The Chancellor's unexpected pension announcement this week making it easier to pass on tax savings at death has been widely welcomed.
But pension experts have also expressed a number of concerns. These include the "cliff edge" at age 75, people being tempted to transfer out of company pension schemes, and pensioners being encouraged to take on too much investment risk.
Under the new rules, beneficiaries stand to gain tax-free windfalls or a favourably taxed income from a benefactor's pension fund on death.
Earlier this year, George Osborne dropped his first pensions bombshell by announcing that from April 2015 it will no longer be necessary to buy annuities as it will be possible for pension holders to take their accumulated savings out of their pension plan, subject to tax.
Fears that pensioners may blow their pension funds on Lamborghinis were already looking unlikely. The latest proposals will make it even less likely that they will do so. There will be a much greater incentive to leave money invested in a pension fund. But it has highlighted the need for people to receive tailored financial advice at retirement rather than the generalised information that they are likely to receive under the government's proposed pensions guidance guarantee.
In future when someone under the age of 75 dies, their pension fund will be able to go to their nominated beneficiaries completely tax- free. If they are 75 or over when they die, beneficiaries will only pay their marginal tax rate on any income taken or 45 per cent tax if the money is taken as a lump sum.
Like most advisers, Gregor Johnston, director at independent financial advisers Fitzallan in Glasgow, welcomed this week's news. He says: "There is no doubt that, for the individual pension investor, the changes are positive ones. There is now no longer any reason not to put money into a pension. Previously the flat-rate 55 per cent tax on pension funds which kicked in if people died at 75 or older was influencing investor behaviour.
Now they can relax knowing that the benefits from their fund will be taxed at the 'marginal' income tax rates of the beneficiaries who receive them. And by planning carefully, beneficiaries can minimise the tax they pay on this income."
David Trenner, technical director at the Glasgow based retirement income advisers Intelligent Pensions, approves of the change but admits: "One thing which disturbs me about the taxation aspect is the 'cliff edge' at age 75. What if someone with a £200,000 pension fund is in hospital just before their 75th birthday, and the relatives know they will potentially be £90,000 better off if death occurs beforehand. I do not believe in creating cliff edges that are outside people's control."
Another problem arises for members of final salary pension schemes who will not have the same amount of flexibility as those with investment-based, defined contribution schemes. Their options at death will depend on the scheme rules. It means they may be tempted to forfeit the security of this type of scheme and switch to a personal pension instead.
With a personal pension, investors can take out their tax-free lump sum, and a regular income via a drawdown plan, and still leave the balance to their beneficiaries on death.
However, drawdown plans also come with caveats. The value of the pension fund will depend on the value of its investments, which can fluctuate in value. Mr Johnston says: "Drawdown plans provide an insecure income compared to an annuity. They will only be appropriate for people who are willing to take some risk."
Self-directed investors may not be aware of the risks. Mr Trenner says: "I think some people who haven't got enough money will go into drawdown, particularly the self-advised, and research has shown that self-advised investors invariably achieve lower returns than advised clients. It is almost always due to (bad) market timing, selling when markets fall and buying when they have gone up."
Perth-based independent financial adviser Douglas Baillie points out: "Income drawdown plans don't have to be just equities. People can reduce risk by having a balanced portfolio including bonds and property funds." However Mr Baillie, who will soon be relaunching his website comparemypension.com, admits he is concerned about new investment products being developed for this market which will be poor value.
He warns: "Products that include capital guarantees are often complex and too expensive. If people are risk averse they should stick to annuities."
The chancellor's proposed measures may provide a halfway house. Mr Trenner points out that the lump sums paid out by capital protected annuities, which refund any difference between pension paid and the amount invested, when somebody dies will also be covered by the Chancellor's new tax measures. He says: "This is possibly one of the most sensible things to come out of the tax change."
Experts are expecting a renewed in interest in pensions. In recent years, many people have turned to ISAs because of their greater flexibility. But they have missed out on the tax relief given on pension contributions. However, advisers have warned that a new government may take a different approach. So combining ISAs and pensions is probably still a good idea.
Why are you making commenting on The Herald only available to subscribers?
It should have been a safe space for informed debate, somewhere for readers to discuss issues around the biggest stories of the day, but all too often the below the line comments on most websites have become bogged down by off-topic discussions and abuse.
heraldscotland.com is tackling this problem by allowing only subscribers to comment.
We are doing this to improve the experience for our loyal readers and we believe it will reduce the ability of trolls and troublemakers, who occasionally find their way onto our site, to abuse our journalists and readers. We also hope it will help the comments section fulfil its promise as a part of Scotland's conversation with itself.
We are lucky at The Herald. We are read by an informed, educated readership who can add their knowledge and insights to our stories.
That is invaluable.
We are making the subscriber-only change to support our valued readers, who tell us they don't want the site cluttered up with irrelevant comments, untruths and abuse.
In the past, the journalist’s job was to collect and distribute information to the audience. Technology means that readers can shape a discussion. We look forward to hearing from you on heraldscotland.com
Comments & Moderation
Readers’ comments: You are personally liable for the content of any comments you upload to this website, so please act responsibly. We do not pre-moderate or monitor readers’ comments appearing on our websites, but we do post-moderate in response to complaints we receive or otherwise when a potential problem comes to our attention. You can make a complaint by using the ‘report this post’ link . We may then apply our discretion under the user terms to amend or delete comments.
Post moderation is undertaken full-time 9am-6pm on weekdays, and on a part-time basis outwith those hours.
Read the rules hereComments are closed on this article