Pensions, ISAs and Tax

[IR35 Avoider]

But I dont understand why you would want to use up and give away 75% of your capital.

You can undo the transformation of your capital into an income stream. Since an annuity is just life insurance in reverse, you can take out a life-insurance policy with premiums funded out of the excess income. As you will in effect end up with two insurance company products that cancel each other out (but both generate a profit for the insurance company at your expense) I suspect this would only make sense for those like me who are deriving maximum tax advantages from a pension. (I get 47% tax relief on the money I put in and pay 15% tax on the money I take out.)

(Just to be clear, I'm not planning to do the above; at the moment I have no-one I particularly want to leave money to, other than my wife, and she could inherit from my pension.)

I have no quibble with anyone who doesn't want to overfund their pension. A pension is the most tax efficient way for a contractor to build up (say) £300,000-£500,000 needed to provide for basic living expenses when retired. Once you are on target to have that, what you do with the rest of your money matters a lot less. As that money was going to be spent on that purpose anyway (regardless of whether it was in a pension or not) there is no real disadvantage to keeping it in the most tax-efficient home available.

I never meant to suggest that you should put more money into (the 75% part of) a pension that you want to use for any purpose other than taking an income in your retirement.

[IR35 Avoider]

It doesn't much matter what your annuity returns are!

Having made the point that annuities don't have to be invested in Gilts, and that you can invest in higher-yielding things, and have control of your investments, I'd just like to add one more rather surprising thought; once you've retired and started spending rather than accumulating savings, it doesn't actually matter as much you might think what return the pot of money that is providing your basic income in the last phase of your life makes.

In "Valuing Wall Street" chapter 6 (where the authors are arguing that equities are generally over-rated) there is a table that indicates that over a 15 year period, an annuity based on index-linked Gilts would give an income only 9.2% lower than one based on equities.

The full table shows the reduction in income (for using index-linked Gilts instead of equities) is:-

Over 10 years, 6.1%
Over 15 years, 9.2%
Over 20 years, 12.2%
Over 25 years, 15.1%.

They also point out that the uncertainty created by an equity based income makes it "very tricky to actually get any benefit from the higher returns."

For this reason, and because of the possible benefit of avoiding a risk pool that contains particularly long-lived people, I'm currently prejudiced in favour of ordinary mass-market Gilt-based annuities, rather than more complex products I've drawn attention to in this thread.

[Fred Bloggs]

and you no longer HAVE to take an annuity at age 75. You can have an "alternatively secured pension". The "pot of money" stays invested and under your control rather than given to an insurance co.

[the guy with the bowtie]

I, for one, value the comment and advice given by IR35 Avoider and a handful of others on CUK who give reasoned well-informed opinion (not hearsay of the ill-informed masses) on these and similar financial issues to allow those of us less knowledgeable to make our own decisions.

Thanks IR35 Avoider and keep the comments coming.

[Cheshire Cat]

Thanks everyone for your comments. Certainly given me something to think about.

[Lewis]

I, for one, value the comment and advice given by IR35 Avoider and a handful of others on CUK who give reasoned well-informed opinion (not hearsay of the ill-informed masses) on these and similar financial issues to allow those of us less knowledgeable to make our own decisions.

Thanks IR35 Avoider and keep the comments coming.

[dude69]

and you no longer HAVE to take an annuity at age 75. You can have an "alternatively secured pension". The "pot of money" stays invested and under your control rather than given to an insurance co.

Still nothing like having your money free and unencumbered though is it?

The ASP is worse than income drawdown, because you only get 90% of the GAD rate (still better than 70% as it used to be).

And what happens when you die?

The money gets taxed at 70%......

As mentioned, pensions can pay for an ok retirement, but you are unlikely to see full return on your money as investing in an unencumbered vehicle.