The first main pension change is to the contribution limits. At present you can only contribute a certain percentage of your final salary to your pension. If you are under 35 this is only 17.5%; this rises gradually to 40% for those aged over 61.
The government has completely scrapped these limits. You can contribute all your salary to your pension scheme if you wish! There is a maximum annual amount of ￡215,000 and if you do not have any earnings, you can still put up to ￡3,600 into your pension plan. There is no limit on contributions in the year before retirement.
There is now a maximum lifetime allowance on the value of your pension fund of ￡1.5m. This limit increases to ￡1.8m by 2010. Any pension funds that exceed this limit will be taxed by the new Lifetime Allowance Charge, otherwise known as the Recovery Tax. This will be charged at 55%. If you are on final-salary plan, the government will calculate your pension pot as being worth 20 times your annual income in retirement. So you won't be charged Recovery Tax if your final salary pension is less than ￡75000. The Lifetime Allowance does not include your State Pension.
One Tax-free Sum
The maximum tax-free lump sum that can be taken from your pension plan at retirement will be set at 25%. Only a minority of pension plans under the old rules allowed a higher percentage, so this does not affect too many people. However you still need to check how much your employer will allow to be withdrawn immediately on retirement.
The minimum retirement age will increase from 50 to 55 from April 6, 2010. You won't have to stop working to take your pension benefits, including tax-free cash. Note that if your current pension scheme gives you a contractual right to retire at 50, you should still be able to do so even if you don't reach this age until after 2010.
You are able to save in as many pension schemes as you like at the same time.
It will no longer be compulsory to use your pension fund to buy an annuity at the age of 75. Instead, you can opt for a special kind of drawdown plan known as an "alternatively secured pension", which may enable you to pass pension assets onto your family when you die. However this will only benefit those with substantial pension funds or an alternative income.
At present people can opt to buy an annuity that continues to pay a spouse's pension on death or continue to pay the fixed income for 5 or 10 years. This is called a "guarantee period".
From 6 April 2006, two further options have been added. A limited period annuity and a value protected annuity. The limited period annuity gives people the option to use part of their pension fund to secure a fixed term annuity of 5 years. The remainder of the fund remains invested, possibly boosting future returns. The Value protected annuity ensures that if you die before receiving the full value of the pension fund as income, the remainder is paid to the policyholder's estate. This is subject to a 35% tax charge and is not available once the policyholder passes the age of 75.
Unfortunately, the new rules fail to provide a concession to those who reached the age of 75 on any date up to and including April 5 2006. If you fall into this group, you will have to convert from drawdown into an annuity, and it will be impossible to reverse this process.
The maximum and minimum amounts that can be taken from a pension income drawdown plan has changed from 6 April. There is no minimum amount, so those that can afford to can leave their pension fully invested until they need it. The maximum amount is now 120 per cent of the income limits set by the Government Actuary's Department, to be reviewed every five years.
You will still be able to include commercial property in certain types of pension plans. On A-Day the borrowing rules have changed significantly. Through a SIPP (self-invested personal pension) you used to be able to borrow up to 75 % of the value of a property to finance the purchase. But now you can only borrow up to 50% of the value of your pension fund.
The limits on investing in unquoted shares have only been revealed on A-Day. Directors of private firms had been hoping they would be able to use their pension funds to buy shares in their own firms. However this has largely been ruled out. If their fund invests in unquoted shares and they own 50% or more of the company, the pension member will be liable for a tax penalty of up to 55%. This even extends to connected persons i.e. directors' families.
Originally, after A-Day you would have been able to invest in a wider range of investments, including residential property, wine, art and classic cars. However the Chancellor has back-tracked on this one in his December 2005 Pre-budget Report. Any tax advantages of having such assets in your pension will be removed. Anyone who holds a prohibited asset in their pension will be subject to an income tax charge of 40% and the pension scheme administrator will become liable for a "scheme sanction charge" at 15% of the value of the prohibited asset.