New pension rules – high earners penalised for being prudent

Archived article

Archived article: please remember tax and investment rules and circumstances can change over time. This article reflects our views at the time of publication.

Many welcomed the recent Budget for not making further damaging modifications to pensions; however punitive changes announced in last year’s summer Budget come into force from Wednesday 6 April 2016.

We are constantly being told that self-provision is vital to ensure long-term prosperity, yet the avenues to providing self-sufficiency are constantly being eroded.

Free guide: how the new pension rules could affect you

Annual allowance reduced to as little as £10,000

Today UK residents under 75 can contribute tax efficiently up to what they earn into a pension, capped at £40,000 annually.

From April 6 the pension annual allowance is tapered down for those earning more than £150,000. It will fall by £1 for every £2 they earn over £150,000.  Some with lower earnings might also be caught. Those earning over £210,000 will be able to contribute a maximum of £10,000 each year.

To put this into perspective, a £10,000 annual contribution into a pension for 20 years with net growth of 5% per annum would result in pension fund worth almost £350,000 and a pension of just over £14,000 (if maximum tax free cash is taken).

Wealth Club - Tapered pension annual allowance

Lifetime Allowance reduction further blow

Another hammer blow to pensions is the reduction in the maximum value a pension can grow to in a tax efficient manner.  From 6 April 2016 unless a pension is “protected”, the maximum amount that can be held in it is £1 million. Anything over that will be punitively taxed when benefits are taken.

It’s not just the super-rich who could be affected. For instance, someone contributing £15,000 a year may well have a pension pot worth over £1 million after 30 years (assuming net growth of 5%).

Equally investors with a successful career and a final salary pension paying annual income of around £50,000 may not necessarily consider themselves amongst the wealthiest. Yet, if they keep accumulating benefits, they will most likely exceed the Lifetime Allowance and face a hefty 55% tax charge.

High earning sophisticated investors have alternatives

Wealth Club recently commissioned an independent survey and found that 60% of investors affected by the new rules would consider Venture Capital Trusts (VCTs), Enterprise Investment Schemes (EIS) and Seed EIS as alternatives.

These government-endorsed schemes invest in small companies – the lifeblood of the economy. They are riskier than investing in larger companies, but offer generous tax breaks to help compensate for these risks.

With the destruction of pensions for long-term retirement planning, high earners are turning to other tax-efficient investment schemes. Unlike a pension the annual allowances are extremely generous – up to £100,000 in SEIS, £200,000 into a VCT and £1 million into an EIS. 

Wealth Club - VCT, EIS and SEIS tax benefits comparison

Wealth Club aims to make it easier for experienced investors to find information on – and apply for – tax-efficient investments. You should base your investment decision on the provider's documents and ensure you have read and fully understand them before investing. This review is a marketing communication. It is not advice or a personal or research recommendation to buy the investment mentioned. It does not satisfy legal requirements promoting investment research independence and is thus not subject to prohibitions on dealing ahead of its dissemination.

Free guide: How to survive the tax raid on pensions

What do the new rules mean for you? What alternatives do you have? Download our free guide to find out.

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