Don?t Let Your Pension Income Of Today Steal From It Tomorrow


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The new pension legislation that came into effect in the UK in April 2011 included some welcome changes. In particular it gave us more flexibility regarding annuities. There is no l

The new pension legislation that came into effect in the UK in April 2011 included some welcome changes. In particular it gave us more flexibility regarding annuities. There is no longer an age limit to annuitise and you are not penalised as much as you were with higher taxes if you do not buy one at all, albeit not as bad does not mean good. You can now leave your pension invested for as long as you want, or for the rest of your life, and can choose the amount of income to take, within set limits. It is however important to carefully consider how much income you should draw from your funds.

While annuities have become increasingly unpopular (rates are low and you cannot pass the balance to your heirs), the positive side is that once you buy one you have an income for life ? you can never run out of pension income.

So if you do not buy an annuity you can take an income for life and hopefully preserve the funds to pass on to your heirs by leaving the underlying assets invested. You do however need to apply caution to ensure as much as possible that the fund will last for your lifetime, unless you are confident that you have adequate alternate funding from other sources.

How much income can you take?

Taking income from your pension funds is now referred to as ?income drawdown?. Within HM Revenue & Customs limits, you choose the frequency and amount of income you draw during the year. This can be advantageous if you are looking to keep your total income within the basic rate tax in the UK or the country in which you are tax resident.

The level of income you can take is based on figures issued by the UK Government Actuary?s Department (GAD). The GAD rate is influenced by two main factors : (a) 15 year UK Government Gilt Yields (in effect predicted future interest rates) and (b) the age of the scheme member.

As at July 2011, the GAD rates as a percentage of the pension fund for a male are:

Age 60 ? 5.9%

Age 70 ? 7.4%

Age 80 ? 11.3%

Age 90 ? 15.2%

Since 6th April 2011 you can take an annual income of between 0% and 100% of the GAD rate. Although there are transitional arrangements in place for members who took benefits prior to this date, the GAD figure will be reviewed on each third anniversary until age 75 and annually thereafter.

Once the GAD rate has been calculated, your maximum annual income is determined by multiplying the value of your fund at the GAD review date by the GAD rate.

This means that three factors will determine the maximum level of income that you can take ?

? The ongoing value of your pension fund

? Your age

? The yield from 15 year UK government gilts

How much income should you take?

There are some important factors to consider:

1. Investment performance ? which can never be guaranteed.

2. Longevity ? with modern medical science life expectancy is ever lengthening. According to the UK Office of National Statistics, life expectancy for those aged 65 in 2009 is projected to be 21.1 years for males and 23.8 years for females. It is projected that 26.8% of those currently aged under 16 will live to be 100, compared to 9.6% of the 66-99 age group.

3. Inflation ? we can never properly predict how much prices will increase. Historical UK inflation figures show that ?100 in 1980 is now worth ?31; ?100 in 1990 is now worth ?59 and ?100 in 2000 is now worth ?77, and also that inflation can have a significant impact on spending power even in benign periods.

4. Medical and long-term care costs ? our increasing longevity prospects are accompanied by increasing medical and aged related care costs.

To withstand the potential impact of increased longevity, inflation, medical/long term care costs, and considering that investment returns cannot be guaranteed, it is important to protect your pension fund from depletion.

As can be seen from GAD table, someone aged 70 can take an annual income of up to 7.4% of their fund and at age 80 this increases to 11.3%. However, before you go ahead and take as much income as you can, you need to consider there is a high level of risk that the maximum level of income may not be supportable in the medium to longer term without depleting the value of the fund.

If you take a high level of income each year, you may end up with a much smaller income in future years (possibly just when your medical/care costs increase). Alternatively you may wish to consider the impact it would have on the inheritance you leave your family.

In general, it is not advisable to take an income of more than 5% per annum of the value of your fund, or 65% of the maximum GAD figure, whichever is the higher.

This does however depend on your circumstances, such as if you have a short life expectancy or reliable savings outside your pension funds that will provide adequate income if necessary.

It may be worth discussing your situation with an experienced wealth management adviser such as Blevins Franks to get their opinion on the best course of action for you, both with regards your pension funds and planning to protect the value of your savings investments right through your retirement years.

By David Franks, Chief Executive, Blevins Franks

11th August 2011

Tax rates, scope and reliefs may change. Any statements concerning taxation are based upon our understanding of current taxation laws and practices which are subject to change. Tax information has been summarised; individuals should seek personalised advice.