It’s not about the money, money, money…

NOVEMBER 21ST, 2011 By DOMINIC
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As Jessie J laments in her Price Tag hit, she may actually have a point. Which I know is a sentiment at odds with running a wealth management business, but there is a method in my madness.

The world economy is in a precarious state and the priority for financial planners at the moment is to protect wealth by minimising potential loss – gains are a real bonus at the moment. Of course those who are prepared to take more risk can be financially rewarded within turbulent times but it’s not an option for the more cautious.

‘Lifestyle forecasting’ is becoming more prevalent within the realms of personal finance, and isn’t just about what we want to spend our money on in one, five, ten years time. It’s about serious cash flow forecasting which enables your financial advisor to work out if you have sufficient funds to give you the lifestyle you want for you and your family for the rest of your life. The forecasting is balanced against predicted inflation and the level of investment risk you are prepared to take.

Clients’ anxiety over their wealth is always heightened during difficult times and none more so than those reaching retirement age or retirees. Regardless of what’s happening in the markets a good wealth manager should be working hard to minimise losses but worry over the long term can be eased with this clever but common sense financial analysis. Equally, it can highlight future shortfalls but crucially gives your adviser time to put plans in place to redress the issue.

If you haven’t already asked your financial planner about cash flow forecasting then you should. It’ll give peace of mind, is a useful succession planning exercise and highlights any unnecessary risk taking. Why take risks if the forecast predicts a rosy outlook regardless? It’s a no brainer……

I have recently completed a financial forecast for one of my clients who has been genuinely concerned if she had enough assets and funds to give her the lifestyle she currently enjoys into old age. No stone was left unturned and we certainly erred on the side of caution and over estimated annual spend and took a pessimistic view on predicted inflation at 3%. It confirmed my client will have sufficient funds for the next 30 years and interestingly showed that even taking low risk investment options as opposed to her current medium risk profile would still give her sufficient resources to fund her lifestyle.

Peace of mind is priceless.

Automatic enrolment

AUGUST 24TH, 2011 By DAVID
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The recent pension landscape has been dominated by the controversy surrounding the proposed changes to public sector pensions.

Whilst it is understandable that public sector workers and public sector unions should be concerned, this has only served to distract public attention from a forthcoming pension reform that will affect a greater proportion of the working population.

In October 2012 the long awaited automatic enrolment pension legislation will finally come into law. Although it is being introduced in stages, and will only affect the mega-employers to start with, it will eventually cover all employers with at least one worker.

Between 2012 and 2016 employers will have to register with The Pensions Regulator, automatically enrol eligible jobholders into a qualifying pension scheme and make contributions on behalf of their workers (if they do not already do so). Employers must communicate with their workforce and fully comply with the new law if they wish to avoid fines and prosecution.

The aim behind all of this is to encourage more employees to save for their retirement. It is hoped that rather than making saving for retirement compulsory, as is the case in some countries, automatic enrolment will get around the inertia when an employee has to pro-actively join their employer’s pension scheme.

Employers who do not have a pension scheme have the option to set up an appropriate pension scheme or to enrol workers into the National Employment Savings Trust. Employers who currently operate a pension scheme must ensure that their scheme fully complies with the new law.

The legislative framework for automatic enrolment was first mentioned in the Pensions Act 2008 so there is no excuse for not being ready.

What should employers be doing to prepare themselves for automatic enrolment? The Pensions Regulator has suggested the following key steps should be followed:

• Identify your staging date
• Make an initial assessment of your workforce
• Assess the impact to the existing scheme
• Start work on the information that you intend to provide to your staff
• Test whether the current payroll system can cope with the new requirements
• Get ready to manage opt outs
• Get ready to manage opt ins
• Ensure that processes are in place for accurate record-keeping
• Make a formal assessment of your workforce, to identify the different groups of workers and what you will be required to do

Further information is available from The Pensions Regulator’s website www.thepensionsregulator.gov.uk

A tale of two sectors

JULY 5TH, 2011 By DAVID
0 RESPONSES

Last week saw thousands of teachers and other public sector workers participate in a one day strike over proposed changes to public sector pension schemes.

Whilst it is understandable that public sector workers should be concerned about the proposals, it would appear that they have jumped the gun in striking when negotiations are still ongoing, and are thus in danger of losing the moral argument.

The situation has not been helped by the Government, which is clearly prepared to flex its muscles in the face of protests from public sector unions, and misinformation from public sector unions as to what the proposals actually mean.

It is widely acknowledged that public sector pensions are in need of reform, as rising life expectancy and
demographic changes have meant that the costs associated with paying the largely unfunded pension benefits (most are paid directly from public taxation rather than a fund) has increased and will only increase in the future as we all live longer.

The Government estimates that public sector pension liabilities are equivalent to 53% of national income whilst Towers Watson, an actuary, has calculated that the figure is closer to 81% of national income, which is greater than the UK’s official national debt.

All three main political parties broadly support the proposals, which is why there was very little political support for the strike last week. The proposals (which will only affect future benefit accrual) consist of public sector workers working longer, paying more towards the cost of their provision and moving to a career average salary basis.

The important thing to note is that future pension benefits will still be provided on a defined benefit basis. Benefits built up to date will be protected and will be available on the current terms (including the current
retirement age).

In our opinion, the real outrage concerning pensions is not what is happening in the public sector, as public sector workers will continue to enjoy good quality pension provision in any event, but what has happened in the private sector.

Pension provision in the private sector has fallen off a cliff in the last 10 to 20 years. This is due to the
factors mentioned above and the tax raid on private sector pensions by the Labour Government, which started in the late 1990s and persists to this day.

Whilst nearly all public sector workers are members of a defined benefit pension scheme, only a handful of companies in the private sector still operate defined benefit pension schemes that are open to new members of staff. Indeed, an alarming number of private sector schemes are being closed to existing members of staff.

Furthermore, the old argument that good quality public sector pensions compensate public sector workers for being paid less than their private sector counterparts no longer holds true anymore.

The sad fact is that most private sector workers are blissfully unaware that defined contribution pension schemes, which have now replaced defined benefit pension schemes in the private sector, are unlikely to meet their retirement aspirations if they just contribute the default amount. This is why independent financial advice is vital.

The ostrich generation dilemma

JUNE 20TH, 2011 By DAVID
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Two recent surveys, one by HSBC and the other by Scottish Widows, have highlighted that the ostrich generation (the generation immediately following the baby boomers) faces a difficult retirement because it has not understood and adapted to the changing nature of retirement provision in the UK.

Many of the 30 to 50 year olds surveyed acknowledged that they will live longer than their parents and likewise accepted that traditional methods of retirement funding such as the state pension and occupational pension schemes are not as generous as they once were. A significant number did not have a strategy for funding their retirement or were simply planning to rely on the state for help, whilst nearly half had simply resigned themselves to the fact that they will be worse off in retirement than their parents.

Part of the problem is that the baby boomers, the richest generation in recent times, has benefited from both generous defined benefit pension schemes and substantial increases in property prices. This means that a relatively high bar has been set for the next generation to aspire to.

Whilst it is true that demographic and economic changes, and increasing life expectancy have resulted in the closure of defined benefit pension schemes in the private sector and a gradual watering down of the benefits provided by the state pension system, many individuals are unwilling to do anything about it, or are blissfully unaware that their current provision is insufficient to meet their retirement needs.

Another problem is that the savings rate in the UK is very low, with large numbers of the population making the bare minimum retirement provision or worse still not making any provision at all.

The situation could not be more different in Asia, where relatively low life expectancy is coupled with high savings rates. Unsurprisingly, expectations for financial sufficiency in retirement are generally high in Asia.

What can be done to rectify the situation? An obvious solution is for the ostrich generation to adopt an Asian style savings mentality and thus take responsibility for its own destiny, however, that is easier said than done.

The Government is keen to address the problem, which is why it intends to implement the system of automatic enrolment that the Labour Government had outlined in the Pensions Act 2008.

The system which will see employees automatically enrolled into a qualifying pension scheme or the National Employment Savings Trust (NEST) from October 2012 is aimed at getting round the inertia which currently exists when employees have to proactively join a pension scheme.

Whether the Government will succeed in tackling the UK retirement problem remains to be seen, as the proposed minimum employee/employer contribution level (8% of qualifying earnings from October 2017) is too low in our opinion. In our experience, the two main reasons why individuals do not save for retirement are:

1) a distrust of pensions due to misinformation or not understanding how they work and
2) not having the means to save for retirement.

The first is fairly easy to deal with, the second is not.

Pitfalls and opportunities

APRIL 5TH, 2011 By DAVID
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From 6 April 2011 the pension annual allowance will be reduced from £255,000 to £50,000, which is fairly easy to comprehend when dealing with defined contribution pension schemes.

Deemed contributions to defined benefit pension schemes will now be valued using a factor of 16. Previously it was 10, a more generous factor. The opening value for the input period will be increased in line with the consumer price index to partially offset the change in the factor used.

The tax charge for exceeding the annual allowance will be based on an individual’s marginal rate of tax (e.g. 20%, 40% or 50%) rather than simply 40%.

As some individuals previously unaffected by the anti-forestalling rules will now be caught by the lower annual allowance e.g. individuals whose pension accrual spikes following a promotion, the Coalition Government has introduced carry forward which will apply to defined benefit/defined contribution pensions that have a pension input period ending in the 2011/12 tax year and thereafter.

Carry forward will enable individuals to add any unused annual allowance from up to three previous tax years to their annual allowance for the current tax year. To qualify for carry forward an individual must have been a member of a registered pension scheme in the tax year they wish to carry forward the unused annual allowance.

With regard to the lifetime allowance, from 6 April 2012 the lifetime allowance will be reduced from £1.8 million to £1.5 million.

If at the point of crystallising benefits the lifetime allowance is exceeded, then the excess is subject to a 55% lifetime allowance charge if it is taken as a lump sum or a 25% lifetime allowance charge if it is taken as a taxable income. The charge is taken by the pension provider before benefits are paid out.

Individuals who expect their pension savings to be more than £1.5 million when they come to take their benefits on or after 6 April 2012 can use fixed protection to protect them from the lifetime allowance charge. An individual does not need to already have built up pension rights of more than £1.5 million to apply. Once an individual applies for fixed protection they need to cease building up benefits under every registered pension scheme that they belong to by 5 April 2012.

Applications for fixed protection will only be accepted by HM Revenue & Customs up to 5 April 2012. Those with existing primary or enhanced protection will be unaffected by the reduction in the lifetime allowance.

A new dawn for retirement planning

DECEMBER 13TH, 2010 By DAVID
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HM Treasury has recently released the draft legislation on removing the requirement to annuitise at age 75. The key points, which are due to take effect from 6 April 2011, are:

• Alternatively secured pension is to be abolished.
• Unsecured pension is to be renamed ‘drawdown pension’ and will be allowed to continue beyond age 75.
• Drawdown pension will be available in two formats:

i) Capped drawdown – the maximum income limit will be 100% of the GAD rate (an amount equivalent to the annuity that could have been purchased) and the minimum income limit will be nil. The maximum income limit will be reviewed every three years for individuals under age 75 and every year for individuals aged 75 and over.

ii) Flexible drawdown – individuals with a lifetime income of at least £20,000 per annum (the Minimum Income Requirement) will be able to withdraw an unlimited amount from their pension fund. The Minimum Income Requirement is set to be reviewed by HM Treasury every five years.

• Individuals in unsecured pension or alternatively secured pension on 6 April 2011 will become subject to
the new income limits from their next review date.
• It will be possible to take a pension commencement lump sum after age 75 and to defer taking benefits from a pension beyond age 75.
• The age 75 restriction on annuity protection and trivial commutation will be abolished.
• The tax charge on the lump sum death benefit from drawdown pension will be 55% and this will apply regardless of age.
• The lump sum death benefit from an uncrystallised pension fund will still normally be paid out free of tax prior to age 75. After age 75 it will be subject to a 55% tax charge.
• Inheritance tax will not typically apply to drawdown pension funds. The only proviso is that the pension scheme trustee must have discretion with regards to the payment of the lump sum death benefit. If they do not have discretion then inheritance tax may still arise.
• Individuals who die with no living dependants will be able to donate their remaining drawdown pension to charity free of tax.

We believe that these changes are a step in the right direction as they give individuals more choice as to how they structure their retirement income.

However, it should be borne in mind that annuities will continue to meet the requirements of most individuals e.g. those with small pension funds/individuals who require the certainty of a defined income stream. This is because annuities provide a guaranteed income and ensure that an annuitant will not run out of money during their retirement.

Restrictions to pension tax relief…yet to be decided

OCTOBER 1ST, 2010 By DAVID
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One measure that the Coalition Government chose not to repeal in the Emergency Budget was the Labour Government’s decision to reduce the personal allowance of every individual with a net adjusted income above £100,000 by £1 for every £2 of income above £100,000, with effect from 6 April 2010.

Net adjusted income in this instance is the total income on which an individual is liable to tax minus any gross personal pension contributions that they make and/or any third party pension contributions that they receive (excluding employer contributions).

Individuals will lose their personal allowance altogether if their income exceeds £112,950.

Individuals whose income falls between £100,000 and the income figure mentioned above will still receive a personal allowance but it will be a reduced amount.

Losing some or all of your personal allowance will increase your tax liability and thus reduce your net income. Some of you who are reading this now may earn above £100,000 and so will have received a new tax code earlier this year. If you did not understand the significance of this at the time then I hope that this blog clarifies the current situation.

For example, in the case of a 50 year old male with a net adjusted income of £112,950, the effective marginal rate of income tax on the income above £100,000 is 60%.

The marginal rate of tax in this example is greater than 40% because the first £6,475 of income that would not have been taxed (as it fell within the personal allowance) will now be taxed at 20% and the £6,475 previously just below the higher rate tax threshold (which would have been taxed at 20%) will now be taxed at 40%.

One solution to this problem is to pay a personal pension contribution and if this reduces your net adjusted income below the £100,000 threshold, then you will regain your personal allowance for this tax year and thus pay less tax.

Please note that care must be taken to avoid falling foul of the anti-forestalling legislation. You must also be under 75 and have relevant earnings to justify the pension contribution. Non-pension solutions to this problem include investing in an Enterprise Investment Scheme or a Venture Capital Trust as they also provide tax relief.

Given the complexity of this issue and the fact that the Coalition Government has yet to decide on the alternative measures it intends to introduce to restrict pension tax relief from 6 April 2011, it is vitally important that independent financial advice should be sought before taking any further action.

Pension wake up

AUGUST 13TH, 2010 By DAVID
0 RESPONSES

During the course of this week I was asked by a client about the implications of the case, Fryer v HM Revenue & Customs, and I thought that now would be an opportune time to explain the background to the case and to hopefully clarify any confusion which may have arisen.

The Fryer case involved an individual who had a pension with a retirement age of 60.  The pension provider issued a retirement pack to the individual before their 60th birthday but the individual did not respond to say whether they wanted to take benefits.

The individual died less than two years later (having still not taken benefits from their pension) and HM Revenue & Customs successfully argued that inheritance tax should apply to the lump sum death benefits, as in their opinion the individual had deliberately intended to convey a death benefit to someone else.

The lump sum death benefit from an uncrystallised pension arrangement is normally paid free of inheritance tax, and it is for this reason why the Fryer case has caused such a stir.

Does the Fryer case mean that HM Revenue & Customs has adopted a new approach to pensions?  The simple answer to this question is no.  HM Revenue & Customs has long held the belief that the main aim of a pension scheme is to provide a replacement income in retirement and not to provide a vehicle for the accumulation of capital sums for the purposes of passing on wealth.  This is especially relevant when you consider that tax relief is granted on contributions made by an individual during the accumulation stage.

Most pension schemes allow an individual to dispose of the death benefits and to make changes to the benefits that they are entitled to.  Usually, an individual can nominate, appoint or assign the death benefits to another individual/trust and/or make changes to the pension benefits they intend to take and when they intend to take them.

HM Revenue & Customs has confirmed that if an individual made a nomination, appointment or assignment, or made any changes to their pension benefits in the two years before they died, then there may be a liability to inheritance tax depending on the individual’s circumstances (including state of health).

This last point goes to the heart of the argument put forward by HM Revenue & Customs in the Fryer case, as the individual in question was in poor health at the time that they did not take benefits from their pension.  Furthermore, the deceased’s legal personal representatives could not demonstrate why the individual had decided to defer taking benefits, or why that decision was not a deliberate attempt to preserve a lump sum death benefit.

What can be learnt from the Fryer case?  The first lesson is that greater care must be taken when selecting the retirement date on a pension.  For example, when given the choice, a lot of clients will automatically select the earliest retirement date possible but will then work beyond that date for one reason or another.  Clearly some pension schemes (e.g. defined benefit) do not offer a choice as the retirement date is determined by the employer.

The second lesson is that if an individual’s circumstances change and it becomes clear that the retirement date will need to be altered, then independent financial advice should be sought and the reason for changing the retirement date should be recorded.

End of annuities?

JULY 22ND, 2010 By DAVID
0 RESPONSES

Further details are emerging following the headline Budget announcements by George Osborne. One of the latest topics to be thrown up for debate is the proposal to scrap the requirement to annuitise by age 75.

The Coalition Government is entering a consultation period and after looking through the proposals I am inclined to agree with them.

Prior to 2006 every member of a defined contribution pension scheme that reached age 75, and had not purchased an annuity, had to purchase an annuity (after taking a tax-free pension commencement lump sum). An annuity is a life policy that converts money from a pension fund into a secure pension income for life.

Annuities are not perfect and the main criticisms of them are that the annuity features have to be selected at outset and cannot be altered, and the death benefits are usually limited to a dependant’s pension and/or a guarantee period/value protection. Another problem is that some individuals have had to buy an annuity at 75 when annuity rates have been low and/or after the stock market has fallen.

The previous Conservative Government tried to address some of these issues in 1995 by introducing unsecured pension (USP), which allows an individual to draw an income from the residual pension fund (after taking the pension commencement lump sum) and thus defer the purchase of an annuity to age 75.

The main attraction of USP is the ability to vary the income taken and the fact that the pension fund can
potentially benefit from future investment growth. In the event of death prior to age 75 the residual fund can usually be paid as a lump sum death benefit less a 35% tax charge.

However, in reality USP only provides temporary relief, as the vast majority of individuals in USP currently live beyond 75 and are thus caught by the age 75 rule.

In 2006 the Labour Government introduced alternatively secured pension (ASP) so that individuals who have principled objections to annuitisation did not have to purchase an annuity at age 75.

Although ASP is based on the USP model, the income limits are more restrictive. It was not intended to be a mainstream alternative to an annuity and the tax rules (including tax charges on the residual fund which can be as high as 82%) mean that most people continue to purchase an annuity at age 75.

It is intended that the new rules will come into force on 6 April 2011. The key proposals are:

• No requirement to take benefits from a pension scheme at any age
• ASP will be abolished and USP will be available beyond age 75
• USP will be available in two formats: capped and flexible
• A 55% tax charge will apply to lump sum death benefits paid from pensions in USP and to pensions where benefits have not been taken by age 75

The Coalition Government has reiterated that the main aim of a pension scheme is to provide a replacement income in retirement and not to provide a vehicle for the accumulation of capital sums for the purposes of avoiding inheritance tax.

To that end, the Coalition Government has said that inheritance tax will not ordinarily apply to unused pension funds, but it will monitor the situation to ensure that the system is not abused.

The Coalition Government’s proposals are designed to give individuals more choice which is clearly a good thing. It should be borne in mind that the increase in the tax charge applied to the USP lump sum death benefit prior to age 75 has to be balanced against the reduction in the tax charge applied after age 75.

It is also true that annuities will continue to meet the requirements of most individuals e.g. those with small
pension funds/individuals who require the certainty of a defined income stream. This is because annuities provide a guaranteed income and ensure that an annuitant will not run out of money during their retirement.

A day in the life of a financial planner

JANUARY 20TH, 2010 By ADAM
0 RESPONSES

As my role as financial planner within Xentum I thought it would be interesting to give you a brief insight into some of my current projects:

Researching existing investments

One of the first jobs we do for new clients is to analyse their existing investments (or pensions).  It has not been unknown to spend a day simply trawling through what we call ‘a box of tricks’, in other words, a box full of financial paperwork.  Now this may seem an unenviable task to most, but I actually quite enjoy it.  The investments that have been collected over the years often tell a story of their own. 

I am currently working on a ‘box of tricks’ for a married couple who hold a number of investment bonds and unit trusts with various investment companies. In the past week I have been contacting these companies (a laborious but necessary part of my job).  Once I have all the required information I will start to research these investments and then provide the clients with a concise analysis of their overall portfolio.  This document provides a good starting point for any advice we give and is the first step to taking on any new client with existing investments.

Arranging life cover

One client currently has a significant IHT (inheritance tax) liability and along with their solicitor, we have been instructed to look at potential options to cover this liability.  One of the simplest and most cost efficient ways of doing this is through life protection.  I am therefore currently researching the different types of life cover available and the best premiums on the market for these options.  Once I have collated all this research, we will then sit down with the client and advise on the most sensible option going forward.

Finding a solution for a client’s windfall

One of our longstanding clients recently received a windfall.  The shares that had been passed on by the client’s deceased husband had suddenly become worth a considerable amount.  This is because the company with which she held a large number of shares became subject to a management buy out (MBO).  David, our head of technical is currently working on the tax implications of this windfall.  Once we have these, we will then sit down as a team and talk about suitable strategies for the client before agreeing a course of action.  The solution that we decide on in this case will need to balance a number of factors including; income, security, tax implications (particularly IHT) and capital growth. For a complex issue such as this it’s important we work in collaboration with the client’s solicitor and accountant to create the best outcome.

Xentum website

Finally, I’m in the process of overseeing changes to the website making it more interactive and educational for everybody.  So please keep an eye out over the next couple of weeks for any changes and feel free to make any comments or suggestions as to how we can improve the website for you.