The start of the 2018-19 tax year has resulted in a number of pension changes being introduced, and it is not all good news. Below we round-up what pension savers need to know.
Auto-enrolment contributions on the rise
First of all, employee pension contributions have increased.
Since the introduction of auto-enrolment, both employees and employers have been required to automatically contribute a minimum amount to workplace pension schemes.
The current rate of contributions is 2 per cent (with 1 per cent each for both employee and employers), up to £46,350.
In April, that minimum has increased to 5 per cent (3 per cent from employees amd 2 per cent from employers). Further rises are set for April 2019, when the level of total contributions will rise to 8 per cent.
For someone on the average UK wage of £27,000 a year, this will result in an extra £27 per month being paid by the employee.
However, this should result in a significant bump to retirement pots over the long term.
According to figures from AJ Bell, the pension provider, for someone on £27,000 a year (and assumed to receive an annual pay increase of 2% a year and 4% investment growth after charges), this will equate to their current annual pension contribution increasing from £169 before 5 April 2018 to £517 now. This will rise further to £879 after 5 April 2019.
The below table shows the changes to minimum auto-enrolment contributions for three starting salary levels (based on relevant earnings which is salary minus £5,876) and the difference in fund value after 40 years if contributions were not increased.
*Including employer contributions and Government tax relief
**Assumes 4 per cent investment growth after charges
Lifetime allowance finally goes up
For those nearer the end of their working life, there's also been changes to the lifetime allowance.
The lifetime allowance - the maximum size of an individual’s retirement fund that can be without incurring extra taxes - has finally increased. Currently, the lifetime allowance is set at £1 million. From April this year, that is due to increase by £30,000.
However, the lifetime allowance is still well below where it was when first introduced in 2006, when it stood at £1.5 million. In the tax year of 2011/12 it was hiked to a peak of £1.8 million. Since then, the rate has steadily been cut, reducing to the current £1 million level in 2016/17.
The hike is a welcome step in the right direction, reversing the downward trend. However, it doesn’t go far enough. The £30,000 increase is simply in line with inflation, leaving many higher earners potentially still penalised.
According to number-crunching by Old Mutual Wealth, a 35-year-old earning a salary of £57,000 per year and paying 15 per cent of their salary into a pension will hit the lifetime allowance by the age of 70. Over 10 per cent of UK full-time employees earned more than £57,689 in 2017, meaning that breaching the lifetime allowance is a very real possibility for many.
Further, the tax is effectively a punishment on saving and successful investment. By setting an upper limit on pension allowances, the government is punishing those who have put more aside for retirement and successfully invested their portfolios.
Dividend tax allowance cut
Those receiving dividends from stocks and shares have seen the tax-free allowance fall from £5,000 to £2,000. Currently, an investor would need a portfolio of £166,667 that yields 3 per cent to generate £5,000 of dividend income. When the tax is cut to £2,000, that amount needed to breach the tax-free threshold will fall to just £66,688.
Those mostly likely to be hit by the allowance cut are business owners that currently pay themselves in dividends, as part of a more tax-efficient remuneration arrangement, as well as those with large portfolios outside of tax wrappers.
For those affected, read out guide on how to beat the dividend tax cut.
State pensions to rise
Finally, the state pension has risen by 3 per cent, with those entitled to the full new state pension due to receive a total of £164.35 per week. Meanwhile, those who reached state pension age before 6 April 2016 will continue to receive the previous basic state pension, which will also increase by 3 per cent but to the lower level of £125.95 per week.
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