What is a Pension?
In simple terms, a Pension scheme is just a type of savings plan to help you save money for later life. It also has favourable tax treatment compared to other forms of savings.
Personal Pension
A personal pension is a relatively simple pension contract that allows you to save for retirement by way of pension contributions that attract tax relief, meaning that for every pound you invest, the Government will pay in a top-up amount as well. These pension contributions are normally invested into the financial markets or a governed portfolio on your behalf as suggested by your consultant, with a view to generate the best return for your money in relation to the amount of risk you are comfortable taking. When you retire you can take up to 25% of your pension as a tax-free lump sum (in one go, or spread over a number of withdrawals depending on the provider), with the remainder of your pension pot used to take an income or retained to pass on to future generations.
A personal pension is particularly suitable for those who don’t have (or aren’t eligible for) a workplace pension and do not require the flexibilities that a SIPP would provide, or those that have sufficient other retirement provisions/assets and are looking for a suitable home for pension savings they are likely to pass on to future generations.
What is a SIPP (Self-Invested Personal Pension)?
A self-invested personal pension (SIPP) is a type of personal pension. The main difference between a SIPP and a standard personal pension is that with a SIPP, you have more flexibility with the investments you can choose.
Most SIPPs allow you to select from a range of assets, which includes but is not limited to:
• Unit trusts
• Investment trusts
• Government securities
• Insurance company funds
• Traded endowment policies
• Some National Savings and Investment products
• Deposit accounts with banks and building societies
• Individual stocks and shares quoted on a recognised UK or overseas stock exchange
• Commercial property
At Integrity Wealth, the most common reason we recommend a bespoke SIPP is to purchase commercial property such as the operating offices, shop or factory premises of a business, using the pension funds of its owner/director. This means future rent (payable at fair market value) is paid into the owner/director’s tax-efficient pension scheme as opposed to a private landlord or council. A SIPP can borrow up to 50% of its net value to help buy commercial property. It is also possible to develop property through a SIPP, with most providers permitting this as long as:
• The work increases the value of the building
• The provider has seen a range of quotes and the construction is carried out by an independent contractor who is registered under the Construction Industry Scheme
• The providers receives written confirmation of all the work being carried out
• All costs associated with the development are paid from the SIPP
SIPPs have a wide range of investment choices and freedoms and as such you can tend to pay higher charges than you would with other personal or stakeholder pensions. For these reasons, SIPPs tend to be more suitable for large funds and/or for people who are experienced in investing.
What is a SSAS (Small Self-Administered Scheme)?
A Small Self-Administered Scheme (SSAS) is a pension trust set up by a limited company or a partnership. SSASs are primarily set up by private and family run limited companies for the benefit of the owner directors and senior employees (fewer than 12 members). The members are also trustees and so have control and flexibility over the Scheme assets and investment choices in a tax efficient environment.
There is no need for all members of the scheme to be employed by the same company provided the scheme is originally established by a company for the benefit of one of its employees. This means that the directors of a company who are in a SSAS can enrol other family members in the scheme irrespective of their employment status.
In addition to the usual tax exemptions available for pension arrangements, SSASs can offer other benefits for entrepreneurial business owners including:
Purchasing commercial property to be leased back to your business (or third party) - A SSAS can be used to purchase commercial property such as the operating offices, shop or factory premises of a business, using the pension funds of its owner/director. This means future rent (payable at fair market value) is paid into the owner/director’s tax-efficient pension scheme as opposed to a private landlord or council. A SSAS can borrow up to 50% of its net value to help buy commercial property. It is also possible to develop property through a SSAS, with most providers permitting this as long as certain criteria are met.
Loans to the sponsoring employer - To protect the scheme, a SSAS provider will be looking to ensure the company can repay the loan under the SSAS Loanback rules. There are five key tests that any SSAS loan must meet to avoid tax charges:
1) A 5-year maximum term
2) Capital and interest repayments in equal instalments at least annually
3) Maximum loan limit of 50% of the SSAS net assets
4) Interest rate is at least 1% above current base rate (can be agreed at a higher rate as long as this is on commercial terms)
5) Security must be in place
Investing in your company by buying an equity stake - A SSAS can invest up to 5% of the fund value in the shares of the sponsoring company. A SSAS can potentially own 100% of a company's shares so long as the value doesn't exceed 5% of the value of the SSAS.
To ensure that exemption is obtained from elements of the Pension Acts and Department for Work and Pensions legislation, all members are trustees and all decisions on investments unanimously agreed. Investments are held in the names of the trustees and are therefore in common ownership with no specific asset allocated to any one member. This makes the ownership of properties, for example, much more straightforward than the joint ownership of a property between three or four self-invested personal pensions (SIPPs), as there is only one registration and lower legal costs.
There is also the advantage that if one member should wish to leave, the use of general scheme liquidity or borrowing against the assets of the scheme can facilitate payment. As the assets within the scheme are held in trust they are protected from company and personal creditors.
The all-round flexibility and cost effectiveness of a SSAS, linked to the tax benefits it can bring to a sponsoring employer, often make it the pension vehicle of choice for the director-controlled company.
What is Pension Drawdown?
Income drawdown, sometimes called pension drawdown, is a way of taking money out of your defined contribution pension to live on in retirement, from the age of 55 or above. With income drawdown, when you come to retire, you remain invested and take money out of, or 'draw down' from, your pension pot. Since the money you don’t take stays invested, usually in a diverse portfolio of investments, there is the risk that your fund may fall in value. The upside is that investment growth can provide higher returns and see your pot continue to increase in value, even as you draw upon it.
There have been three main types of income drawdown:
Flexi-Access Drawdown - All new income drawdown arrangements set up after 5 April 2015 are known as flexi-access drawdown Under flexi-access drawdown, you can take up to 25% of your pension savings tax-free upfront. ‘Tailored Drawdown’ or ‘phased drawdown’ is a bespoke version of flexi-access that allows you to take chunks of tax-free cash as-and-when required over retirement, controlling the remaining taxable income to suit your needs at the time*. There are no limits on how much income you can withdraw from your remaining pension savings. You could: withdraw all of it in one go, take regular monthly or annual payments, or take a series of lump-sum payments as and when you want them.
If you took out pension drawdown before 6 April 2015, there were two types:
Capped Drawdown - remains available to those who took out a plan before 6 April 2015 and some plans allow further pension funds to be added to the existing capped drawdown plan. Capped drawdown places a limit on how much you can draw from your pension pot each year, in line with rules set down by the government. The maximum income you can take is broadly 150% of the amount you would have received each year if you'd bought an annuity. If income stays within these defined limits the money purchase annual allowance (MPAA) isn’t triggered – the MPAA places a limit on future tax efficient funding of money purchase (defined contribution) pensions. This is the main reason someone would remain in capped drawdown these days rather than swapping to flexi-access drawdown as any taxable income withdrawal from flexi-access drawdown will cause the MPAA to apply.
Flexible Drawdown - All of these plans automatically became flexi-access drawdown plans on 6 April 2015. The pre 6 April 2015 flexible drawdown plans allowed the individual to withdraw as much money as they wanted each year. To be eligible for this type of drawdown, they needed to be receiving guaranteed pension income of at least £12,000 a year from other sources.
Drawdown could be seen as an alternative to purchasing an annuity, but carries with it ongoing risks such as investment and longevity, and calls for regular monitoring and review to ensure it remains a suitable solution. *Please contact your Integrity Wealth Consultant for more information on drawdown and its potential suitability in your circumstances.
What is a Pension Annuity?
An annuity is a type of retirement income product that you buy with some or all of your pension pot aged 55 or over. It pays a regular retirement income either for life or for a set period.
There are two main types of annuity:
Lifetime Annuities - these pay you an income for life, and will pay a nominated beneficiary an income for life after you die if you choose this option; they include basic lifetime annuities and investment-linked annuities.
Fixed-Term Annuities - these pay an income for a set period, usually five or ten years, and then a ‘maturity amount’ at the end that you could use to buy another retirement income product or take as cash.
When you use money from your pension pot to buy an annuity you can take up to a quarter (25%) of the amount as tax-free cash (depending on the type and age of pension you hold). You can then use the remainder (in full or part) to buy the annuity, with the income you receive taxed as normal pension income.
How much retirement income you will get from an annuity - and for how long, will depend on multiple factors, some of which are:
• Your age, lifestyle and health
• The size of your pension pot
• Annuity rates at the time of purchase
• Where you expect to live when you retire
• Which annuity type, income options and features you choose
Impaired Life or Enhanced Annuities - In some cases, individuals with medical conditions may be able to get a higher income by opting for an ‘enhanced’ or ‘impaired life’ annuity. Not all providers offer these; your Consultant at Integrity Wealth Solutions will be able to assist you in exploring your ‘impaired life’ annuity options should you require.
Once you purchase an annuity you cannot change your mind, so it’s important to take advice before committing to one. In some cases, an annuity can be utilised alongside drawdown to provide a blend of fixed and variable income in retirement. Please contact your Integrity Wealth Consultant for more information on annuities and their potential suitability in your circumstances.