The Chancellor last week lowered the limit on lifetime tax-free pension savings, meaning a punitive rate of tax will be levied on pension pots totalling more than £1.25 million.
Might be a good idea, might not be. I tend to think a bad one as there\’s no way any of the fuckers is going to raise that limit in line with inflation, let along earnings. We\’ve just another place where fiscal drag can do its work.
But given low interest rates, this isn\’t actually all that high a pension:
According to calculations by Hargreaves Lansdown, a financial services company, a male worker in the private sector would have to save £1.44? million to receive a £43,387 pension at current annuity rates. A woman would need to save £1.34?million.
Given that women live longer than men I fear that they\’ve got those figures the wrong way around. But still. There\’s many a public sector pension that is higher than that:
Accountants say that HM Revenue and Customs calculates the pot value of a public sector pension by multiplying the annual sum by 20. So for tax purposes, the MP’s pot is valued at £867,740, well below the tax cap.
Cunts, hang them all, every bureaucrat with the guts of the last politician.
The rules are the same for all defined-benefit schemes, whether public or private sector. It’s just that DB pensions are increasingly rare in the private sector.
I suspect that x20 factor is also preferred by the government so that people won’t realize quite how much of a private sector pot – and how large the contributions – are required to give the sort of payments high-ranking public sector workers enjoy. If people realized how much they would have to put away each month in order to get one of the better public sector pensions in the private sector, they would get one hell of a shock.
I don’t understand why low interest rates have made pensions so unaffordable. They mostly reflect low inflation, so the cost of uprating the pension is much lower. If it is because pensions weren’t uprated before, then shouldn’t it just be a matter of rejigging pensions, so you get X in year 1 and X*.95 in year two and so on?
Tim adds: Because how much you have to put in to gain a pension depends rather upon investment returns. A low interest environment reduces those somewhat.
There’s also something dodgy Brown did. Annuities have to be in gilts or something? Or at least more than they used to be? And QE has of course screwed returns from them.
“Annuities have to be in gilts or something?”
Yes, by law.
“It’s just that DB pensions are increasingly rare in the private sector.”
I wonder why that would be.
“this isn’t actually all that high a pension”
Well, it’s pretty high really. £40k plus.. with state pension on top? When, one would expect, the recipient has already got the mortgage paid off and has offspring who are self-funding.
That’s enough for anyone, and I’m not especially opposed to taking away the tax benefit beyond that point… it’s not as if people can’t save beyond that level using other methods. I’d be delighted to be affected.
Of course, it’s obviously correct that public sector pensions should be treated equitably. But, if it were up to me, they’d all be capped at median earnings anyway.
Mark Wadsworth has a good article on this, as you might expect:
I understand the low interest rate argument, but one would think the bulk of a pension return is the running down of the capital, which must be much less than it used to be (when inflation when high).
You missed part of Tim’s point Matthew – inflation and interest rates don’t track together all the time. QE has devalued the income stream in a low interest environment, so more of the capital has to be preserved for the future returns. There’s inflation then there’s inflation. Loss of purchasing power is no different to increase in prices. Just less visible.
Eventually, the two are indistinguishable, but it takes a while.
“I don’t understand why low interest rates have made pensions so unaffordable.”
I suspect that’s because they in fact haven’t done anything of the sort. They make pensions more expensive (for the reasons already explained), but not unaffordably so. The big problem with affordability is not low interest rates, but that we are insisting that ‘retirement’ should be a third of someone’s working life. Very obviously, if you want to live off your pension for twenty-five or thirty years, it’s going to cost a lot more than one which will likely only support you for ten or fifteen years.
index-linked gilts are generating a yield of about 2.5%. If you assume that you will live 25 years after you retire, the cunulative discount factor is 18.4. So, this implies that after 25 years, if your pot is generating 2.5%, you need to have accumulated over 18 times your desired income. When yields were 8-9%, the factor was between 10.7 and 9.8. Does this answer your question about affordability?
I think Dave’s answer is a large part of it. LT’s – I take the inflation and interest rates, although this can’t be a medium-term factor, I’d think.
Diogenes – I don’t quite understand your one. The yield on index-linked bonds was higher to compensate for inflation, no?
I think what I’m trying to say is this. If you are going to live 20 years (who is to know, I realise, which is Dave’s point) and you have £100k you have £5k a year, plus whatever interest you can get, less inflation. I’m still not sure why QE etc makes such a huge difference to that.
I think one reason is pensions took off in an era where inflation was lower than expected. this clearly is a win-win for pensioners. I guess the 1970s wasn’t, although there are compensations from high inflation.
I’m a bit confused by the male/female annuity rates: women live longer than men on average, so shouldn’t the pot required for a given annual payout be larger for women, rather than smaller as the figures above imply?
sorry for being unclear. If you want income of £5000 for 25 years in an interest rate environment of 2.5%, then you need a pot of 18*5000. At the end of 25 years, the pot will be empty.
QU has kept gilt yields low.
If rates were 8%, you would only require a pot of 10.7*5000.