Sweeping changes for compulsory annuities

The government has sounded the death knell for compulsory annuities, proposing what critics call a simpler and more flexible retirement system.

From 6 April 2011, there will be no requirement to buy an annuity at any age. Alternatively, secured pensions will be scrapped and replaced by lifetime capped income drawdown, the draft Finance Bill outlined in December.

Pension savers will need to have an annual pension income for life of at least £20,000 to be able to draw down whatever they want from their pension. The government will take the state pension (about £5,000 a year) into account when calculating the annual income.

According to Standard Life, a male aged 65 who buys a level annuity with a 50% spouse's pension will need around £300,000 to buy this £15,000 of income.

The insurer believes that only around 1,000 to 2,000 people have funds of more than £300,000 and will be able to take advantage of flexible drawdown.

For everyone else, they will only be able to draw down between 0 and 100% of the equivalent annuity each year. Under previous drawdown rules, the maximum drawdown was 120% for people aged under 75, but it will be reduced to 100% in April.

Steve Patterson of Intelligent Pensions says this is to "more accurately reflect market annuity rates and should reduce the risk of drawdown investors prematurely depleting their pension fund".

New tax rate

The government also announced a new death tax rate for drawn down pension benefits. Currently the tax rate is 35% for deaths prior to age 75 and 70% for deaths after age 75, with inheritance tax potentially pushing the latter figure up to 82%.

There will now be a 55% rate regardless of whether death occurs before or after 75. There will be no tax charge of leaving funds on death to charities.

John Lawson, head of pensions policy at Standard Life, is positive about the pension changes. "The removal of the need to annuitise at any age should help encourage more people to save for the long term."

Adrian Lowcock, financial adviser at Bestinvest, adds: "These changes give those who have been able to accumulate a big enough pension pot the flexibility to use their savings in a way that best suits their circumstances as they change throughout retirement."

Meanwhile the annual allowance will be reduced from £250,000 to £50,000 in April 2011, and any unused allowance carried forward for three years.

And in April 2012 the lifetime allowance for pension funds will be reduced from £1.8 million to £1.5 million.

There is also speculation that the government wants to move towards a flat-rate state pension of about £7,300 a year.

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