Route Group Quarterly Newsletter

A-Day: Has ‘Simplification’ been achieved?

As we approach the first anniversary of A-Day (April 6th) it is worth assessing whether the new pensions ‘Simplification Regime’ has achieved everything it set out to do.

The first thing to observe is that it is not possible for the new regime to achieve everything it set out to do - for the simple reason that many of the major initiatives have been scrapped!

Indications that the new regime was headed for a difficult birth first surfaced in the guise of the Treasury’s sudden loss of nerve over the ability to hold residential property in pension funds.  That this was originally intended to be one of the defining features of the new regime was never in doubt: HMRC had even gone as far as publishing the formulas for calculating the benefit that would accrue to the member if they (or a family member or associate) enjoyed use of the asset.  However, concerns about the degree of tax loss that would be suffered from the wholesale dumping of residential properties and holiday homes into tax-exempt pension funds led the Chancellor to “clarify”, in the December 2005 Pre-Budget Report, that direct holding of residential property in pensions was never intended to be possible…

Of course ‘tweaks’ to legislation between drafting and implementation are commonplace, but further indication that the Simplification Regime might be destined to suffer more than most came in February 2006, when HMRC announced that it would apply an unauthorised payment charge (a tax rate of 55%) to any pension lump-sums in excess of £15,000 that were reinvested into pensions – a move designed to counter a practice known as ‘turbo-charging’.  Whilst arguably turbo-charging per se was never intended to be a feature of the new regime, the legislation as originally drafted permitted its operation.  However, the legislation was changed, and another feature of the new regime was scrapped before it could get off the ground.

Hopes that all of this was just last minute revisions to legislation, and that once A-Day had passed the rules would be set in stone, were dealt a blow in the final quarter of 2006 when the Government began to make it clear that it was concerned that ASPs (Alternatively Secured Pensions – another new initiative ushered in with the new regime) were open to abuse and could be manipulated to achieve an unintended Inheritance Tax advantage.  The result: changes were announced in the December 2006 Pre-Budget Report that will have the effect of emasculating ASPs and rendering them little different to the very Income Drawdown schemes which they were supposed to provide an alternative to.

As if the attack on ASPs was not enough, the Pre-Budget Report also let it be known that the Government was uncomfortable with the ability to buy high levels of tax-relieved life cover through pensions (again, a feature of the new regime) and that it intended to ‘review the regulations’.  Given the demonstrated ability to review regulations to the point where they no longer existed, the effect of this announcement was that pension life cover providers immediately withdrew their products from the market – fearful of miss-selling claims that would follow if they didn’t.  Two months on we are still waiting for the results of that review, although initial indications are beginning to filter through that the product will return, but with maybe as much as a 70% reduction in the maximum level of cover available.

The concern now, of course, is that the changes made so far are not the end of the story, and looking at the legislation as it stands it’s hard to imagine that HMRC will not be looking long and hard, soon, at the ability to make an almost unlimited contribution into pensions in the year immediately prior to retirement.

Whilst the changes noted above are the ones that have tended to grab the headlines, it is worth noting that HMRC’s ‘occasional’ Pensions Tax Simplification Newsletter, which is used by HMRC to advise of changes to the rulebook, has now reached Issue No.24 – fourteen of those newsletters having been issued since A-Day.  Someone somewhere in Government must be beginning to rue the day they coined the term ‘Simplification’!

However, it’s not all bad, and if the only thing that had been introduced was the freeing up of annual limits and the bringing in of a universally understood, and universally applicable, lifetime limit, then A-Day would still be worthy of praise (and at the rate things are going, the annual limit and the lifetime limit may be the only things to survive…)  And at this point, as we near the end of the first year of the new regime, it’s worth reminding that, dependent on your level of income, contributions of up to £215,000 are possible up to April 5th, with contributions of up to £225,000 being possible immediately after – creating an immediate combined pension fund of £440,000 and giving rise to total tax relief of up to £176,000.

End of year Tax round up

As ever, the impending end of the tax year should focus the mind on aspects of financial planning that should be considered ‘good housekeeping’.

Maximum funding pension contributions, of course, has already been mentioned, but it’s worth remembering that everyone, even children, can pay (or to have paid on their behalf) at least £3,600 into their pension arrangements each year.

Use should also be made of ISA allowances if these haven’t already been addressed within the tax year, and off the back of a healthy year on the stock market, consideration should be given to taking sufficient profits to utilise the annual Capital Gains Tax exemption (£8,800 per person this year) – possibly, where applicable, using these profits to cover the ISA contribution.

And although most tax exemptions are offered on a ‘use it or lose it’ basis, the Inheritance Tax Annual Gift Exemption (the right to gift £3,000 per annum exempt from Inheritance Tax) rolls forward one year if it is unused.  Under this concession it is possible, if last year’s gift exemptions have not been utilised, for a couple to gift £18,000 to their children over the next few weeks (each parent gifts last year’s £3,000 and this year’s £3,000 prior to April 5th, and a further £3,000 immediately afterwards).

Although the annual gift exemptions are available by right, significantly higher gifting is possible if that gifting forms a regular pattern and can be demonstrated to have come from income rather than capital – known as Gifts Out Of Normal Expenditure.  Establishing a pattern early is key, and so visiting this strategy before the tax year is out is advisable.

Budget 2007

Our next newsletter will deal with what is widely assumed will be Gordon Brown’s final Budget, on March 21st.  As usual, we won’t know ‘til the day what he has up his sleeve, although it seems likely that we should expect the proposals put forward by Ed Balls in his ISA review last December to be confirmed: namely that ISAs should become a permanent feature, together with the scrapping of the Mini/Maxi distinction and, with it, the establishment of a common annual subscription limit of at least £7,000.