The bulk of the pension reforms are now in place. After so much rapid change, here is a reminder of what's in force and what may yet be to come.

The reforms to pensions which were first announced in March 2014 are now mostly in force. In the year after the 2014 Budget, there have been a variety of revisions and further announcements, with more emerging in this year's Budget, so here is a quick refresher of where we are now. As ever, there could be a difference between what is legislatively possible and what your pension provider is willing to administer:

Income flexibility For defined contribution pension schemes (or money purchase schemes as they are sometimes called) such as personal pensions, you now have complete freedom in how you draw your benefits once you reach minimum pension age (normally 55, but set to increase to 57 in 2028. In theory you can withdraw your entire pension fund as a lump sum. The old 'capped drawdown' rules which placed a limit on the size of the yearly draw now only apply if the withdrawals started before 6 April 2015, although It is now possible to opt out of these limits and to apply the new rules.

In theory you can draw 25% of your fund as a lump sum free of income tax, with the balance taxable as income. However, the precise tax treatment of withdrawals is complicated and different ways of extracting cash can yield substantially different tax liabilities. Two issues have come to the fore:

  • A large withdrawal can push you into another tax band (or bands) and, in some instances, mean loss of your personal allowance.
  • Tax is deducted from pension income under the pay-as-you-earn (PAYE) system, which was never designed to deal with large one-off payments. As a result the tax taken from your lump sum payment can be more – or sometimes less – than your actual end-of-year liability.

Death benefits There is normally neither inheritance tax (IHT) nor any other tax charge on lump sum death benefits if death occurs before age 75: from that age a 45% flat rate applies (but again no IHT). The 45% rate is due to fall to the beneficiary's marginal income tax rate from 2016/17, but the legislation for this has not yet been passed. As an alternative to a lump sum, income payments (as withdrawals or an annuity) can be taken, which are also tax free if death occurs before age 75 – normal income tax applies thereafter.

Pension funds can now be passed down through generations, so if a beneficiary does not exhaust all of the fund through withdrawals, the residual amount can be handed onto their nominees, with the same tax rules applying.

Future changes The March 2015 Budget contained announcements of two further changes from April 2016, although these have not yet been passed we may hear more of them in the second Budget in July:

  • A further reduction in the lifetime allowance – the effective maximum tax-efficient pension fund value – to £1m; and
  • An option for existing pension annuity holders to sell their right to income in exchange for a lump sum or other pension benefits.

These wide-ranging changes mean that you probably need us to review your retirement planning and/or your estate planning. Similarly, if you intend to extract money from your pension using the new flexibility, we would strongly recommend that you contact us before taking any action.

The value of tax reliefs depends on your individual circumstances. Tax laws can change. The Financial Conduct Authority does not regulate tax advice. The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.