"There's a way you can increase the value of your savings by almost 30 per cent overnight," the letter reads. "Just transfer the value of your PEP into a Virgin Personal Pension. The Government is so keen to encourage you to save for your retirement, they're willing to hand out some great tax breaks."
Virgin has confirmed that some of its PEP investors have transferred funds to personal pension contracts after consulting the company's financial advisers, but insists that the campaign complied fully with regulatory criteria.
Gordon Maw, Virgin Direct's marketing manager, defends the initiative. "Everyone who responded to the letter has spoken to our fully qualified money managers," he says. "They spend anything up to an hour discussing the customer's objectives, retirement planning and the advantages and disadvantages of PEPs and personal pensions."
The Virgin campaign has provoked criticisms of superficiality from some competitors, still feeling a little raw from the stigma of pension mis- selling and gob-smacked by another piece of Virgin chutzpah. On the face of things, however, Virgin may have laid itself open to allegations of "misbuying".
The Virgin letter concentrates almost exclusively on the tax relief that attends pension contributions and does not attempt to distinguish between PEPs and personal pensions as savings instruments. But there are significant differences between the two types of contracts.
In essence, the pension is an authentic "life cycle" product. It designates a period of time for capital accumulation (a working life), in which the investor has no access to the capital or benefits, followed by a designated period of consumption (retirement), with a taxable income generated by an annuity, after extraction of a tax-free lump sum of up to 25 per cent of the fund. The quid pro quo for this restrictive process is generous tax relief in the accumulation phase of the cycle.
By contrast, the PEP is not a natural "life cycle" product. There is unrestricted access to the benefits at all times, and capital does not die with the investor. There is no tax relief on contributions, but benefits are available tax-free at any time.
The PEP was conceived as a tax-efficient vehicle for capital growth through equity investment. However, the 1994 budget widened the range of eligible assets to include corporate bonds, convertibles and preference shares, This paved the way for corporate bond PEPs, dedicated to generating tax- free income and so enabling the PEP to come into its own as a bona fide vehicle for retirement planning.
The decision to transfer PEP capital into a pension contract should clearly be based on wider considerations than tax relief at the point of transfer. But there is no evidence of ulterior motives on the part of Virgin other than "best advice". Virgin will not be extracting additional charges, and its advisers are not remunerated by commission.
The broader question is whether the PEP can be an adequate substitute for the pension, given the latter's superior tax efficiency. Not surprisingly, it accumulates more capital than any PEP. On the income side, the outcome is murkier.
In our tables, the pension income is calculated by applying current annuity rates to the final pension fund and adjusting for income tax paid. The PEP income is calculated by applying the current tax-free yield on the respective providers' corporate bond funds to the PEP capital amassed.
It would appear that single, basic-rate taxpayers (in retirement) are probably better off pursuing the conventional pension route. Married higher- rate taxpayers are likely to be the major beneficiaries of retirement planning through PEPs, especially as they enjoy superior capital access and the capital does not "die" when they do.
The scope for adopting the Virgin stratagem is limited by reigning personal pension funding allowances. At present, the investor can make regular contributions up to an age-related percentage of "net relevant earnings".
In addition, the investor can pay in up to six years of "unused relief" (ie pension contributions that could have been paid but have not been). This defines the limit that can be transferred from the PEP to the pension. The Virgin proposition clearly favours older investors who have higher regular pension allowances. Furthermore, the effect of one-off tax relief on the transfer is obviously more favourable the nearer the investor is to retirement.
One further caveat for anyone weighing up the merits of PEP and pension: on no account should the annuity rate used in the pension illustration be taken at face value.
All pension providers use a common set of rates for projecting income, and these may not reflect the rates that are actually available on the open market. For example, the Virgin Personal Pension illustration uses a rate of 10 per cent annually for a male aged 60, whereas a more representative rate is 8.13 per cent. For a married couple (both aged 60) the situation is much worse. The going rate for a joint life annuity is only 6.8 per cent. Rates are currently falling.
The pension provider can legitimately argue that, for long-term pension projections, it is not possible to foresee interest rates and that a standardised set of annuity rates is the only option. Such anomalies are not exclusively the fault of providers. They also stand as a monument to a regulatory disclosure regime that seeks to inform investors by providing misleading information. Caveat emptor!
The Virgin proposal appears to favour:
n Single people;
n Higher-rate taxpayers now, who expect to be basic-rate taxpayers in retirement;
n Older investors (eg the over-50s);
n Those with comparatively few years to selected retirement age.Reuse content