Over-55s to make bank account-style pension withdrawals
The government has said it will relax pensions rules so that over-55s will be able to take tax-free sums from their pension whenever they like.
Under current rules, from the age of 55 people can take a 25% tax-free lump sum, but from April, the lump sum restriction will be withdrawn and a series of payments will be allowed.
The first 25% of each payment will be tax-free, with the other 75% taxed at an individual's marginal rate.
In theory, it means that pensions could be used like a bank account, with investors dipping in to draw income at will. As part of the Pensions Bill, the legislation will be in place for the start of the new tax year on 6 April 2015.
Chancellor George Osborne said: "From next year, they'll be able to access as much or as little of their defined contribution pension as they want and pass on their hard-earned pensions to their families tax free.
"For some people, an annuity will be the right choice whereas others might want to take their whole tax-free lump sum and convert the rest to drawdown. We've extended the choices even further by offering people the option of taking a number of smaller lump sums, instead of one single big lump sum."
However, Tom McPhail, head of pensions research at Hargreaves Lansdown, warned that not all pension providers will be ready to implement the new freedoms.
"In many cases, no they won't. The pensions industry is reeling from an unprecedented onslaught of legislative and regulatory change. Some providers have even already publicly waving the white flag and calling for some breathing space; it seems the Treasury is not listening."
He also outlined the risks of giving people complete control over every aspect of their pension income: "Millions of pension savers are being encouraged to withdraw their money at will. This is fine as far as it goes, but managing longevity and investment risk is complicated, particularly if you have been defaulted into a pension, you've never engaged with it and you don't know what you're doing.
"Many professionals struggle to get it right so the idea that at least some inexperienced investors won't get it wrong is recklessly naïve."
He warned that it is likely that many people will hand their pension money over to investment experts, who will promise to smooth out the investment and longevity risks for them, but added that "a few will succeed, many will fail."
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Tax-free lump sum
An inelegant phrase that is nonetheless accurate in what it describes: a one-off payment to a beneficiary that is free of any form of taxation. Usually received when using a pension fund to purchase an annuity, as 25% of the overall fund can be taken as a tax-free lump sum.
Defined contribution pension
Often referred to as a “money purchase” scheme, although offered by employers (who may pay a contribution) these pensions are more likely to be free-standing schemes that a person contributes to regardless of where they are employed. Here, the level of benefit is solely dependent on the accumulated value of the contributions and their performance as investments. Therefore, the scheme member is shouldering the risk of their pension, as the scheme will only pay a pension based on the contributions and investment performance. The final pension (minus an optional 25% that can be taken as tax-free cash) is then commonly used to purchase an annuity that would provide an income for life.
In exchange for any lump sum – usually your pension fund – an annuity is “bought” from an insurance company and provides an income for life. When you die, the income stops. Annuity rates fluctuate daily and depend on your sex (although from 21 December 2012 insurers will no longer be able to use gender as a factor when calculating annuities), age, health and a number of other factors, so you have to pick the right one and, once bought, its terms cannot be altered, so seek financial advice.