Pension lessons from the late Cilla Black

As you no doubt know, Cilla Black OBE died on 1 August, at the age of 72.

As a tribute, we’ve embedded some of her best-known song titles into this blog post. Can you spot them all?

Something tells me something’s gonna happen…

Pension tax relief is reducing next year.

When you save into a private pension, the Government takes the income tax you have already paid on that amount and adds it into your pension pot.

    • To save £1 as a basic rate taxpayer, you contribute 80p
    • To save £1 as a higher rate taxpayer, you contribute 60p
    • To save £1 as a top rate taxpayer, you contribute 55p

Currently, everybody receives tax relief on their pension contributions up to £40,000 a year (prior to this year it was £50,000).

High earners are losing out. From April 2016, the tax-free limit will taper down for anyone earning over £150,000 per year. If you earn over £210,000 per year, the tax-free limit reduces to just £10,000.

What’s more, the maximum pension savings on which you can receive tax relief over your lifetime is currently £1.25 million. From April 2016, the lifetime allowance is reducing to £1 million.

What’s it all about, Alfie?

Pensions are more flexible, but for higher earners they are becoming less attractive as savings vehicles. This example shows why:

Alfie is aged 40 and earns £210,000 per year

Under the current regime…

From his net pay, he can contribute up to £22,000 a year into his pension, which
adds up to £40,000 including tax relief
By age 60, he would pay in £462,000 and claim £378,000 tax relief, totalling
£840,000 (the maximum allowed over the next 20 years)

Under the new regime…

Alfie can only claim tax relief of 45% on contributions up to £10,000.
By age 60, he would pay in £745,000 to save a total of £840,000 – that costs him
£283,000 more

Anyone who had a heart

As a loyal reader, you’re my world! So here are some ideas about what you can do:

1. If you are employed, pensions remain the most viable savings option for a large part of your cash because your employer also makes contributions. It might be worth renegotiating your package by increasing salary and reducing pension contributions. However, your employer is unlikely to do this on a one-for-one basis, as it will cost them more in national insurance contributions.

2. You can carry forward unused pension contributions from the previous three tax years:

  • This year £40,000 (2014/15)
  • Last year £40,000 (2013/14)
  • The year before that £50,000 (2012/13)
  • The year before that £50,000 (2011/12)
  • Possible total £180,000 = £99,000 after tax relief

3. In recognition of the potential confusion, the Government has introduced an allowance, meaning that you can make an extra contribution of £40,000 this year if you want but only if you have already used your £40,000 allowance between 6 April and the budget announcement on 8 July:

  • This year £40,000 + £40,000 allowance
  • Last year £40,000
  • The year before that £50,000
  • The year before that £50,000
  • Possible total £220,000 = £121,000 after tax relief

4. You can use part of your salary to fund pension contributions for your spouse, and benefit from their tax relief at basic or higher rate

5. You can make contributions into a scheme with offer preferential tax treatment and/or decent tax relief, for example:

  • Save up to £15,240 a year in an ISA
  • Save up to £200,000 in a venture capital trust (VCT). This is a high-risk investment in small companies that are not listed on the stock exchange. You benefit from 30% income tax refund on the amount you invest, provided you have paid at least as much tax as the amount you invest. Dividends are tax-free. Capital gains are also tax-free, provided you have held the shares for at least five years
  • Save up to £200,000 in an enterprise investment scheme (EIS). These are the same as VCTs but can be held for only three years. They are seen as slightly higher risk than VCTs

Surprise surprise!

See the impact our final suggestion could make:

Alfie is aged 40 and earns £210,000 per year

Over 20 years he saves £210,000 into his pension, which costs him £115,500. He invests the rest of his money in VCTs and EISs, saving £630,000 at a cost of £441,000.

His total savings of £840,000 have cost him £556,500. That’s £188,500 less than if he had continued saving into a pension under the new system.

Step inside love

The coming pension changes mean it’s time to rethink how you save for retirement, right now, because you never know how many years of retirement you’ll have to fund.

For more information about the changes, read our article published on 1 May How will you be affected by changes to pension legislation?’

For even more information, give us a call on 01345 863787. We’ll make sure you’ll never walk alone.

Lance Baron

Certified Financial Planner (CFP) based in East Sussex, UK. We support people in Southeast England with more than £500K to invest by building a financial plan that will help them live the life they want… until age 100