We have grown so used to bland budgets over the last few years that George Osborne’s pronouncements a couple of weeks ago left virtually everyone flabbergasted.
Gordon Brown started the trick of dripping tax announcements out during the autumn statement and Osborne continued the trend. Budget Day has often been left as flat as a Shrovetide pancake.
Gorgeous George certainly created a brouhaha in the Commons this year when he pulled the proverbial rabbit from the hat and followed it up with a three-card trick that left Ed Milliband looking lost, while Tory backbenchers danced in the aisles.
The rabbit was the changes to ISA rules which I will return to next week. The more impressive trick was the biggest shake-up to pension income rules in a generation.
Annuity rates have been falling for years, leaving recent retirees with much lower pension income than they would have expected five or ten years ago.
Drawdown restrictions have prevented those who have chosen this route from increasing their pension income.
In the circumstances, a redrawing of the rules was needed but this marks a fundamental shift in pension policy.
It was the fear of pensioners blowing all their savings on carpet slippers and Werther’s Originals that led to the drawdown restrictions in the first place. Successive chancellors foresaw waves of destitute OAPs becoming burdens to the state.
At a stroke, Osborne has turned that on its head. We are now seen as responsible citizens, able to make our own decisions about money we have diligently saved over many years.The interim rules see an increase in the capped drawdown income limit from 120 per cent to 150 per cent of the equivalent annuity.
The minimum guaranteed income requirement to enter flexible drawdown is reduced from £20,000 to £12,000 a year. There has also been a loosening of the rules for taking smaller pension pots as a lump sum.
From April 2015, personal pension holders will benefit from complete freedom over how they take their money out from aged 55. Twenty-five per cent of the pot is still tax free but the remainder can be taken out at any amount, at any time.
There is no compulsion to take an annuity at any stage. Although all pension withdrawals over the 25 per cent will be liable to tax at the individual’s marginal income tax rate, this represents almost complete pension flexibility, a massive change from the previous regime.
A particularly controversial issue, related to pension death benefits, has been the 55 per cent tax charge applying to certain benefits in payment or post 75.
The government now thinks this may be too high and is committed to reviewing these rules.
This opens up the possibility of using pension pots for proper estate planning in the future.
There are a couple of negative proposals contained within the new rules.
It is likely that the minimum age at which personal pensions can be taken will rise from the current 55 to 57 or 58, in line with the state retirement age.
Members of final salary schemes wanting to take advantage of the flexibility of the personal pension regime are likely to be disappointed as the government proposes a ban on transfers from defined benefit to defined contribution scheme.
So what is the likely outcome for personal pension holders? For the vast majority, not a huge amount will change. Most pension pots are worth less than £100,000 and many people don’t have any other savings to fall back on. In these circumstances, the security of an annuity is still the best option.
For many others, the flexibility will simply allow people to increase or decrease pension income within a wider range than previously. Only the very lucky few will be in a position to draw significant lump sums to splash out as they see fit. Even then, the tax benefits of holding an untouched pension pot on death may outweigh the desire to draw and spend now.
There are a number of uncertainties that may take a while to shake out. Will personal pension holders act in a responsible manner? Evidence from Australia and the USA suggests they will, but who knows?
Will the fall in demand make annuities even worse value?
There is a possibility that a fall in tax take as a result of the new rules will lead a future government to dramatically reverse the new rules. Fewer annuities could mean a fall in demand for government bonds making it difficult for it to borrow money in the future.
Taken as a whole, this has got to be a good move, if only because a UK government has finally acknowledged that people are able to make their own decisions without the state holding their hand constantly. And George Osborne is to be congratulated for making Budget day exciting again.
* Trevor Law is a director with Merito Financial Services, chartered financial planners, based in Solihull