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Saving for an Uncertain Future

Saving for an Uncertain Future
 
     
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Leaving the UK on either a permanent or temporary basis requires ordering personal finances, changing bank accounts and transferring insurance. But pensions are a different story. UK residents can contribute to either a personal arrangement or an employer’s scheme. However, upon relocating overseas, they need to ensure that their accrued benefits are well placed to provide a retirement income. Many assume when they finish work, their pension will automatically kick in, but non-residents that were members of previous employers’ schemes have to consider a number of issues when moving abroad.

A Guaranteed Pension?

The most common occupational pension scheme is the defined benefit, or final salary scheme; an employer sponsored plan that allows employees to build up benefits that are linked to their salary at retirement. For example, employees earn one sixtieth of their final salary for each year of service with that employer, receiving benefits at the normal retirement age, usually 65. Those who change jobs can collect a deferred pension, which is calculated from the leaving date and increases based on inflationary conditions. Historically, final salary schemes have been the most secure type of pension, but rising costs have created new issues that need to be examined.

Pension Increases

In the past, employers based pension increases upon the Retail Price Index (RPI), but as of October 2010, the UK government began allowing companies to opt for the Consumer Price Index (CPI) as their financial barometer. This is a cost-saving measure; over the last 20 years CPI has averaged 0.7 per cent less per annum than RPI. This means deferred pensions grow less and pay less. Even a 0.7 per cent difference can significantly affect your golden years. Using the last two decades as an average, and using CPI instead of RPI means pensioners take home £20,000 less; over 40 years this means a staggering reduction of £289,000.

Pension Deficits

During the 1980’s, pension schemes were flush, holding greater assets (investments) than liabilities (pensions owed). New legislation also allowed employers to take “contribution holidays.” However, times have changed; combined low inflation, longer life expectancy and lower investment returns mean that most schemes are now in deficit. Excluding public sector schemes, as of December 2011 there were 6,533 final salary schemes in existence, with 5,473 recording a deficit totalling £225 billion. The total asset value of all schemes is around £1 trillion, giving an average funding level of 80 per cent.

For employees, this means that schemes may not be able to meet their future liabilities or honour their pension promises. For their part, companies must declare such deficits on their balance sheet and address the debt, which is becoming an increasing burden. For example, as of November 2011, BT’s pension liabilities made up for 250 per cent of its market capitalisation, while BAE Systems counted for 195 per cent. British Airways led the way at 340 per cent.

Tax

Pension funds have become a favourite target for raising additional tax. Nigel Lawson, the Conservative Chancellor from 1983 to 1989, first decided to tax pension fund surpluses in 1988, effectively encouraging companies to cut contributions. Gordon
Brown then famously “raided” pension funds for £5 billion by withdrawing the tax credit on dividends previously available to pension plans. Both policies are major factors in the current state of final salary schemes.
The current pension situation is unsustainable and getting worse, leaving companies little choice but to consider winding up schemes and paying reduced benefits to reflect the funding status. However, perhaps most controversial of all is the treatment of death benefits. In final salary schemes, unmarried employees’ benefits cease after their death; married employees can transfer benefits to surviving spouses to continue until they die. There is no mechanism to pass benefits to your heirs. Instead, your unused funds will revert back into the scheme for other members.
Those with private arrangements or a Self-Invested Personal Pension (SIPP) can pass benefits on; but the tax rate is 55 per cent of the fund. In a landscape made up of reduced pension increases, higher taxes and companies struggling to meet their liabilities, there are few options available.

Pension Solutions

However, expatriates can separate their pensions from this thicket of issues. In 2006, Her Majesty’s Revenue and Customs (HMRC) introduced a new set of regulations that allowed non-residents to transfer their UK pensions offshore through an authorised product – a Qualifying Recognised Overseas Pension Scheme (QROPS). These personal accounts have no liability to other members; those that meet the criteria are not subject to UK tax, and can be set up in different jurisdictions such as Guernsey, the Isle of Man, Malta and others.

QPROPS has a number of immediate advantages. There is no tax on benefits at source, whereas pensions paid from the UK are subject to 20 per cent tax at source regardless of residency status. Death benefits are also tax free, rather than the UK-imposed 55 per cent, and the tax-free lump sum is also higher at a maximum 30 per cent, compared to the UK’s 25 per cent. Furthermore, personal accounts mean no liability to other scheme members, no underfunding issues and no one else controlling your money.
This could reduce some of the problems currently blighting pension schemes, leaving even those living abroad secure for retirement.
 


 

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