Will you be affected by the drop in annual allowance?
When the Budget was announced in March the public was given the broad details of pension freedoms, which were widely welcomed. Since then, the finer details have trickled out and a picture is emerging of what the options could be. One of the bigger changes affects how drawdown works, and what entitlements people will have.
Under existing rules, a person can enter capped drawdown, which allows them to take an income up to 150% of the Government Actuary's Department tables, or GAD rates. Capped drawdown also gives people an annual allowance of £40,000, which means they can continue to contribute up to £40,000 and receive tax relief on it.
From April 2015, capped drawdown will no longer be offered to new customers, but existing plans will continue unaffected, including the £40,000 allowance. However, all new plans will be flexi-access drawdown. With this drawdown, GAD rates are not considered; instead, people can remove as much or as little as they want from their fund, and will pay tax on 75% of each withdrawal at their marginal rate. To try and minimise the risk of people putting the money back into the pension for further tax relief, the annual allowance drops to £10,000.
This means that for all existing capped drawdown plans, the annual allowance will remain at £40,000 if the fund holder doesn't exceed the income allocated by the GAD rates. All new drawdown plans will be flexi-access and have a £10,000 annual allowance.
Although the reasoning behind this decision is understandable - to mitigate the risk of tax relief being used twice - there's a very large difference between the annual allowances, which many people are likely to find unfair.
Perhaps the biggest problem is that removing capped drawdown for new customers but leaving it in place for existing customers will create a two-tier system. This disadvantages anyone who cannot enter drawdown before April 2015, as their annual allowance is a quarter of the size of people who can choose capped drawdown before that cut-off date.
This is likely to create confusion, and anyone who thinks they may require the higher annual allowance only has a short space of time in which to enter it, as it will not be available from next April. There's a risk that this decision will undermine the positivity around the freedoms if people feel they are not being treated fairly by being denied access to options that other people are benefitting from.
However, it would also be seen as unfair if the government changed the terms of agreement that people in capped drawdown entered into, and if people in capped drawdown exceed the income allowed by the GAD rates, they will automatically be put into a flexi-access drawdown with a reduced annual allowance of £10,000. This will help to smooth the process of introducing new drawdown products to the market, but the change in the annual allowance is still large.
Another change people need to be aware of is the requirement for pension holders to tell their providers when they access their funds. If a person decides to access their tax-free cash or enter drawdown with a fund, they are responsible for telling the providers of all of their other funds. If they fail to do this within 31 days, they could face a fine of £300, issued by HMRC, and then £60 each subsequent day until each provider has been informed. If the information is not provided after a second month, the holder could face a fine of £2,000, and a further £3,000 can be applied if the information is "negligently or fraudulently provided". This is a significant change, and it's essential people are aware of all of their pensions to avoid any problems with this requirement.
Do you think the reduced annual allowance should be higher to reduce the inequality, or is £10,000 fair? Let us know with a comment below.
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The details provided in this article are for general information only and are in no way deemed to be financial advice. All of the material is correct as of the publication date, but could be out-of-date by the time you read the article. For our latest information and news, please see our articles section: https://www.portafina.co.uk/whats-new
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