The retirement arena is complicated and not without its fair share of jargon. The Retirement Planner jargon buster aims to explain the facts behind these terms and will be updated on a regular basis.
Accumulation and maintenance trust
These trusts are often used to benefit younger beneficiaries - for instance to pay for the education and maintenance of a settlor's grandchildren. Beneficiaries need not be named individually and so can include those yet to be born. However, there must be at least one living beneficiary of that class when the trust is set up. The payment age for income is set at the outset.
Took place on 6 April 2006 and is otherwise know as pension simplification. Replaced the existing eight tax regimes with a single regime. The A-Day rules were designed to make saving into a pension less complex and they have brought many benefits. For instance individuals can now save into both a company and individual pension and can also draw a pension while working.
The age by which the annuitant must purchase an annuity if they do not intend to go into ASP.
Alternative investment market (AIM)
AIM was launched in 1995 as a submarket to the London Stock Exchange. It enables smaller companies to float shares in a more flexible regulatory market. Investing in AIM stocks can have significant tax advantages and can be used as a means of mitigating inheritance tax.
Alternatively secured pension (ASP)
ASP was introduced in April 2006 in response to objections from religious groups opposed to annuitisation. ASP enables people to remain invested in the markets after the age of 75 - good news to those who find annuities inflexible or would prefer to defer purchase. However, ASP has been heavily taxed by the government as a means of making it less attractive. On death the remaining fund can only be used to either provide an income for dependants or make a charitable donation.
A guaranteed, regular income paid for the duration of an individual's life. An annuity is funded by some or all of a person's pension savings. Annuities can be set up to either pay an individual's pension or also provide for that individual and their spouse/family. There are many different types of annuity available see enhanced, variable, fixed term definitions below.
Point at which individual decides to retire. Will often involve making decisions such as whether to purchase an annuity or go into income drawdown.
These trusts have no discretionary element so the gift made is considered to be absolute.
Benefit crystallisation event (BCE)
Point at which benefits from a pension are paid. An individual can have several of these during their lives and they often take place pre retirement. HMRC has identified eight different BCEs. These include the need to take a lump sum in the event of ill health, purchasing a lifetime annuity and the paying of death benefits. BCEs ensure the lifetime allowance is applied to all an individual's benefits.
Capital gains tax
This is a tax payable on actual and deemed disposal of assets. The taxable gain is the difference between what the assets were sold for and the cost of their original acquisition. Capital gains tax is charged at 40%
Stage in life when income is taken from an individual's pension fund.
These trusts enable trustees to distribute income at their discretion so beneficiaries can be provided for according to their needs. As the trust is so flexible it also is taxed more heavily.
Process by which retirees can release income from their homes without having to move out or sell the property. These plans are typically either home reversions or lifetime mortgages (see references below).
Aimed at people suffering from medical conditions that may reduce their life expectancy. Enhanced annuities often pay a higher income to these individuals as a result of this perceived decreased life expectancy.
Fixed term annuity
These products enable the individual to purchase an annuity for a fixed term (i.e. ten years) rather than purchasing one that provides an income for life. They allow people to delay making irrevocable decisions until they have a better understanding of their future needs.
Government Actuary Department (GAD) limits
Minimum and maximum income withdrawal limits from an individual's unsecured pension plan. These figures are based on GAD tables on long dated gilt yields.
Home reversions enable individuals to sell all or part of their home. In exchange for this they will receive a tax free lump sum and are able to remain in their home rent free for as long as they wish. Both the individual and the home reversion company share any increase in the property's value. Home reversions were regulated in 2007.
See unsecured pension
Index Linked annuity
Payments are guaranteed to move in line with a given index. As a result these annuities offer some protection against inflation over time.
Inflation linked annuity
These annuities offer an increasing level of annuity over the annuitant's life to take account of inflation. However, the annuitant must be prepared to accept a much lower income in the earlier years and it could take some time before payments reach the same level as a level annuity.
Otherwise know as death duty. This is a tax that arises on the death of an individual. For the 2007/2008 tax year this tax is payable on estates worth over £300,000 and comprises 40% of the surplus. This nil rate band rises every tax year. By 2010 this level (known as a nil rate band) will rise to £350,000.
Interest in possession trust
A person has an interest in possession when they have 'a present right of present enjoyment' or an immediate right to the income or enjoyment of property. In terms of IHT planning it is the "right to income" that has been used successfully in packaged solutions involving trusts and life assurance contracts, which are of course non-income producing assets. These trusts were once used regularly in inheritance tax planning as any transfers into these trusts were treated as potentially exempt transfers (PETs). However, from March 2006 they have been treated as chargeable lifetime transfers and are treated more like discretionary trusts.
Joint life annuity
An annuity bought for two people - usually a husband and wife. The income will continue to be paid until the death of the second person.
A loan is secured against the individual's property which then provides either a regular income or tax free lump sum. There are no monthly repayments to meet as the loan plus any interest accrued is paid when the property is sold. This is currently the most popular form of equity release in the UK.
Long term care
Long term care takes many different forms. As well as the care provided to the elderly in retirement homes it can also refer to the care many ill or elderly people receive within the home (domiciliary care) or respite care.
Markets in Financial Instruments Directive (MiFID)
Principles based EU directive implemented in the UK from November 2007.
Offshore bonds offer a tax efficient way to save and can be used as an alternative to, or alongside, a more traditional pension plan. While tax relief is not available on contributions paid into or proceeds taken from a bond no further penalties are applied to the amount taken from an offshore bond.
Open market option
The right of an individual to shop around for the best annuity for their circumstances.
Pension commencement lump sum
The option to take up to 25% of a pension fund as a lump sum upon retirement. Also known as tax free cash.
Part of the government's ongoing pension reform. From 2012 employers must either enrol employees in personal accounts or else into another good quality pension scheme. Employers will be required to pay 3% of earnings for their employees. Employees will pay 4% with the government adding in 1% in tax relief. Contributions will be based on band earnings between £5,000 pa and £33,500 pa. These amounts will be indexed in line with earnings.
Allows the individual to effectively spread their retirement over a number of years. Helpful for those people who may wish to work part time during retirement, phased retirement allows you to split retirement savings into several sections and encash them as needed. This allows the individual to take tax free cash (25%) from each individual section and they can use the rest to either go into income drawdown or purchase an annuity.
This process takes into account where the individual lives when calculating annuity rates.
Power of attorney
Process by which an individual is granted power of another person's financial affairs and/or welfare. This can be done when a person is deemed to have insufficient mental capacity to make informed decisions on their own behalf. Alternatively someone travelling for an extended period of time may wish someone else to deal with their affairs while they are away. Enduring Power of Attorney (EPA) was in place until October 2007. This only related to a person's financial affairs. However, this has now been replaced by Lasting Power of Attorney (LPA) which also includes welfare decisions.
The rights built up in contracted-out final salary and personal schemes in lieu of state benefits.
Self invested personal pension (SIPP)
SIPPs have exploded in popularity since A-Day. The definition of a SIPP is a source of much discussion but a pure SIPP is seen as a personal pension offering a wider choice of investments to the adviser and their client. The costs associated with this flexibility meant that in the past SIPPs were mainly used by high net worth individuals. However, the introduction of hybrid and execution only SIPPs have done much to decrease costs and increase popularity. SIPPs were regulated in 2007.
Single life annuity
These annuities provide income for one person only. Income is not paid out after that person's death.
Small Self Administered Scheme (SSAS)
Self invested pension often used by small businesses, a SSAS is established under trust and enables members to act as trustees of the scheme. This enables them to control the scheme and its investments. SSASs can help to enrich the business as well as its members' retirement pots by allowing the members as trustees to invest in the business via secured loans.
Tax free cash
See pension commencement lump sum
Value given to an individual who chooses to leave their final salary scheme
Treating Customers Fairly (TCF)
Principles based regulation designed to improve the standard of service customers receive from advisers.
Otherwise known as income drawdown. Enables an individual to take an income directly from their pension fund rather than buying an annuity. As the fund remains invested the individual can benefit from any investment growth and remain in control of their fund. However, once the individual hits 75 they will need to either purchase an annuity or go into alternatively secured pension. The amount of income taken is subject to Government Actuary Department (GAD) limits.
Allows the annuitant to protect all or part of their annuity should they die before age 75. If the annuitant dies before this birthday then a lump sum will be payable to the deceased's estate. Any lump sum payable on the death of the annuitant/dependant will be taxed at source at a rate of 35%.
Variable annuities are often referred to as the "third way." These products offer the client a guaranteed minimum income for life with the possibility of benefiting from investment growth. The fund is assessed on a regular basis and if it has grown then the client can receive an increased income in accordance with this. These products also offer death benefits.
Platform enabling adviser to see all of a client's assets in one place. Enable advisers to provide a better service to clients by streamlining administration and enabling them to complete transactions more rapidly.
In certain circumstances with-profit annuities can be a viable alternative to income drawdown. With-profits annuities do not pay out a given level of income as a level annuity does. The fund is invested in a with-profits fund and so enables the client to benefit from any investment gains. However, if bonuses are lower than expected then income from the annuity will fall. As a result they are only suitable for those able to take on this extra risk.
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