Protect your pension and retirement plans from Osborne's tax grab
Careful planning can help alleviate the Chancellor's decision to freeze and then abolish the higher personal allowance for the over-65s. By Julian Knight
Sunday 25 March 2012
'Work till you drop", "Granny tax bombshell" and "Cut! Cut! Cut!" were a few of the less hysterical headlines to greet last Wednesday's Budget. Tax cuts for the rich and for low and middle earners were paid for by what has been dubbed an attack on pensions, pensioners and those about to retire.
No fewer than 4.4 million older people will lose their favourable tax allowance from next April, while others will see their pension hopes damaged. And the pain isn't just reserved for middle-aged and older Britons; the Chancellor outlined plans to link the age that people can receive a state pension with longevity. As a result, someone who is now 33 could be waiting until they are 73 or older to qualify for a state pension. No wonder there were howls of protest from opposed bodies – from the trade union Unison to The Daily Telegraph.
But looking behind the headlines, what do the Chancellor's changes mean to your finances and what strategies can you deploy to ensure you protect yourself and your family?
"Millions will be affected by these changes and it's not just the elderly. It will filter down the entire income and age scale," says Ana Sofat, a director of the independent financial advice firm Addidi Wealth. "But, if I were to pick a group which have to take action now, off the back of these changes, I'd say middle-income people in their forties, fifties and sixties."
The so-called "granny tax" will see personal allowances frozen for the over-65s, while those reaching that age after April 2013 will no longer be able to claim the higher age-related allowance at all. Ultimately, the idea is that the standard personal allowance will reach the level of the higher-age allowance, but this will take time to achieve. In the meantime, 4.4 million people will be missing out on up to £259 a year.
"You may not be able to do much about when you were born, but you can and should be able to do a lot around paying tax at the lowest rate possible as a couple, using simple planning tools," says Chas Roy-Chowdhury, the head of taxation at the Association Chartered Certified Accountants.
People who are married or in a civil partnership have the most weapons to minimise the impact of the Chancellor's tax grab, he says. "If you are a married couple or in a civil partnership and one of you does not receive income which fully utilises your personal allowance of £9,205 – or for the over-65s the higher age-related allowance – then you should look to transfer income between the two of you, either from savings, share holdings or pensions so that both your allowances are fully used."
These tactics don't just apply to those hit by the personal allowance changes. The 325,000 Britons set to be dragged into the 40 per cent income tax band over the next two years, according to research from the Institute for Fiscal Studies, should also take action, says Mr Roy-Chowdhury.
"Exactly the same applies where one spouse is about to hit the 40 per cent tax band. You should transfer across in exactly the same way in order to ensure that the 20 per cent tax-paying spouse has more income."
But no matter what tax tactics you take, it may be impossible to avoid the fallout from the end to age-related allowances and highly likely changes to the state pension.
"This Budget should provide a massive wake-up call for Britons," says Carl Melvin, a director of the Paisley-based Affluent Financial Planning. "The message is loud and clear: you are on your own and have to make your own provision if you want to avoid retirement poverty.
"For too long, people have been sleepwalking towards thinking their employer, the Government or £50 a month into a private pension will provide, but it won't," Mr Melvin adds.
Mr Melvin's prescription for what to do is pretty straightforward: "You have no option but to save more. Look at your expenditure and divide it between what is necessary and what is discretionary. Then you need an emergency fund and to look at using the remaining money to build up your assets and potential future income."
Mr Melvin also advises individuals to carry out a pensions audit to check how much they can expect from the soon-to-be-reformed state second pension – likely to be folded into a beefed-up basic state pension at £140 a week – as well as any cash in private or workplace schemes. "You should get independent advice to see how far away you are from achieving the goal of a comfortable retirement and then plan out what you need to do to get there," Mr Melvin says.
A combination of individual savings accounts (ISAs) and pensions are the way to go, according to Ms Sofat: "I'd say if you are younger, in your twenties or early thirties, then you should be looking at maximising your annual ISA allowance as this money can be accessed any time rather than tied up for 30-plus years. At the same time, you should start paying into a pension so you can make the most of the fact that contributions are tax-free, and gradually increase contributions."
Crucially, although pensions enjoy a bigger initial tax-break, annuity income is taxable whereas money drawn from an ISA is tax-free. "It's best to look at a pension as providing the core of your retirement income provision and around that have ISAs to draw on to meet one-off and discretionary expenditure such as a holiday or a new car in retirement," Ms Sofat says.
As for property, Ms Sofat reckons more Brits will have to fall back on their homes to provide an income: "As a result of the Budget changes, it's more likely that Britons fortunate to have equity in their home will have to use this to supply retirement income, through products such as equity release. I can't see much being passed down to the younger generation."
Expert view: Chas Roy-Chowdhury, ACCA
"The challenge of achieving a comfortable retirement has become tougher as a result of this Budget, what with the changes to personal allowances and the state pension. In particular, the changes to allowances make it crucial that people take tax-planning advice and look to maximise their own and their spouse's allowances. Every tax-break penny counts."
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