Key Changes – Budget 2014

By Andrew Tully – MGM Advantage

 
George Osborne’s revolutionary budget introduced unprecedented freedom over how and when people take their retirement savings.  The following table outlines the likely legislative timetable to get the changes introduced.

	Immediate changes	April 2015 full flexibility
March 2014	Budget announcements 19 March. Finance Bill published 27 March	Budget announcements 19 March Consultation runs for 12 weeks
June		Consultation closes 11 June
July	Finance Act 2014 gets royal assent. Most changes backdated to 27 March 2014	Government issues response to consultation giving policy objectives by 22 July
Aug/Sept		Draft legislation published
October		Necessary Bills to implement change introduced into Parliament
January 2015	Pensioner Bonds to be introduced 1 January
Jan/Feb		Legislation gets royal assent (Fin Bill completed by year end if possible). Pens Bill may be slightly later
April		Legislation effective from 6/4/15

There are a couple of key dependencies within this table. The first is 22 July, when the Government has said it will issue its response to the consultation. As this is a policy paper it needs to be issued when Parliament is sitting. Parliament closes for summer recess on 22 July, and this year due to party conferences and the Scottish Independence referendum the recess is longer than normal. If that milestone is missed, the process becomes exceptionally tight.

There are likely to be two Bills – a Finance Bill with most changes, and a Pensions Bill which is needed for changes such as defined benefit transfers. Finance Bills don’t go to the House of Lords (HofL) so proceed through Parliament quicker, the Pensions Bill would go to HofL so would take longer.

And in 2015 we have a legislative backstop as a General Election will take place on 7 May 2015, which means Parliament is dissolved on 30 March 2015. There is also the possibility of ‘electioneering’ impacting on any legislation going through Parliament in the last few months before an election, particularly as the Coalition Government starts to diverge.

Despite the great flexibility which is being introduced, many people will need and want some certainty. That means products delivering guarantees and longevity insurance – annuities, or whatever they may be called after April 2015 – will remain, for the majority, the most secure option of guaranteeing a lifelong income.

People will still need a retirement income and advisers will play a key role helping people to make responsible decisions on how to secure that retirement income. In the coming weeks we'll release four further chapters which we hope will guide you through the next year:

·         What will people do in the run up to April 2015?

·         Risk: future of annuity rates

·         What will the retirement world look like after April 2015?

·         What the market may look like after April 2015?

What does it all mean?
While people will have much more flexibility from April 2015, many people will want at least some level of secure income for life – a hedge against living too long. Many retirees are naturally conservative so while increased flexibility may have some appeal, they will also want to make sure they have long-term guaranteed income.

People will need tax planning as to how and when to take their benefits. While taking it all in one go may sound appealing on an emotional level, this means they are likely to pay more tax than taking it gradually, as and when needed. People don’t like paying tax and so they will want to phase income over a longer period.

What has changed?
Investors will have increased flexibility to meet short and long-term needs like never before. And on an emotional level, clients may have a kneejerk reaction which drives them towards taking a lump sum from their pension. Advisers will hopefully help people move away from this immediate emotional response towards working out the best strategy for taking a retirement income.

Many people with smaller funds will be attracted to cash - rather than buying an annuity - and many investors will be attracted to drawdown.

There are a couple of key risks at opposite ends of the spectrum:
Some investors will spend too quickly and face a fall in their standard of living later in retirement
Some investors will believe putting money in their bank account, or other conservative investments, is better than leaving it in their pension. This may mean they are ‘excessively conservative’ withdrawing less income than is sustainable, as they fear seeing their savings reduce in value.

Annuities help with both of these risks, allowing people to draw the highest level of sustainable income, and in the case of the Flexible Income Annuity tipping that balance so, for example, allowing a higher income to be withdrawn in the early years. While also giving certainty that an income will always be paid, no matter how long the individual lives.

With this increased flexibility and choice there is a need for more specialist advice. Access to advice and guidance will be key.

What hasn't changed?
While the Budget has introduced new flexibility now, and dangled unprecedented flexibility like a carrot, available from April 2015, it’s important to appreciate client needs now are exactly the same as they were before the Budget – there are just more choices available to meet those needs.

An overwhelming need for many retirees is that they still don’t want to run out of money or suffer a dramatic fall in their standard of living. Their attitude to risk and capacity for loss will also be the same as it was before the Budget.

From an adviser perspective, FCA suitability guidance hasn’t changed as yet and most in-house compliance guidelines haven't yet been changed. So it remains unclear how FCA will consider putting those with small funds (eg below £100,000, but especially those with sub-£50,000 pots) into income drawdown. And it will be difficult for any adviser to justify advising those clients with a low attitude to investment risk – so, for example, those 4 and below (on a 1-10 scale) – to open an income drawdown product, even if it is just a temporary solution for 1 year. Even over that short period (and you could argue especially when it’s just for that short period) it could have a significant impact on the client’s capital and their future income.

Annuities remain the only investment which provides insurance against longevity risk - so people don’t run out of money regardless of how long they live. ‘They do come with ‘change risk’ as people may not be able to access flexible solutions after April 2015 with any money held in an annuity.

However phased retirement income strategies can be used to maximise tax efficiency and give flexibility. For example, using part of a customer’s pension pot now to purchase an enhanced or investment-linked annuity, giving them some tax-free cash and income to meet their needs between now and next April. This also builds in a certain level of guaranteed income for life. The remaining pots can be kept uncrystallised – benefitting from 100% death benefits should the client die between now and April 2015 – which will then give flexibility to decide on the appropriate solution after we enter the new world after April 2015.

Copyright © 2014 MGM Advantage, All rights reserved.

Mind the retirement gap of £100,000*

*Or £200,000 if you want your income to rise with inflation and provide for your spouse

Here at MGM Advantage, we've calculated the current retirement funding gap. By analysing official data, we've worked out the pension pot required to bridge the gap to provide two-thirds salary, which according to new research¹, is the average ideal retirement income.

The gap is £5,954 a year for the average retiree, which would require a pension pot in the region of £100,000 using an annuity, or £200,000 if you want your income to rise with inflation and provide for your spouse. These figures do not include people taking any tax-free cash from their pension, so in reality the pension pot required is likely to be larger.

Average income before retirement2	£33,288
Aiming for 2/3rds salary in retirement	£21,970
Current average income in retirement3	£16,016
Income gap	£5,954
Retirement funding gap4	£100,000

These figures show the true scale of the problem facing people approaching retirement. There is a chasm between savings and the ‘ideal’ retirement income, which should serve as a wake-up call for many people.

The scale of the challenge becomes even scarier if want your retirement income to keep pace with the cost of living and provide for your spouse. There are options for people who might have left saving for retirement too late, for example you could consider delaying retirement, continue to work part-time, use equity release or even downsize your home.

The recent changes brought about by the Budget potentially provide more choice for people looking to generate a retirement income. But you still need a sizable pension pot or other savings to draw on to provide a sustainable income. Seeking professional financial advice can make a big difference to the value of the retirement income you could get.

The numbers show some wide variations on a regional basis⁴, with people retiring in the North East and East of England faring better than those in the South East and London.

Tips to a better retirement

• From April 2015, you can use your pension savings any way you like. The first 25% can be taken as tax-free cash, and the remainder used as you wish (all income or capital withdrawals subject to your marginal rate of tax at the time)
• Consider when you want or need to take your benefits – both state and any private pension. You don’t have to use them at ‘traditional’ retirement ages, or when you stop working
• If you have a small pension pot (individually below £10,000 or up to three valued at less than £30,000) you may be able to take the whole pot as a lump sum under the current ‘triviality’ rules (from April 2015 you will be able to take the whole pension as cash, subject to marginal tax rates at the time)
• If an income is important to you, consider all the different options available to you, such as an annuity, an investment-linked annuity and income drawdown. Each of these comes with different risks – income from drawdown or an investment-linked annuity could fall in future (although hopefully it will increase)
• Consider the ‘cost of delay’ – if you are looking for a secure lifetime income, then an annuity is likely to be your safest option. By delaying any decision until next year, you are losing out on income this year, which could take many years to make up
• Think about how much flexibility you need over your income, bearing in mind you may be in retirement for 20 plus years. And if you want to protect your spouse or partner if you die
• With annuities the income is guaranteed but may come with the risk of inflation which means the income you receive may not buy as much in future – you can protect your income from inflation but this comes at a cost
• If you buy an annuity don’t just buy it from the company you saved with. Make sure to shop around other providers, giving full information about your health and lifestyle – this can help you get a substantially bigger income
• Consider taking independent advice. It’s important to get it right. A qualified adviser can help you do that.

Notes

1. Source: MGM Advantage research among 2,028 UK adults aged 18+, conducted online by Research Plus Ltd, fieldwork 17-22 October 2013. The ideal average retirement income was 67% of pre-retirement earnings.
2. Source: ONS ASHE survey 2013, average income for full-time employees aged 50 and over.
3. Source: MGM Advantage analysis of ONS data, The Pensioners’ Income Series 2011/12 for a single pensioner. The figures include all gross income including Social Security Benefits (including Housing Benefit), earnings from employment, private pension income and tax credits.
4. Source: based on current annuity rates, a pension pot of £100,000 would generate an annual income of £5,954 (age 65, single life, level, nil guarantee) or £200,000 would be required at age 65 for an income rising in line with inflation and providing a 50% spouse benefit (spouse is age 62).
5. A map of the regional differences is available from the downloads section of this site.