Pension release

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Pension release is the removal of money from a pension fund at the age of 55 or older. [1] Under UK law, as part of their transfer to a new provider a person can access up to 25% of their defined contribution fund tax free from the age of 55. They do not have to start taking income while the rest of the fund remains invested. The State Pension does not allow pension release.

Money Object or record accepted as payment

Money is any item or verifiable record that is generally accepted as payment for goods and services and repayment of debts, such as taxes, in a particular country or socio-economic context. The main functions of money are distinguished as: a medium of exchange, a unit of account, a store of value and sometimes, a standard of deferred payment. Any item or verifiable record that fulfils these functions can be considered as money.

A pension is a fund into which a sum of money is added during an employee's employment years, and from which payments are drawn to support the person's retirement from work in the form of periodic payments. A pension may be a "defined benefit plan" where a fixed sum is paid regularly to a person, or a "defined contribution plan" under which a fixed sum is invested and then becomes available at retirement age. Pensions should not be confused with severance pay; the former is usually paid in regular installments for life after retirement, while the latter is typically paid as a fixed amount after involuntary termination of employment prior to retirement.

Law System of rules and guidelines, generally backed by governmental authority

Law is a system of rules that are created and enforced through social or governmental institutions to regulate behavior. It has been defined both as "the Science of Justice" and "the Art of Justice". Law is a system that regulates and ensures that individuals or a community adhere to the will of the state. State-enforced laws can be made by a collective legislature or by a single legislator, resulting in statutes, by the executive through decrees and regulations, or established by judges through precedent, normally in common law jurisdictions. Private individuals can create legally binding contracts, including arbitration agreements that may elect to accept alternative arbitration to the normal court process. The formation of laws themselves may be influenced by a constitution, written or tacit, and the rights encoded therein. The law shapes politics, economics, history and society in various ways and serves as a mediator of relations between people.

Contents

Between April 2014 and April 2015, the entirety of a fund can be removed if it is not higher than £30,000. [2] From April 6, 2015, there will be no limits on how much money can be removed, but all withdrawals outside of the 25% tax-free cash will be treated as taxable income.

With the exception of pension recycling (adding released money back into a pension to enjoy tax relief for a second time), there are no restrictions on how the money can be used by the individual. A popular use is to tackle debts before entering retirement.

Recycling process using materials into new products to prevent waste of potentially useful materials

Recycling is the process of converting waste materials into new materials and objects. It is an alternative to "conventional" waste disposal that can save material and help lower greenhouse gas emissions. Recycling can prevent the waste of potentially useful materials and reduce the consumption of fresh raw materials, thereby reducing: energy usage, air pollution, and water pollution.

Pension release is only available from a defined contribution pension fund that allows income drawdown, which is the mechanism that allows tax-free cash to be removed while keeping the rest invested. Members of a defined benefit, or final salary, scheme must transfer to a defined contribution scheme to have the option of pension release, but advice should be sought before doing so as it can mean relinquishing a number of benefits. The government has announced that only funded defined benefit schemes will be able to transfer out after April 2015, [3] which will exclude most public sector pensions. [4]

Income drawdown is a method withdrawing benefits from a UK Registered Pension Scheme. In theory, it is available under any money purchase pension scheme. However, it is, in practice, rarely offered by occupational pensions and is therefore generally only available to those who own, or transfer to, a personal pension.

To invest is to allocate money in the expectation of some benefit in the future.

A defined benefit pension plan is a type of pension plan in which an employer/sponsor promises a specified pension payment, lump-sum on retirement that is predetermined by a formula based on the employee's earnings history, tenure of service and age, rather than depending directly on individual investment returns. Traditionally, many governmental and public entities, as well as a large number of corporations, provided defined benefit plans, sometimes as a means of compensating workers in lieu of increased pay.

Example

The following example shows how pension released can be used for financial planning as the interest on the debt is higher than the interest accruing on savings. The example assumes that a person has a loan of £7,000 with 17% interest, with 5 years of repayments at £170 a month remaining. They also have a pension of £28,000.

Monthly Repayments Pension Release
The loan will be paid in full after 5 years of paying £170 each month £7,000 is released from the pension fund, which is the 25% that can be withdrawn as a tax-free lump sum. The loan is repaid immediately
To pay the £170, a basic-rate taxpayer will need to earn £212.50 each month, with the £42.50 difference taken as income tax. Over 5 years, £12,750 needs to be earned to clear a loan of £7,000 With the loan paid off, the individual has an extra £170. If this is reinvested to increase the size of the pension, the government will add the £42.50 in tax relief. The full £212.50 that was earned ends up in the pension fund
After 5 years, the loan has been repaid. £10,200 was repaid, and £12,750 was earned to make the repayments possible. £3,200 was paid as interest and £2,550 as income tax.

If a £28,000 pension had grown at 5% in the same period of time, it would be worth £35,736

 After 5 years, the loan has been paid off without accruing interest, £2,550 has been received in tax relief and the monthly investments have increased the value of the pension to £39,105

Pension release is not suitable for everyone and advice from a regulated adviser should be sought before choosing to release any money from your pension.

Differences with pension liberation

Pension liberation is when money is released from a pension when the individual is younger than 55 and HMRC has not given permission to do so. Such permission can only be received in rare circumstances such as terminal illness.

In the United Kingdom, pension liberation is a term used by confidence tricksters that purports to allow individuals to access the funds within a pension before the age of 55 when permission has not been provided by HM Revenue and Customs (HMRC).

Terminal illness or end-stage disease is an incurable disease that cannot be adequately treated and is reasonably expected to result in the death of the patient. This term is more commonly used for progressive diseases such as cancer or advanced heart disease than for trauma. In popular use, it indicates a disease that will progress until death with near absolute certainty, regardless of treatment. A patient who has such an illness may be referred to as a terminal patient, terminally ill or simply terminal. There is no standardized life expectancy for a patient to be considered terminal, although it is generally months or less. Life expectancy for terminal patients is a rough estimate given by the physician based on previous data and does not always reflect true longevity. An illness which is lifelong but not fatal is a chronic condition.

Most opportunities to release cash from a pension before 55 are scams, and in the first half of 2014 almost £500 million was removed from pension funds as a result of liberation scams. [5] [6]

Cash physical money

In economics, cash is money in the physical form of currency, such as banknotes and coins. In bookkeeping and finance, cash is current assets comprising currency or currency equivalents that can be accessed immediately or near-immediately. Cash is seen either as a reserve for payments, in case of a structural or incidental negative cash flow or as a way to avoid a downturn on financial markets.

"Pension liberation" works out extremely expensive, leaving the individual with a fraction of their withdrawal. HMRC imposes a 55% tax on money liberated from pensions without its permission and the scheme fee could be 20%. HMRC also charges a further 55% tax on the scheme fee.

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An Individual Savings Account is a class of retail investment arrangements available to residents of the United Kingdom. It qualifies for a favourable tax status. Payments into the account are made from after-tax income. The account is exempt from income tax and capital gains tax on the investment returns, and no tax is payable on money withdrawn from the scheme either. Cash and a broad range of investments can be held within the arrangement, and there is no restriction on when or how much money can be withdrawn. Funds cannot be used as security for a loan. Until the Lifetime ISA was introduced in 2017 it was not a specific retirement product, but any type can be a useful tool for retirement planning alongside pensions.

National Insurance

National Insurance (NI) is a tax system in the United Kingdom paid by workers and employers for funding state benefits. Initially, it was a contributory form of insurance against illness and unemployment, and eventually provided retirement pensions and other benefits. Citizens pay National Insurance contributions to become eligible for State Pension and other benefits. Anyone 16 years old and above are mandated to pay National Insurance provided the employee earns more than £162 a week or the individual is self-employed and makes a profit of £6,205 or more annually. It is necessary to obtain a National Insurance number before starting to pay contributions.

A Registered Retirement Savings Plan (RRSP), or Retirement Savings Plan (RSP), is a type of Canadian account for holding savings and investment assets. RRSPs have various tax advantages compared to investing outside of tax-preferred accounts. They were introduced in 1957 to promote savings for retirement by employees and self-employed people.

Tax advantage refers to the economic bonus which applies to certain accounts or investments that are, by statute, tax-reduced, tax-deferred, or tax-free. Governments establish the tax advantages to encourage private individuals to contribute money when it is considered to be in the public interest.

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A Self-Invested Personal Pension (SIPP) is the name given to the type of UK government-approved personal pension scheme, which allows individuals to make their own investment decisions from the full range of investments approved by HM Revenue and Customs (HMRC).

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A Qualifying Non-UK Pension Scheme (QNUPS) is a form of overseas pension scheme available to British citizens that reside permanently outside of the United Kingdom or who reside in the United Kingdom. If the QNUPS complies with specific HMRC regulations, it will be recognised as a QROPS which allow individuals to transfer UK based approved pension assets to an overseas based "QROPS". A QNUPS can also allow individuals to invest more into their pensions than the usual UK limit in terms of both annual contributions and overall 'lifetime limit' of fund size

References

  1. ↑ (Pension release or pension unlocking)
  2. ↑ (Pension lump sums)
  3. ↑ (Autumn Statement 2014)
  4. ↑ (Nurses and soldiers running out of time to move pensions abroad)
  5. ↑ (TPR needs the power to shut down pension liberation websites, advisory firm says)
  6. ↑ (Authorities tackle the growing problem of pension liberation scams)
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