Saving on tax and investment costs are frequently not given the attention they warrant, but both are hugely important parts of any affluent individual’s wealth management strategy.
Many people will have a company pension where funds are invested on a collective basis, but Self-Invested Personal Pensions (SIPPs) provide a very attractive way for all affluent individuals to put money aside for retirement (the accumulation phase), and then to continue making their money work as hard as it possibly can once they start to use it (decumulation).
Like all pensions, SIPPs offer very attractive tax benefits, yet perhaps their biggest attraction is the high level of freedom and control they grant you over your funds. A SIPP is a “wrapper” or tax-shelter in which you can hold many types of investment, and you can choose to buy or sell these as you wish. Then, once you enter decumulation you can to take an income from your pension savings exactly as you choose.
As with other pensions, investments in SIPPs are free of tax and offer tax relief on your contributions (up to your annual pension allowance). What this means is that you will be able to claim back taxes paid, with the Government effectively topping up what you pay in. This is an automatic 20% at the basic rate, while higher-rate taxpayers can claim a further 20% and additional rate tax-payers another 25%.
Typically, you can put as much as you earn each tax year into a SIPP, up to a limit of £40,000. However, those with total annual earnings over £150,000 have their annual contribution allowance tapered down (by £1 for every £2 of income) to a floor of £10,000 for those earning £210,000 or more.
Importantly, you should know that it is possible to carry forward any unused annul contribution allowances (from the preceding three tax years), although professional advice should always be taken in such instances to avoid any potentially costly mistakes.
It is also very important for higher-earners to note that there is a lifetime contribution allowance which stands at £1.03 million for the 2018/19 tax year (this has been brought down progressively over the years and from 2018 the Government intends to index the standard Lifetime Allowance annually in line with the Consumer Prices Index). Charges are applicable for savings over this amount, with tax paid at 25% (plus Income Tax) if money is taken as income or at 55% if taken as a lump sum. Because your pension pot should be growing at a healthy rate as you continue to save it is relatively easy for even middle-earners to breach the lifetime contribution limit.
Those concerned about breaching their lifetime allowance should first ensure they are using their £20,000 ISA allowance every year (and perhaps that of their spouse too). A wealth manager will also be able to suggest other strategies – such as tax-efficient investments like Venture Capital Trusts and Enterprise Investment Schemes – to allow you to keep building up pension savings in an optimised manner.
As the name implies, SIPPs allow individuals to manage their own pension savings.
However, you will be aiming to build up a very significant pot of money since research[i] suggests that the average person will need to save £260,000 at the very least to fund a desirable standard of living in retirement. As such, while some might choose to manage their own SIPPs (likely via an online investment platform) in its early stages, it is common to hand over to a professional investment manager once serious sums are involved. Not only does this save stress and time, it invariably delivers superior investment results at reduced levels of risk. There are many investment risks that DIY investors can be caught unawares by and some, like over-diversification, are often completely overlooked.
You should also bear in mind that while traditional asset classes (cash, bonds and equities) may form the bulk of a SIPP’s holdings, you can also add alternative investments such as hedge funds, property and commodities to your portfolio. Not only could alternatives help your SIPP generate enhanced investment returns, such diversification could also help reduce your risk exposure since different asset classes tend to rise and fall in value in an uncorrelated manner.
Finally, there are the benefits of professional management to consider in the decumulation phase. Under pension freedoms which have been in force since 2015, you are entitled to cash out up to 25% of your pension pot tax-free, but with the rest have the freedom to purchase an annuity, implement an income draw-down strategy or continue to make lump sum withdrawals in your retirement.
You can currently access SIPP savings at the age of 55 (this will rise to 57 by 2028), but longer lifespans mean that many of us will have to fund decades in retirement. Ensuring that pension savings will last as long as they need to, but that you are still able to enjoy your retirement as much as possible, is a careful balancing act which calls for a professional’s insight into long-term investment management.
Consolidate and optimise your pension savings
SIPPs are a flexible, highly-autonomous means of saving and managing retirement funds. They also represent an easy way to consolidate a number of pensions in one place – something many of us will need to take care of as it is common to have accumulated various pensions over a career. It is a very great waste not to optimise how these funds are managed (those who have forgotten pensions should use this Government tracing service).
Consulting a professional about your pension savings is a very worthwhile – whether you are just starting out, approaching your contribution limit or withdrawing funds. Pensions can be fraught with complexity – both on the investment and tax sides of things – and the stakes are very high.
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