How to turn 20 pence into £200

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I came across a really interesting story whilst surfing the web earlier today.

A technical error has led to the Royal Mint issuing between 50,000 and 200,000 20 pence pieces which have been struck incorrectly.

The coins were issued following the introduction of a new design with a partial image of the Royal coat of arms being shown on the reverse (or “tails”) side of the coin with the date (year) the coin was struck being moved to the heads side of the coin, which shows the Queens’ head.

The date needed to be moved to the “heads” side of the coin to accommodate the new shield design on the “tails” side.

However, the batch in question was produced using the new “tails” side with the old “head” side, which resulted in the coins being issued without a date shown.

It is believed that it is nearly 300 years since the date was last not shown on a UK coin.

These 20 pence coins are being deemed to be collector’s items and indeed a quick search on www.ebay.co.uk shows that some of these coins are receiving bids of several hundred pounds.

It would therefore be very shrewd to check your change now to see if you are the lucky holder of one of these miss-struck 20 pence pieces.

You could be literally sitting on a fortune!!

Have you found one? Please let us know by leaving a comment below –

With-Profits Bonds – Avoiding a Market Value Reduction?

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Many people have historically invested money in a “with-profits” bond – they were popular amongst investors as they were viewed as a “lower risk” investment.

By managing the underlying “with-profits” fund the fund manager could “smooth” the returns enjoyed by investors by keeping back some of the profits in the good times, to allow them to continue paying bonuses in the bad times.

How do Investors benefit from a With-Profits Investment?

An investor would typically benefit from investing in a With-Profits bond in two ways.

Reversionary or Annual Bonuses

The fund manager would typically declare an annual bonus rate applicable to their with-profits fund – this would be a reversionary bonus as a percentage of the initial amount invested as well as a percentage bonus based on previous bonuses already received (a kind of “compounded return” if you like.)

The second way to benefit from investing in a with-profits fund was through the potential payment of a terminal bonus.

In recent years, with UK and world stock markets falling, the bonus rates payable have been very low; in many cases no bonus has been paid.

As a result of the size of the fall in stock markets many life companies are applying “market value reductions” to any surrender from their with-profits fund.

These Market Value Reductions can see the final surrender value cut by anything between 10% and 20% – every plan is different.

The reason for this is to protect remaining investors and to ensure that those people surrendering their with-profits investment are paid a fair amount based on their participation within the fund.

With-Profits Investments – any real future?

With-Profits funds have fallen out of favour with many professionals and investors over recent years. By their very construction they are not “open” in terms of the internal costs and charges involved in running the underlying fund – especially when compared to a “unit-linked” fund where the charges and costs involved are explicit – the investor can see exactly what the costs incurred in running the fund have been.

Another area of concern for many investors is the underlying asset allocation within the with-profits funds. Many funds have reduced their equity content substantially, taking cash and fixed interest positions. This overly-cautious approach to fund management could be to the detriment of future returns within the fund, and hence, lower bonuses.

I Want to Cash In My Investment – Can I Avoid this Market Value Reduction?

There may be a possibility to avoid this MVR on exiting the with-profits fund you are invested in. Many policies were issued with a “MVR Free” guarantee – typically this would be the 10th anniversary of the investment. Many policies offered this guarantee – it was in fact one of the main selling points which many investors may have forgotten about or were not aware of.

Every company is different – some offer the MVR free option on day of the 10th anniversary – some offer it for up to 28 days following the anniversary.

In all cases we strongly suggest that you check the policy document and other papers provided at the time you took out the investment to see what, if any, MVR free guarantees apply to your with-profits plan.

Should I cash in my with-profits investment?

Shrewdcookie does NOT give financial advice – you must take professional independent financial advice before surrendering any investment as there may be tax and charge implications of which you are not aware. The purpose of this article is to bring to your attention the possibility that you may be able to exit your with-profits investment avoiding an unnecessary penalty!

Please tell us your experiences!

We are keen to hear from people who have avoided MVR on surrendering their with-profits investment – please tell us your story below.

What is a Company Share?

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What is a Company Share?

A share in a company is just that – you own part of the company. If it is a publicly quoted company, then yes, admittedly, your share in that company may not carry much control but you do own a share in the company with a right to attend and vote at the company’s Annual General Meeting, as well as the possibility to receive any dividend payable the company and the opportunity to make a “capital gain” is the share price increases.

When we talk about shares we are generally considering those shares in Public Limited Companies (PLC’s) which are quoted on the stock exchange or AIM (Alternative Investment Market – a market for shares in smaller companies).

How are Shares Valued?

A share is a tradable investment in a company and, as such, its price is not fixed but determined by the power of supply and demand within the marketplace.

If more people want to buy shares in Company A than sell shares in Company A, the price of the share will increase, until the number of people who are willing to sell their shares in the company matches the number of people wishing to buy shares in the company.

Conversely, if a lot of people wish to sell shares in a company, and there are too few buyers, the share price will fall – typically demand for any share will increase as the price falls as more and more people can afford to buy that share.

Why own a Share in A Company?

There are basically two ways in which a normal investor can benefit from owning a share in a company – capital growth and dividend income.

Capital growth occurs when the value of the share increases over time – many investors will review the stock market on the lookout for shares which they feel are currently undervalued, based on what they feel will be the future trading outlook for the company, and hence profitability, of the company in which they wish to invest.

For example, company X has a current share price of 90 pence – you have done your research and have concluded that company X has product Y at the research stage and when launched next year, product Y will increase the amount of money flowing into the company, with a corresponding increase in profits.

You feel that based on the information you have that the shares in Company X will be worth 130 pence in the next 12 months. You therefore buy the shares in company X today at 90 pence and hope that they will increase in value to 130 pence, at which point you plan to sell and make 40 pence profit (less any dealing costs and taxation which you might incur along the way).

Profiting through Dividends

The second way to benefit from investing in a company share is through receipt of a “dividend”. When a company makes a profit, the board of Directors will meet to discuss what proportion of the profits will be retained to help fund and grow the company, and what proportion of profits will be distributed to shareholders, in the form of a dividend, to provide the shareholder with a return on their investment.

Are there risks involved?

Yes – the price of the share is determined by the market (supply and demand) for the shares – if more people want to buy the shares than sell them the price will rise, and conversely, if more people wish to sell than buy the price will fall.

Firstly, if you buy a share in a company today for say 120 pence, there is no guarantee that that share price will be maintained at 120 pence – it could go down as well as up. All investors need to be aware of this before making an investment in a single company share – the investor needs to ask themselves “what effect on my wealth will it have if the share I am buying falls considerably in value?”.

Secondly, there is also the possibility that the company could “go bust” or cease trading. In this scenario, liquidators would be appointed to realise whatever they can from the assets of the company and to repay any debts the company owes, tax outstanding etc. Ordinarily shareholders in this respect fall way down the pecking order – it is not uncommon in the case of insolvency for the ordinary shareholders to receive just 1 penny in the pound on their investment, if anything.

Can I reduce the Risk?

Yes – if you have sufficient funds to invest you could buy a “portfolio” of shares in more than one company – by investing in a range of shares you are hedging your bets by not having “all your eggs in one basket” – some shares may rise in value, some may fall in value, some may go bust – your hope is that more of the shares will make you a profit than ones that make you a loss.

If the amount you have available to invest is rather modest then you could consider investing in a “mutual fund”. A fund manager runs the fund and takes money in from a large number of investors – the fund invests in a diversified portfolio of shares or assets in line with the investment objectives of the fund.

The investor in this scenario benefits from the active management of the fund by a professional management team as well as the ability to invest in a wide range of different companies thereby reducing the risk of their investment.

Learn more About Company Shares

“Investing in Shares for Dummies” is a great introduction to this fascinating topic. Buy now from Amazon.

Saving Money on Your ISA Charges

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In the current investment climate it is more important than ever to ensure that you have an ISA wrapper which is providing value for money. Current low returns in both UK and world equity markets, as well as other asset classes, such as commercial property, mean that and charges you incur in your ISA can have a dramatic effect on the overall performance of your investment.

Take for example a typical UK equity fund in which many people invest. There are typically two sets of charges which will be incurred in investing in such as fund:

Initial Charge

The Initial Charge is the charge applied to money at the point it is invested into the fund, sometimes also known as the “bid-offer” spread. This can range from 0% to 6% with a typical value of 5%. So for every £100 entered, you only really have £95 being invested – the effect of this is that the fund has to provide growth of 5.26% just to get you back to your original investment of £100.

Annual Management Charge

These vary depending on the nature of the investment portfolio which the investment manager is looking after. Typical values here can range from 0.5% to 2.0%. It is the annual management charge in our opinion which has the most detrimental effect on the performance of an ISA or other investment.

Consider this hypothetical scenario – you are invested in a managed fund with an annual management charge of 1.5%. Each and every year, the fund manager deducts 1.5% from the effective value of your fund. This is OK in the good years when the stock market could be showing returns of 5%, 7% etc. But in recent years with low or even negative growth, this fixed cost on your investments is even worse.

Is there a Solution?

Yes there is. By investing through a discount broker or fund supermarket not only are you opening yourself up to a very large fund choice from which to invest, you may also benefit from discounts on both “initial” and “annual management” charges.

Can these Savings be Made Just on New Money Invested?

No, many of the fund supermarkets offer the option to transfer in ISA’s and other investments from other providers to benefits from these discounts.

Naturally it would be wise to take independent financial advice before making any investment you are unsure of.

Investment Bonds – An Introduction

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What is an investment bond?

An investment bond is, from a technical point of view, a “single premium, non-qualifying, whole of life assurance policy” for which the main principle is one of investment.

They are offered by life insurance companies as a place to invest money over the medium to long term with a view to either providing capital growth, “income” or both.

Non-qualifying relates to the tax treatment of the investment bond – the contract is essentially a life insurance policy which has been designed to be used as an investment vehicle.

Investment Options

The life company offering the investment bond will have a portfolio of funds, possibly both internal and externally managed funds, into which money can be invested. These will cover such asset classes as stocks and shares, commercial property, corporate bonds, fixed interest securities, gilts and government bonds, as well as cash.

Money can normally be invested in more than one fund at a time – typically 10 or more funds at one time is not uncommon.

Taxation of Investment Bonds

Taxation of investment bonds is a little beyond the scope of this article – we strongly recommend that you seek guidance from an accountant or financial adviser before making any amendments to any existing investment bond you may hold.

The investment bond is deemed to have paid basic rate income tax within the fund, however, many funds actually suffer a lower tax charge internally than basic rate income tax as a byproduct of the way the internal returns are broken down between capital appreciation, income in the form of interest and dividends received.

From the public’s point of view, basic rate income tax is deemed to have been paid and the term “non-qualifying” relates to the way any additional taxation may result on taking money out of the plan. A non-taxpayer cannot reclaim any tax paid by the life company within the investment bond.

In what circumstances may a policyholder have to pay additional tax?

The liability to additional taxation comes into play in the event of a “chargeable event”. A chargeable event generally occurs if any, but not limited to, the following happen:

  • Withdrawals in excess of 5% per year – up to 5% of the original amount invested can be withdrawn each year with no immediate additional tax liability – ideal for providing an “income stream” – possibly in retirement.
  • Death of a life assured – if they are the last life assured remaining on the investment bond
  • Partial or full surrender of the bond
  • Assignment of the bond – for money or money’s worth

The calculation of liability to tax is beyond the scope of this article but in brief any additional tax liability is calculated with reference to the individuals own income tax position in the tax year in which the policy year in which surrender takes place ends – phew!!! Ask an accountant or IFA for guidance in this area.

Top Slicing

“Top slicing” of gains on investment bonds generally allows the gain to be divided by the number of complete policy years, after which this “slice” is added to the individuals income for the tax year in question.

If this slice, when added to other income, takes the policyholder into the higher rate tax bracket then some or all of the gain may carry a liability to additional taxation (20% in the current tax year).

Again, seek professional advice before surrendering any investment bond.

Who can benefit from investing in investment bonds?

The ability to take an effective 5% annual withdrawal without any immediate additional higher rate tax liability may be attractive to higher rate taxpayers who may become basic rate taxpayers later in life.

People who have fully utilised their ISA allowances and are actively managing other investments which fully utilise their annual capital gains tax (CGT) allowance.

5% withdrawals are not classed as “income” – this is attractive to individuals over the age of 65 who benefit from higher annual allowances against income tax than under 65’s. For example, in the 2009/2010 tax year, a 66 year old can earn upto £9,490 before paying any income tax. Any income, such as interest or pension annuity, over a set level each year reduces this additional personal allowance,

An additional benefit to retired people is that investment bonds are not normally included in assessing a persons personal finances by a Local Authority in respect of funding long-term care. Care should be taken when considering retirement home planning and investment bonds – any action to move money into investment bonds in the period near to having to go into a retirement home could be deemed “deprivation of assets” by the local authority. More information can be found in the CRAG report.

Investment Bonds are classed as “NIPA’s” – Non-Income Producing Assets which makes them ideal for holding as part of a Discounted Gift Trust (DGT) or Gift and Loan Trust, which are both inheritance tax planning arrangements. Many life offices have their own DGT and Loan Trust packaged schemes with the core investment held in an investment bond due to the favourable tax treatment of investment bonds within a trust arrangement.

Conclusion

Investment Bonds can be viewed as more than just an investment – invariably they are a retirement and estate planning tool and care should be taken in taking any action in regard of investment bonds.

Pension Planning for Non-Earners

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Many people assume that a personal pension plan is only available for those people who are in paid employment. Historically this was the case as there was a need to be in receipt of “net relevant earnings” in order to qualify for pension contributions.

This income had to be “earned” income – so if for example you had a large percentage of your income come from savings and investments then this “income” could not be used to calculate the maximum amount which you could invest in a personal pension plan.

Under current rules you are able to contribute up to 100% of your earnings, or £3,600 gross per annum, whichever is greater.

How does tax relief work on a personal pension?

All contributions made by individuals are made “net” – i.e. they are paid out of taxed income, and it is the responsibility of the pension provider to reclaim the income tax which has already been paid on the slice of income which is being invested into the personal pension.

Everyone qualifies for basic rate income tax relief at source, regardless of their tax position.

So it is therefore possible for someone who is effectively not paying any income tax, for example a parent who stays home to raise a family, to pay money into a personal pension and have this topped up by HMRC by way of a tax rebate into the plan.

What rate of relief is applied?

Basic rate tax relief is applied, currently being 20%, so in order to make a gross contribution of £3,600 into a personal pension plan, a net contribution of £2,880 is required, with the pension provider, reclaiming £720 income tax relief from HMRC – this provides a non-taxpayer with an instant return on their money invested of 25% – there aren’t many investment which can give that sort of return in the first year!!!!

Don’t forget though, with a pension plan, under current rules, at retirement you can take 25% of your pension fund as a tax-free lump sum (known as “pension commencement lump sum”) with the remainder of the fund providing a pension income of one kind or another, which will be liable to income tax.

Why is this important for families planning their retirement income?

Traditionally in a family with just one adult working, all pension planning has been done in their name – with the subsequent outcome that they will be liable for income tax on reaching retirement.

Now it is possible to fund a pension plan for the non-earner – the benefit here being that both partners will have a personal allowance in retirement, against which no income tax is payable, and therefore pension income for the non-earner in retirement, depending on their other sources of income, could effectively be received without any income tax liability.

For more guidance on pension planning for non-earners we would suggest you take independent financial advice to decide whether this course of action is suitable for your particular circumstances.

Personal Finance Questions – April 2009

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In this new feature we will answer some of the many questions we have been receiving from visitors to shrewdcookie.com. It is often said that if you ask a question chances are that many other people also want to ask that very same question.

Although we receive a large number of personal questions we have to remind you that we do not give financial advice on this website – we encourage you to visit an independent financial adviser, solicitor or accountant if you wish to discuss any particular course of action which may be prompted by an article you read on our site.

1. What are the new ISA allowances announced in the recent Budget?

The ISA limit is increasing from £7,200 to £10,200. The change comes into effect for the over 50’s from 6th October 2009 and from 6th April 2010 for the rest of the population. Of the new £10,200 limit, upto £5,100 will be allowed for Cash ISA investment, with any surplus between the amount you place in a Cash ISA up to £10,200 being available to invest in a stocks and shares ISA.

2. Inheritance Tax – who pays?

The liability for paying inheritance tax lies in the hands of the executors/administrators of the deceased’s estate. Inheritance tax is payable within 6 months after the end of the month in which the person passed away. It is possible to pay Inheritance Tax in instalments over up to 10 years – this is the case in circumstances where say the estate includes a house. There is an interest charge if you pursue this method of paying Inheritance Tax – http://www.hmrc.gov.uk/ for more details.

3. I am married to someone who was not born in this country – how does this affect our Inheritance Tax position.

Where a spouse is deemed to be non-Uk domciled then the Interspousal transfer is limited to £55,000, there in no limit to the Interspousal transfer where both partners are UK domiciled – no liability to inheritance tax on first death if you leave all your assets to your marital partner. Consult a solicitor or accountant about your own particular situation.

4. How do I get a State Pension Forecast?

To obtain a forecast of your state pension entitlement, based on your national insurance record you need to fill out and submit a form BR19 – this article – “How Much State Pension will YOU get” gives more details.

5. If I invest a lump sum now how can I easily calculate how it will grow between now and retirement?

Using the Rule of 72 – by assuming an interest rate and dividing this into 72 will tell you how long that money will take to double in value. For example, at 6% your money will double in value every (72/6) 12 years. If you had say 36 years to retirement, at 6% growth your money would effectively double 3 times. See this article for more details.

6. Can I back-date my ISA investment to use last years allowance?

No – your money needs to be invested by midnight between 5th and 6th April each year to use the ISA allowance for that tax year – there is no way to backdate an ISA investment. A case of “use it or lose it”!

7. I am a female born in 1954 – when do I get my State pension?

State retirement age for men and women is being equalised to 65 for both sexes. See this article . There is also a State Pension Age calculator provided by The Pension Service – enter some basic details and it will tell you exactly when you qualify for your State Pension.

8. Can I hold Cash in a Stocks and Shares ISA? What is the tax liability?

Yes – many providers offer a “cash park” facility whereby you can invest temporarily in cash and then switch into stocks/funds over the short term. There is the facility to receive interest on this cash held but the interest is subject to tax and a non-taxpayer cannot reclaim this tax either. See this article for more details.

9. What is the minimum deposit on a mortgage for first-time buyers?

There is no legal minimum deposit, the minimum is set by market forces – we are currently suffering from the “credit crunch” whereby lenders are being cautious about lending to people particularly with the housing market currently falling. Therefore, more and more people are being expected to make a deposit when buying their first homes – typically 10% or more is required to obtain a good interest rate product – see “5 tips for first-time buyers” for more details.

10. What is the “deferred period” on my income protection plan for?

The deferred period is the time between notifying the claim to the life office and the benefit being paid out. The plan is designed to provider a replacement income in the event of long-term absense due to illness or accident. The longer the deferred period, the lower the risk to the insurance company of having to meet a claim which therefore means a lower premium. See these article on “income protection” for more information – “Income Protection – an introduction” and “Critical Illness Cover versus Income Protection”.

These are just some of the areas we have received enquiries on in the past month. Although we cannot reply directly please ask a question and we will try to feature it in the next FAQ article next month. Add a comment below or complete this short form to contact us.

Simon

Top 10 Articles – April 2009

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The following is a list of the Top 10 articles visited in April 2009: –

1. New Tax Year – New ISA Allowance

The start of the new tax year on 6th April 2009 marked the opportunity for another tranche of money to be invested in a tax-efficient manner in an ISA.

2. Change in ISA Allowance – Budget 2009

In his recent Budget, the Chancellor of the Exchequer increased the ISA allowance to £10,200 per tax year – read the above article – the devil is in the detail!

3. Budget 2009 – Key Changes

A summary of the main changes and issues covered in Budget 2009 which may affect you and your wealth.

4. Tax Allowances and Rates – 2009

The start of the new tax year on 6th April heralded a number of changes in rates of taxation and allowances – read the article above to see just how much more money you will pay in tax this year.

5. It’s not how much you save, it’s how long

A great article introducing the time value of money as well as the principle of compoun growth and interest.

6. 10 Great Reasons to Write a Will

What I feel is one of the most powerful and beneficial articles of the last month – if you do nothing else this year, please read this article and make a Will.

7. An Introduction to Inheritance Tax

Inheritance Tax is a tax paid by those who distrust their children more than they distrust the Government. Plan early to avoid the simplest of taxes to avoid.

8. Cashflow Forecasting – plan your cashflow for the next 12 months

Short article on the principle of cashflows – how controlling your cash is an excellent habit to form – handy Excel cashflow spreadsheet available to download as well!

9. “Parking Cash” in an ISA

Great facility allowing you to place full amount into an ISA without the need to commit to investing the full amount from day one if you are concerned about stock markets and other asset classes falling further.

10. State Pension – how much will you get?

An introduction to the State pension with valuable information on changes in state pension age as well as how to obtain your own State pension forecast free of charge!

The above list details the Top 10 articles published on shrewdcookie.com in the last month based on visitor data.

Please subscribe to the Shrewdcookie.com RSS feed to receive all our articles as soon as they are published – click here.

Fund Performance – Useful Websites

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To download this Article as a PDF, right-click on the symbol below and “Save Target As…” 

Fund Performance - Online Resources(321kb)

The importance of reviewing investment funds

Many people invest in pensions, ISA’s, investment bonds, endowments etc. without actually giving much thought to the funds in which they are investing.

Invariably we find that the money has simply been invested in a “managed” fund and little thought has been given historically to investing in a decent fund or portfolio of funds in line with the investor’s attitude to investment risk at the time the investment was taken out.

Over time, people’s attitudes to investment risk do change and it is vitally important that you regularly review what is happening with the funds in which you are invested.

Not Matching Attitude to Investment Risk

Many portfolio’s and funds are out of keeping with the spread/diversification of portfolio into which many people should be investing. For example, we tend to find that many “managed” funds are nothing more than equity funds – not necessarily investing 100% in stocks and shares, but certainly in a proportion which far outweighs what that person ideally should be invested in given their attitude to investment risk.

Poor Performance

Many funds are lacklustre – they have historically performed in a mediocre, if not, terrible fashion. Although many might argue that past performance is not a guide to the future we tend to believe that there may be a correlation between performance and such factors as fund manager, investment style, research methodology, liquidity of the fund etc.

This leads nicely into diversification…..

Funds not Diversified in line with Attitude to Investment Risk

Many people are unaware that under many pension and investment contracts you are not limited to investing in just one fund. Most modern plans will allow you to invest in up to 10 or more funds and a choice of both internal and external funds may be available. We strongly suggest that you contact your pension/investment provider to find out what fund(s) you are currently invested in as well as to obtain a list of the funds into which you can switch.

Also enquire as to whether there are any switching costs involved – most policies will allow some or all fund switches free of charge.

Reviewing Funds – Performance, Construction etc

In terms of reviewing your existing and potential investment funds there are several sites which you should consider taking a look at. The good thing is that the information they provide is free of charge!

Trustnet

Trustnet offers information on a very wide range of funds in terms of performance etc. The first tab on the site shows “Investments”. if you hover your mouse over the various sections – “Unit Trusts and OEIC’s”, “Investment Trusts”, “Pension Funds” etc – you will see a dropdown menu. We suggest initially that you click on “A-Z Group Factsheets” – this will show a list of pension/life companies for whom they hold fund information.

The information is updated on a regular basis is comprehensive in terms of what information is provider – such as performance, what is invested in the portfolio, charges, information on the manager, graphs showing performance against the sector average etc.

When you have found the fund in which you are invested you may be able to access the providers own fund factsheet by looking down the right-hand side of the screen.

Morningstar

Similar in make up to Trustnet – it really comes down to personal choice with regard to which site you prefer.

Summary

It is important that you review the funds in which you are invested on a regular basis and the above two sites will provide valuable, independent information in respect of your existing funds, as well as information on funds into which you may decide to switch within the universe of funds provided by your pension/life company.

Important: Before making any decision to switch we suggest that you consult an Independent Financial Adviser as to whether any choice of investment fund into which you may switch is suitable for you.

We would love to know what other online resources you use – please leave a comment below.

How to Maximise Pension Income in Year One

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How to Access in Excess of 25% of Your Pension Fund Today

Click here to download this article as a PDF

Many people often ask about “cashing in their pension plans”. Unfortunately many people seem to believe for one reason or another that you can take all your money out of a personal pension plan n in one go – this simply isn’t the case.

Under current rules, an investor with a personal pension plan in the UK can access 25% of fund value tax-free between ages 50 and 75 (minimum retirement age is rising to 55 from 6th April 2010 – anyone aged between 50 and 55 before 6th April 2010 needs to act in the next 11 months if they want to avoid being unable to access pension benefits until age 55). This tax-free cash as it is commonly known was renamed “pension commencement lump sum” following A Day on 6th April 2006 – I wonder why they changed the name???

Many people wish to access as much of their pension funds as possible, as soon as possible, effectively bringing the money back into their estate now, rather than waiting until later.

There is an option which can be pursued to maximise income from your personal pension plan by combining tax-free cash with income drawdown and annuity purchase.

This is how it works

Let’s assume that you are a male now aged 50 and looking to take the maximum possible amount out of your pension plan in the current tax year – there are three steps you would need to take to achieve this –

1. Take maximum tax-free cash at commencement

It does exactly what it says on the tin – normally this will give you 25% of the current fund value – on some older pension plans you may be able to get in excess of 25%.

2. Move to an income drawdown arrangement and take “maximum GAD” from day one

Income drawdown is a flexible arrangement which allows you to draw an income from your pension fund whilst still allowing your pension plan to remain invested. It’s normally an option taken up by people with a medium to adventurous attitude to investment risk – since your money remains invested there is a possibility that investment performance could move against you, and the level of withdrawals you are taking from your pension fund could exceed the growth you are enjoying, thereby reducing the size of your pension fund. You could in theory use up your entire pension fund BEFORE you die – this is the risk you are running – with an annuity you pass this risk to the pension provider – in exchange for your pension fund they provide you with an “income for life”.

Maximum GAD refers to the amount of your fund which the regulations will allow you to drawdown from your pension pot – GAD stands for the “Government Actuaries Department” and they set the rate that can be drawn down for each age group.

For a 50 year old male, the current GAD rate (April 2009) is £49/£1,000 invested based on a Gilt Yield of 3.75%. This gives a GAD percentage of 4.9% (this figure will differ depending on your age – in simple terms the older you are, the higher the GAD rate will be)

The regulations allow the pensioner in this scenario to take 120% of this amount from their pension plan – which in this case amounts to 5.88% gross.

(Important Note: Some personal pension plans provide what is known as a “guaranteed annuity” – this can be as high as 9%-10% – you MUST check with your pension provider before moving to an income drawdown arrangement that you are not entitled to any higher “guaranteed annuity” rates – please consult an IFA before taking pension benefits)

3. Take an annuity with the remaining vested drawdown fund.

Under income drawdown rules it is normal for investors to take an annuity before they reach age 75. An annuity is an “income for life” – in exchange for your remaining pension pot a life insurance company will pay you an income for the rest of your life – however long this might be.

There are different options which can be added to an annuity, such as a widows pension, indexation (to protect the pension income against rises in the cost of living), and guarantees whereby the pension will continue paying out for 5 or 10 years if you die early during the annuity period – remember that generally income from an annuity stops when you die.

To maximise your annuity you need to opt for a simple annuity which contains none of these add-ons

(WARNING – not including some of these add-ons, such as a widows pension, could lead to financial hardship for your family in the event of your death – I cannot emphasis how strongly you should take independent financial advice in respect of accessing your pension benefits in this way.)

For a non-smoking male, age 50, the current best annuity rate available is 5.4% gross per annum – pension income is taxable – you might be liable for tax on this income depending on the other sources of income you may have.

To see what annuity rates are available in the market for your particular circumstances go here –  http://www.moneymadeclear.fsa.gov.uk/tools/compare_products.html

We have therefore identified the three steps which can be used to take maximum cash out of your personal pension plan at this moment in time. Let’s now look at the monetary implications of this.

Let’s assume you have a pension pot today of £50,000. We will now consider the effect on your pot of each of these steps.

1. Take 25% tax-free cash (cash in hand of £12,500 tax free) – remaining pension fund of £37,500.

2. Take income drawdown of 5.88% gross immediately (£37,500 x 5.88% gross = £2,205.00 – less 20% income tax – £1,764.00 cash in hand after tax) – pension pot remaining of £35,295.00.

3. Purchase an annuity after taking income drawdown – based on a pension pot remaining after taking maximum drawdown of £35,295.00 and annuity rate of 5.4% the investor would receive £1,905.93 gross (£1,524.74 cash in hand after tax).

Summary

Having carried out these three actions in quick succession the investor has been able to access £15,788.74 of their pension fund after payment of income tax – amounting to 31.58% (nearly a third of their pension plan).

The remaining fund can then be used to provide an income for the remainder of the pensioners’ life in line with the annuity options chosen at stage 3 above.

Warning

We can’t emphasis enough the need to consult an Independent Financial Adviser before embarking on the course of action outlined in this article. It may be that this course of action is totally unsuitable for your particular circumstances. We accept no responsibility for your actions – you have been warned!!!

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