White-bearded workers: the pension master plan

Has the Government has done enough to get us to save more?

For those in their twenties or thirties, retirement seems a long way off. Before then, there are more pressing demands on our finances, such as paying off student debts or saving for a deposit on a first home.

For those in their twenties or thirties, retirement seems a long way off. Before then, there are more pressing demands on our finances, such as paying off student debts or saving for a deposit on a first home. Putting aside cash each month for something that isn't even guaranteed to happen – put bluntly, you or I could get run over tomorrow – is often at the bottom of a long list of priorities.

Such attitudes account for the Department for Work and Pensions' Green Paper on pensions – finally unveiled by the Secretary of State, Andrew Smith, last Tuesday – and the Inland Revenue's consultation document on the simplification of the tax system. The problem is that most of us aren't saving enough for retirement, deterred by an overcomplicated pensions regime. With research from Age Concern revealing that 59 per cent of people would save more or start pensions if they were easier to understand, simplification is vital.

Not all the suggestions in the Green Paper will reach the statute book. But there will inevitably be some changes incorporated into the Finance Bill, due to be implemented in April 2004.

For now, let's consider the proposals as if they will become law. So forget that pipe dream of retiring at 50. The Government wants us to work beyond 65 because many of us are likely to live well into our eighties, becoming a drain on the state's resources.

From 2006, under legislation designed to prevent age discrimination, it will no longer be possible to retire employees on the grounds of age. However, we won't be forced to work until we're 70: we will have the option to do so and, to soften the blow, will be able to withdraw an occupational pension at 65.

If you can't bear the thought of working until you're 70, the message is to act now to cover the shortfall. Most people aren't clear how much they need to save, but within five years, everyone will receive a full annual private and state pension forecast, with the aim of scaring us into saving more.

Relying on the state pension is riskier than ever, with no increase planned, and no overhaul of the current system. However, there's nothing in the Green Paper to encourage low earners to save – and what's there might even discourage them. "At retirement, a low earner with little or no savings will receive a state pension which will be topped up by the minimum income guarantee," says Mike Fosberry, director and head of pensions and financial planning at Smith & Williamson. "As a result, they may end up worse off if they make pension contributions."

The Government has shied away from forcing us to contribute to a personal pension, even though many industry experts believe compulsion is the only way to get us to save. "The continuing belief that enough people will save for their retirement voluntarily is naive," says Graham Duckett, pensions specialist at independent financial adviser The Millfield Partnership. "The poor take-up of stakeholder pensions indicates that no amount of leading them to water will make them drink."

The Government hopes, though, that making pensions simpler will be enough to encourage us to save. The existing eight different pensions tax regimes will be streamlined and, from 2004, annual contribution limits replaced by a single indexed lifetime limit of £1.4m. However, this figure is linked to retail prices; any adjustment may not fully reflect increases in earnings.

Old-style pension contracts will continue until a change- over date, when the new regime will apply. But any benefits already accrued will be safe. If you already have funds in excess of £1.4m you will not be penalised, but any further contributions would be subject to 35 per cent tax.

As before, you will be able to take 25 per cent of your fund tax-free, but the age at which you can do this is to be raised from 50 to 55 by 2010. If your pension pot really is small – less than £10,000 – this can be taken as a lump sum, 25 per cent tax free, with the balance taxed as income.

There will be some reform of annuities, the guaranteed income for life that you have to buy with 75 per cent of your pension pot. This will still have to be done by the age of 75, but if you die earlier and have an annuity, its value can be passed on to dependants, less 35 per cent tax. This would be more helpful if the tax rate was lower and there was no age restriction.

In the end, the Green Paper produced few surprises and it will take a long time before the useful proposals it does contain are introduced. "Yet another period of consultation has been proposed, condemning employers and individuals to more uncertainty and planning blight," says Tim Keogh, European partner at Mercer Human Resource Consulting. "Effectively, it defers any meaningful progress beyond the next election, which may have stark consequences for some."

Independent Partners: 10 top tips for retirement. Get your free guide here

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