The government has published its draft Taxation of Pensions Bill, which provides further details around how people can access defined contribution (DC) pension savings flexibly from April 2015.
Its Pension flexibility: (draft) taxation of pensions bill, formally introduces:
- The concept of ‘flexi-access drawdown’ (FAD). There will be no restrictions on how money can be withdrawn from FAD funds by people over the minimum pension age, which is currently set at 55, although no more than 25% can be paid tax-free. Where a scheme does not offer this facility itself, members can transfer their savings to a FAD fund.
- Pension schemes can also choose to offer members ad-hoc payments called ‘uncrystallised funds pension lump sums’. A quarter (25%) of these payments would be tax-free and 75% would be subject to tax. Unlike paying 25% of the fund as a tax-free lump sum upfront, these withdrawals would not force the member to allocate the remainder of their savings to a drawdown vehicle at the same time or to an annuity within six months.
- For older workers who start accessing their DC savings flexibly, the draft bill also implements the reduced annual allowance of £10,000 in respect of subsequent DC contributions, which was announced in July.
- Also announced last month, the draft bill removes restrictions on how annuity products have to be designed. For example, it will be possible for insurers to offer annuities that reduce once in payment or which offer guarantee periods longer than ten years. The draft bill also removes the requirement that people receiving annuity income must have had the opportunity to select the annuity provider.
Dave Roberts, senior consultant at Towers Watson, said: “How it makes sense to take money out of a pension can depend on the individual’s circumstances. If they are still working and don’t expect their future retirement income from other sources to use up their full tax allowance, they might prefer tax-free withdrawals now and taxable withdrawals later.
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“For people who might want to pay more than £10,000 a year into a pension in future, this is another thing to think about when it comes to the best way to access pension income.
“The reduced annual allowance would be triggered if someone took £10,000 out of a £100,000 pot and paid tax on three-quarters of that money. But it would not be triggered if they took out £25,000 tax-free, as long as they did not withdraw a penny more.
“At first sight, this looks like a move away from the open market option, but we doubt that will be the effect; schemes will continue to offer it and, if they did not do, the member could still transfer.
“Instead, this corrects a flaw in the current legislation. In theory, a member buying an annuity could receive a tax penalty through no fault of their own if the scheme did not offer them a choice of provider.”