What the proposed retirement rule reforms could mean to you

The Chancellor of the Exchequer, George Osborne, announced during the Coalition Budget 2010 the removal of the obligation to purchase an annuity by age 75. Currently, the government is consulting on the proposed changes and further details will follow after a period. This announcement offers individuals the choice over what they do with their lifetime savings rather than having to purchase an annuity at the age of 75.

Currently, pension investors are required to take pension benefits by the age of 75. The income can be provided either from an annuity or income drawdown (unsecured pension) and post age 75 from an Alternatively Secured Pension (ASP). If you reached age 75 on or after 22 June, income drawdown has now been extended to age 77 as an interim measure while the government consults on ending effective compulsory annuitisation at age 75. Currently, on death in drawdown before age 75 there is a 35 per cent tax charge if benefits are paid out as a lump sum. On death in ASP a lump sum payment is potentially subject to combined tax charges of up to 82 per cent.

It is proposed that these tax charges will be replaced with a single tax charge of around 55 per cent for those in drawdown or those over 75 who have not taken their benefits. If you die under the age of 75 before taking benefits, your pension can normally be paid to your beneficiaries as a lump sum, free of tax. This applies currently and under the new proposals. The new rules will be introduced from April 2011.

The government also plans to abolish the Alternatively Secured Pension (ASP), which is similar to income drawdown but has a more restrictive income limit, a requirement to take a minimum income and less flexible death benefits. Instead, income drawdown can continue for the whole of retirement.

Under the proposals, there will no longer be a requirement to take pension benefits by a specific age. Tax-free cash will still normally only be available when the pension fund is made available to provide an income, either by entering income drawdown or by setting up an annuity. Pension benefits are likely to be tested against the Lifetime Allowance at age 75.

For investors using drawdown as their main source of retirement income, the rules will remain similar to those in existence now with a restricted maximum income. However, for investors who can prove they have a certain (currently unknown) level of secure pension income from other sources, there will potentially be a more flexible form of drawdown available that allows the investor to take unlimited withdrawals from the fund subject to income tax.

These include extending the ability to take small pensions as cash using the ‘triviality’ rules beyond age 75, allowing value protected annuities after this age and changing the tax charge on a lump sum from a value protected annuity to 55 per cent.

The changes outlined above are still subject to consultation with the details still to be finalised.