As we know, QROPS have largely been left unaffected and the really interesting changes have occurred to UK schemes, such as Self Invested Personal Pensions. For example, it's been clearly stated that the government will be addressing the 55% tax charge on post retirement death benefits which has typically been a bugbear for most and has been one of the key drivers behind transferring to a QROPS.
Now, even the most optimistic of us folk couldn’t expect this to reduce to zero to match the unrivalled post drawdown death benefits afforded by most QROPS jurisdictions. As of course, the 55% tax charge is only payable on death benefit lump sums paid from ‘crystallised funds’.
The death benefits payable from ‘uncrystallised’ funds are identical between QROPS and SIPPs. Also, a death benefit lump sum is not the only option, there are number of other alternatives available to dependants and beneficiaries of pension schemes which we won’t explore here.
However, with the potential changes to be introduced into the UK pensions arena from April 2015, we can explore an opportunity for advisers and their clients to manage this 55% tax charge and potentially steer clear of the charge altogether, while still accessing and drawing down their pension benefits in a flexible, tax efficient way.
“The art of drawdown"
Most of you will already be aware of a retirement option called phased drawdown. For those of you that aren’t, phased drawdown is taking a mixture of ‘tax free’ lump sum and resulting maximum pension to pay a select level of income.
An example: Mr Westwood aged 55 has decided to take up part time hours and start winding down before retiring to the golf course ‘full time’.
He requires an extra £10,000 to make up the reduction in earnings and increase in green fees and has a £500,000 pension that he can use. As he has no need to take his maximum ‘tax free’ lump sum, effectively putting £125,000 into his estate, his well-informed adviser therefore opts for phased drawdown.
To receive £10,000 he only needs to use £34,000 of his pension. He can take 25% of the £34,000 which gives him a lump sum of £8,500. The remaining £25,500 is put into drawdown. He can then take the resulting pension of £1,500 on top of his £8,500 lump sum.
As he has only crystallised £34,000 of his pension, the remaining £466,000 is still ‘uncrystallised’ and not subject to the 55% tax charge. This can be repeated in the following years, but of course he will already have the £1,500 pension from the first event and so his requirement in the second year is now only to crystallise enough fund to give an extra £8,500.
We will see that as a result of the flexibility within UK pensions, only a sufficient amount of the fund is ‘crystallised’ in each event in order to fulfil the member’s selected level of income, leaving much of the remaining fund ‘uncrystallised’ and therefore not subject to the 55% tax charge.
So why are we talking about phased drawdown if it has been around and used by many advisers for a number of years? Well, with the impending changes to the way members can access their pensions from UK defined contribution schemes, the art of phased drawdown has all of a sudden become a lot simpler and even more efficient.
If we repeat the example as above under the proposed changes outlined in the Budget; Mr Westwood, in need of £10,000 per annum from his £500,000 pension will only need to use £10,000 of his pension.
He can take 25% of the £10,000 which gives him £2,500 and the remaining £7,500 is put into drawdown. As the client will no longer be restricted to the widely used GAD rates, the £7,500 can be taken as a pension along with the £2,500 lump sum thereby providing £10,000 to Mr Westwood. The entire remaining fund (now £490,000) is still ‘uncrystallised’ and not subject to the 55% tax charge.
Of course, the pension paid from phased drawdown is still taxable at source in the UK. But with over 130 Double Taxation Agreements, there is potential for pension income to be relieved at source and taxed in the country of receipt (if taxable at all).
While it may still sound relatively complex, there are experts out there with a wealth of knowledge and expertise to carry out all of the necessary calculations for advisers for phased drawdown.
