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New pension changes penalise high earners for being prudent

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Many welcomed the recent Budget for not making further damaging modifications to pensions; however changes announced in last year’s summer Budget come into force from Wednesday 6 April 2016 affecting many high earners.

High earners with incomes of over GBP150,000 will be restricted to contributing as little as GBP10,000 into a pension each tax year; this allowance was as high as GBP255,000 in 2011.
 
To put this into perspective a GBP10,000 annual contribution into a pension for 20 years with net growth of 5% per annum would result in pension fund worth almost GBP350,000 and a pension of just over GBP14,000 (if maximum tax free cash is taken).
 
Alex Davies, Chief Executive of the High Net-Worth Investment service, Wealth Club, says: “Whilst the recent Budget left pensions alone, many long-term investors may have forgotten about the previously announced punitive changes coming into force this week. We are constantly being told that self-provision is vital to ensure long-term prosperity, yet the avenues to providing self-sufficiency are constantly being eroded. The fall in the annual pension allowance to as little as GBP10,000 is a disgrace.”
 
Today any UK resident under 75 can contribute tax efficiently up to what they earn into a pension capped at GBP40,000 annually.
 
From 6 April the allowance will be tapered down for those earning more than GBP150,000. The annual pension allowance falls by GBP1 for every GBP2 they earn over GBP150,000. Some with lower earnings might also be caught. Those earning over GBP210,000 will be able to contribute a maximum of GBP10,000 each year.
 
Another hammer blow to pensions is the reduction in the maximum value a pension can grow to in a tax efficient manner. From 6 April 2016 unless a pension is “protected”, the maximum amount that can be held in it is GBP1 million. Anything over that will be punitively taxed when benefits are taken.
 
It’s not just the super-rich who could be affected. For instance, someone contributing GBP15,000 a year may well have a pension pot worth over GBP1 million after 30 years (assuming net growth of 5 per cent).
 
Equally investors with a successful career and a final salary pension paying annual income of around GBP50,000 may not necessarily consider themselves amongst the wealthiest. Yet, if they keep accumulating benefits, they will most likely exceed the Lifetime Allowance and face a hefty 55 per cent tax charge.
 
Wealth Club recently commissioned an independent survey and found that 60% of investors affected by the new rules would consider Venture Capital Trusts (VCTs), Enterprise Investment Schemes (EIS) and Seed EIS as alternatives.
 
These government-endorsed schemes invest in small companies – the lifeblood of the economy. They are riskier than investing in larger companies, but offer generous tax breaks to help compensate for these risks.

Davies says: “With the destruction of pensions for long-term retirement planning, high earners are turning to other tax-efficient investment schemes. Unlike a pension the annual allowances are extremely generous – up to GBP100,000 in SEIS, GBP200,000 into a VCT and GBP1 million into an EIS.”

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