Your IndustryMar 5 2015

Use of Isas in light of pension freedoms

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From 6 April 2015 anyone over the age of 55 will have the freedom to use their pension savings however they like, while the so-called 55 per cent pension fund ‘death charge’ is also being abolished.

Isa investors have the ability to cash in funds and transfer to pensions within the £40,000 contribution limit, and provided earnings support this.

Cashing in Isas doesn’t trigger a lower level of saving in the same way it will for pensions from April, says David Macmillan of Aegon. Under the new rules, when one of the new access options is taken the annual pension allowance drops to £10,000, a third below the £15,240 Isa limit.

Given pensions can be passed on tax-free on death from April, some, including government older workers Tsar Ros Altmann, have suggested retirees should withdraw money accumulated in Isas, as well as unlock wealth tied up in their house, to fund income needs before using their pension.

Under the new freedoms, rather than converting their pension pot into an annuity or opting for restricted income drawdown, savers can utilise ultra flexible drawdown at any income level or dip into their pot for irregular income in the way they might other savings.

Lump sum payments can be made with up to 25 per cent tax free and 75 per cent treated as taxed income. The whole amount crystallised through an ‘uncrystallised fund pension lump sum’ will be paid out in one go.

Some are predicting these lump sums could be pushed into Isas, which are set to be given some of the death tax exemptions afforded to pensions by allowing for tax-free transfer of the vehicle on death between spouses and civil partners (see next article).

Anna Bowes, director of Savingschampion.co.uk, argues Isas could be a good choice for some of the funds being pulled out of pensions. She says it would certainly make sense to use your Isa allowance rather than leaving all your funds in taxable accounts, if you are taking cash.

Sheridan Admans, investment research manager at The Share Centre, says advisers should certainly rethink the way their client’s utilise Isas in light of the greater access to pension cash moving forwards.

The changes to access to pensions coming into force in April, coupled with people living longer and the phasing out of formal retirement at 65, means retiring is going to be more of a transition event, he points out.

Mr Admans says this is likely to lead to an evolution of investment behaviours for retirement planning and the way Isas are accessed.

He says: “To this end we suspect Isas will be used more for additional saving, with overtime work place pension’s making up the lion’s share of pension saving.

“It is likely that the combination of Isa and pension accumulation will have combined tax advantages through the accumulation, transition stages into retirement, drawdown and possibly post the holder becoming deceased milestones.”

Choosing the right account

In terms of choosing the right Cash Isa for your client, Savingschampion’s Ms Bowes says it is just like picking any other savings account.

Once you determine the access your client needs, Ms Bowes says it is then a matter of picking the best rate available. But she says it is also important to monitor the rates on an ongoing basis and switch if they become uncompetitive.

Ms Bowes says: “From a Cash Isa perspective, there are no explicit charges when investing, but it is important to shop around for the most appropriate Cash Isa paying the best rate of interest.

“Then in order to make sure your Cash Isa is working as hard as possible and paying as much tax free interest as it can, it is important to monitor the rates being earned and switch when the Isa becomes uncompetitive.

“Fixed rate Isas and notice Isas are likely to have a penalty if the money is transferred before the term ends or the full notice period is given, so it is important to be aware of this, otherwise you/your client could end up paying charges.

“In some cases this could even eat into the capital, if enough interest has not be earned to cover the penalty.”