Back in May, many in the industry were predicting the end of Additional Voluntary Contributions (AVC...
Back in May, many in the industry were predicting the end of Additional Voluntary Contributions (AVCs), both in-house and freestanding. This was prompted by the announcement that the Government would allow many members of occupational pension schemes to contribute concurrently to either stakeholder or personal pensions, a more attractive alternative? This article will assess if such predictions may have been premature.
The new facility, dubbed 'partial concurrency,' will allow occupational scheme members who are not controlling directors and whose P60 earnings are less than £30,000 to pay up to the net equivalent of £3,600 each year into a stakeholder or personal pension. Importantly, this will have no impact on the contributions to, or benefits from, their occupational scheme. Thus, in future, some individuals may retire on two-thirds final salary from their occupational scheme and also receive a significant pension from their concurrent arrangement. So far so good.
But what impact will this have on existing AVC arrangements? Will individuals leave these en masse and redirect contributions to personal or stakeholder pensions? Based on my own company's experience, around two thirds of those with AVCs already earn above £30,000, which immediately excludes them from the new facility. But the remaining third do have some new options to consider, assuming (and this may be a big assumption) that they are made aware of them.
Additionally, we may find that with the heightened profile of pensions in general, more moderate earners may consider topping up for the first time. To assess the alternatives properly, it is necessary to compare a number of aspects of existing AVC arrangements with stakeholder and personal pensions.
Clearly, the level and shape of charges under each of the options is an important factor to consider. In view of the wide range of charging structures that currently apply and the many changes made to these in response to stakeholder, there is no obvious most attractive option. The individual may also wish to consider how easily each top-up product could be taken to a new employer, the in-house AVC is clearly the least portable.
An individual's expectations with regard to future salary increases are also a factor. Someone may have P60 earnings below £30,000 this tax year but hope their next salary increase will take them above this level. Does this mean they are immediately disqualified from concurrency and have to revert back to AVC?
Fortunately, the answer is no. Proof of earnings below £30,000 in one tax year entitles the individual to concurrency for the following five tax years, even if earnings rise above £30,000 during that period. Furthermore, while the Government has made no commitment to do so, I would expect there to be pressure to keep the £30,000 under review, ideally to keep pace with earnings inflation.
Many individuals also currently invest their AVCs in a with profits fund. A movement to stakeholder or personal pension should not affect their investment objectives, so they may wish to continue to invest in with profits. At the time of writing, it looks unlikely that such a fund link will be on offer under stakeholder. The regulations say stakeholder can offer with profits only if this is a completely separate with profits fund not available to other classes of policyholder.
In other words, to offer with profits would mean setting up a brand new with profits fund, which has enormous implications in terms of capital requirements, making it a very unattractive option even for the financially strong life offices. If with profits is an important issue, personal pensions score over stakeholder.
Personal pensions may also win in terms of benefit flexibility. It is not yet clear whether or not drawdown will be widely available under stakeholder. Personal and stakeholder pensions also offer the chance to start benefits (other than protected rights) at any age between 50 and 75, irrespective of when main scheme benefits kick in.
While similar flexibility is allowable for AVCs, it is seldom available in practice. One reason for this is that where AVCs are taken before main scheme benefits, the member is not allowed to purchase an annuity. Instead, benefits must be taken using the occupational drawdown route, with all its associated problems. As a result, few schemes or providers offer full AVC flexibility.
Tax free cash (TFC) is perhaps the single biggest differentiating factor. Personal and stakeholder pensions allow the individual to take up to 25% of the non-protected rights fund in tax-free lump sum form. It might seem that this makes the new options better because AVCs don't pay out any tax-free cash, but in fact, as always with pensions, things are never that simple.
Tax free cash
AVCs taken out before 8 April 1987 do permit part, or in some cases all, of the AVC to be taken in tax-free lump sum form, provided that when aggregated with the main scheme tax free cash, the accelerated accrual scale (up to 150% of final salary after 20 years) is not exceeded. So an individual with a pre-8 April 1987 AVC would seldom be best advised to move to stakeholder or personal pension unless on target for full tax-free cash.
For AVCs taken out on or after 8 April 1987, no tax-free cash can be taken directly from the AVC. However, the existence of the AVC can often indirectly boost the TFC from the main scheme. For post-1987, pre-1989 AVCs, provided the trustees agree, the main scheme TFC can be increased by up to the amount in the AVC pot, provided again that the accelerated accrual scale applying under that regime is not exceeded.
For post 1989 members, where TFC is based on 2.25 times' pension, any pension bought with the AVC pot can be taken into account. So a £1000 AVC pension can justify an extra £2250 of the main scheme benefits being paid in tax-free
Women and young people adversely affected
A question of selectivity
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