension firms, including Edinburgh-based Scottish Widows and Standard Life, have taken on hundreds of extra staff to cope with a sharp increase in inquiries expected over the coming days and weeks.

It’s feared that many of those eager to cash in could risk hefty tax bills, falling victim to pension fraudsters or running down their savings too quickly.

Here are five key points to take on board as the new regime comes into force:

UNDERSTAND THE TAX IMPLICATIONS

Savers will be able to take up to 25 per cent of their pension pot tax-free, as they can now. But while the amount above the 25 per cent will no longer be taxed at 55 per cent, income tax will still be charged at the saver’s highest marginal rate. More than eight in ten over-55s are unaware that they’ll have to pay tax on cash taken from their pensions, according to research by Sanlam Wealth Management. The beneficiary will be the Treasury, which expects an extra £500 million in tax receipts in 2015/16 from people caught out by this.

Gregor Munro, financial planner at Johnston Carmichael Wealth, said: “It’s important to be aware of the pensions tax rules should you choose to take all of the benefits at once. Pension providers may also apply an emergency coding which means you may initially receive less funds than expected and will have to contact HMRC to recover the overpaid tax, which can take some time.”

DON’T OVERLOOK ANNUITIES

Sales of annuities – still used by most DC members to convert their pension pot into a retirement income – have declined over the past year and are set to fall more sharply over the coming months. Yet surveys show that a guaranteed income is the top of most people’s financial wish-list in retirement.

Even now annuities are better value than drawdown for risk-averse savers with average-sized pension pots, according to the Financial Conduct Authority (FCA) – provided they are bought on the open market. Most annuity buyers lose out on a large chunk of income because they fail to shop around, however.

“While many have now declared the death of annuities, in many cases they could still form an important part of a retirement strategy,” said Munro.

“Where there is sufficient scale within the pension fund, for example, you could allocate a proportion of it to an annuity which provides a guaranteed annual return.”

WATCH OUT FOR CHARGES

Pension charges have fallen in recent years, yet they are often opaque and vary (often significantly) by company and the age of the plan. The rule changes allow providers to launch a new range of options under the flexi-access umbrella, but there are concerns that many savers will be charged over the odds to access their cash. Charge levels are likely to move around considerably as the market settles down and it may be that waiting a few months is the most prudent option.

The key when taking any benefits or transferring your funds is to understand exactly what you’re paying and what it is that you’re being charged for. Advice is valuable in this area, said Munro, particularly with effective comparison so difficult.

“I would urge investors to review the marketplace to establish the best solution for their particular set of circumstances, rather than put all their eggs in one basket with an adviser who is restricted to a small number of companies,” he said.

SCAMS AND DODGY INVESTMENTS

Fraudsters are likely to be among the biggest beneficiaries of pensions reform. The FCA recently launched its ScamSmart campaign, while the pensions minister has warned of “unscrupulous crooks clustering around older savers”.

The scams to watch for range from pension liberation firms offering premature access to pension pots and companies wrongly claiming to offer free “reviews” or advice, to investment firms flogging high-risk and unregulated “opportunities”.

The FCA guidance – at scamsmart.fca.org.uk – includes rejecting cold calls, checking its warning list and seeking impartial advice.

“Investors should be aware of unscrupulous individuals who may use the change in rules to gain access to their pension benefits,” said Munro. “These so-called advisers will often attempt to convince people to put their pension funds into schemes which appear to offer attractive rates of return and/or tax savings but are often very high risk.” If it looks too good to be true it usually is, he added.

Get advice before taking any action. Find a local independent financial adviser at www.unbiased.co.uk or contact Pension Wise, the new free guidance service (www.pensionwise.gov.uk / 030 0330 1001).

USE IT WISELY

People live longer in retirement than ever before, and most live longer than they expect. How can you ensure your pension provides for you as long as you live while also supplying the income you need, factoring in variables such as inflation, care costs and investment market volatility? With difficulty, is the answer, which makes professional advice absolutely crucial.

Yet half of 55 to 65-year-olds in Scotland don’t plan to seek any financial advice on withdrawing a lump sum from their pension, according to research by Brewin Dolphin. Jonathan Tweedie, head of the firm’s Edinburgh office, said: “The survey we’ve undertaken reveals that, despite having significant pension pots in many cases, most won’t take advice and many are planning to simply withdraw their money into a poorly paying savings account that will leave them with an eye-watering tax bill and no inflation protection.”

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