If you’re tempted to yawn and scroll down the page when you see anything with “Pensions” in the title we can’t say we blame you. But the main problem with pensions is not so much that they’re boring – they’re absolutely essential to most retired people’s wellbeing – but that they are so darned complicated. Historically there have been what seems like dozens of different types of pensions, and even within a single pension scheme there tend to be multiple options. And having a lot of options always makes things complex, not to say bewildering. One of the options which doesn’t very often get discussed (because nobody stands to make any money out of it) is the choice of whether to have a pension, or not at all. There’s no rule that says you have to put money aside for your retirement in a structured arrangement; but in reality this fundamental question, that ought to be the first question anyone asks themselves, is very rarely posed. It’s just assumed that everyone ought to have a pension scheme, and the reason for this apparent moral imperative is very rarely examined or understood. So we thought it would be a good idea if we presented a brief – with the emphasis on the word brief – summary of the pro’s and con’s of having a tax approved pension scheme; and also had a look at one or two possible alternatives. Let’s have a look, first, at the pro’s and con’s of having a pension scheme in a series of bullets. First the pro’s:
As a structured arrangement, pension scheme savings are both more likely to be made on a regular basis, and to be kept away from the urge that anyone who has money has to spend that money.
Assuming (because this is what we’re really talking about, here) that the scheme is a tax registered one, you get tax relief for contributions made into the scheme, and if you’re an employee (including an employee of your own company) your employer also gets tax relief for contributions made into your scheme.
The assets in the pension scheme are completely exempt from all taxes on income and capital gains. This is why one favourite way of holding a property used by a person’s trading company is in the pension scheme: the company gets tax relief for the rent paid to the scheme, but the scheme pays no tax on receiving that rent, hence giving you every year a one sided advantage against HMRC. Also, when the pension scheme eventually sells the property, any capital gain it makes on selling that property will also be tax free. In very general terms, investments which are free of tax are likely to grow very much more quickly on a compound basis because of the tax free nature of the income and gains.
Inheritance tax doesn’t apply, either, to assets held within a pension scheme if the pension scheme beneficiary dies whilst it’s still in existence.
And that, My Lord, I think concludes the case for pensions. Before going on to the con’s, though, it’s worth making a point about an aspect of people’s finances where pensions tend to be pretty much neutral. This is the way the lawyers tend to treat pension schemes in the event of the beneficiary’s divorce or insolvency. At first sight, you might think that having some of your wealth stashed away in a pension scheme might offer you some protection against your ex-spouse, or against your creditors if you go bankrupt. We don’t claim to be experts in this subject, but the impression we very much get, these days, is that judges feel themselves perfectly entitled to dip their hands into your pension scheme in either of these financially catastrophic events. So if you’re thinking of your pension scheme as some kind of safe deposit vault against your enemies, you may be being too optimistic.
And now let’s look at the con’s:
Pensions are expensive to run. Because the regulators, and HMRC, have surrounded them by so much red tape, only highly qualified specialists are allowed to administer pension schemes that have tax approval. Something the regulators don’t seem to realise, or don’t care about, is that red tape costs money – a lot of money. Because the pension administration profession is so difficult to get into, the laws of supply and demand dictate that they pay themselves a lot for their services. And pension scheme costs tend not to be particularly visible to the victim. You tend to have a least two layers, firstly at the level of the pension scheme itself, and secondly, and even more invisibly, within any investment “wrappers” that the pension scheme trustees have decided to invest the funds in.
Pension schemes are heavily restricted on what they can invest in. A jaundiced view of the situation might be to say that pension schemes are barred from investing in anything interesting – with the possible exemption of commercial property, which can sometimes be productive not only of high rates of income but also of exciting capital growth. But residential property, arguably the most popular form of investment, is precluded by the pension scheme investment rules. So are fine wines and all kinds of more whacky and interesting investment classes. And you’ll see that this partly counteracts the advantage of capital gains in a pension scheme being tax free. If the gains you make are that much less (for example because you haven’t been able to invest in residential property) the fact that the gains that you do make are tax free is less valuable, and you might have been better off investing in the high growth classes of asset and paying the tax.
Whilst you get tax relief for contributions into the pension scheme, you pay tax when the money comes out as pension income – with the exception of the 25% tax free lump sum.
Some might say that it’s all very well having freedom from inheritance tax for what’s in the pension scheme, but what pension advisers sometimes don’t point out is the fact that, if you keep the pension beyond a certain age (75) drawdowns by your nearest and dearest after your death, from the pension scheme, are subject not to inheritance tax but to the potentially more damaging income tax.
Generally, funds within a pension scheme are in a “straitjacket”. Apart from certain limited circumstances in which you can borrow funds out of the pension scheme, which can lend on strictly commercial terms and a short payback period to your company, for example, generally all you can do with the money in the pension scheme is invest it in paper or commercial property which is a valid investment in its own right. Just as one example of this “straitjacket” situation, assets in a pension scheme can’t be used as security for short term borrowing. Take the example of the person who’s seen their dream house, of the sort they’ve always wanted, for sale, but can’t sell their own home in time to buy it. The obvious solution would be to take out bridging finance, but, we don’t know if you’ve noticed, but bridging loans cost an absolute arm and a leg these days. If, instead of putting all that money into your pension, you’d simply invested it in assets owned by you directly, those assets could probably have been used to provide the loan finance that was so essential at this particular stage of your financial life.
Generally speaking, people who are in business are “control freaks”: and the lack of financial control that setting money aside in a pension brings with it tends to be a particularly significant turn off as far as providing a pension for one’s future is concerned.
If all of this puts you off, what is the alternative to having a pension? Most people don’t want to be tied down to working for their living right up to the day of their death. The solution, of course, is to put money aside in order to create an investment portfolio which you own directly in your own name. Alternatively, if you want to make things formal, you can set up an investment company or, usually far preferable, an investment LLP. Indeed, a limited company, or an LLP with a company partner, has huge advantages over straightforward direct ownership if the money you’re investing is coming out of another company that you own: a very common situation for people in business. There’ll be a lot more about this in Alan Pink and Phil Dickinson’s forthcoming book on Family Investment LLP’s.
コメント