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Inflation and the pension impact

Nathan Long
pension freedoms

The official inflation figures for September 2017 are released on Tuesday 17th October. The figure is particularly important in pension circles as it can dictate increases across a number of areas. From Nathan Long – Senior Pension Analyst at Hargreaves Lansdown.

The current level of the full New State Pension is £159.55 per week (equivalent to £8,296.60 per year). The triple lock dictates it will increase in April 2018 by a rate equal to September 2017’s CPI, earnings growth or 2.5 percent whichever is the greatest. Inflation stood at 2.9 percent in August 2017 and earnings growth currently stands at 2.1 percent, so unless we see a big shift, we would expect the September inflation figure to be the increase that applies.

Currently there are 13 million recipients of the State Pension
Nathan Long – Senior Pension Analyst at Hargreaves Lansdown: ‘The State Pension provides a bedrock of retirement income for everyone and is critical to the successful function of our pension system. Not only is the increase important for those who are receiving their pension, it also helps those on the run in to retirement to plan with increasing accuracy. If you are in your 50s you can reasonably start thinking about what you might spend in retirement. Split your retirement spending into essentials like food, heating and clothing and non-essentials like holidays and meals out. Ideally you should have enough secure income from your State Pension, any Final Salary Pensions or an annuity to cover the non-essential spending. It is never too late to squirrel monies away for life after work but the first step is to plan.’

First increase to the lifetime pensions limit since April 2010
April 2006 saw a raft of changes introduced by the then Labour Government, including a restriction on the amount you can build up in pensions over your lifetime – known as the Lifetime Allowance (LTA).

Initially this level was at £1.5 million, it reached as high as £1.8 million for the 2010/11 & 2011/12 tax years before being gradually chipped away at ever since. The last reduction cut the LTA from £1.25 million to £1million for the 2016/17 tax year, but promised to increase the LTA in-line with CPI from 2018/19.

All is not completely lost for those exceeding the LTA, they simply pay tax at 55 percent when they take any pension in excess of the LTA as a lump sum. The LTA does not apply in quite the same way between those in final salary pensions and those in more modern defined contribution pensions.

The value of your final salary pension is valued as 20 times your income plus the value of any tax-free lump sum, allowing you to accrue a maximum income of £50,000. If you have a defined contribution pension, a pension pot that exceeds £1 million will incur LTA issues. Currently £1 million would buy you an income of only around £32,000 of inflation linked income at age 65, £18,000 less than the final salary pension.

Nathan Long – Senior Pension Analyst at Hargreaves Lansdown. ‘Even a small increase in the Lifetime Allowance is welcome news for pension investors with larger pots, however we continue to see this limit as a penalty for those who have invested wisely. With an annual contribution limit of £40,000 or lower for some higher earners, the Lifetime Allowance serves little purpose and should be done away with altogether.

You should ensure you have up to date valuations of all of your pensions especially if your total pension savings will be up to or around the lifetime limit, as it will help you fine tune your plans. If it looks like you are going to be bumping up to the limit, paying in more may not be worthwhile even through a workplace pension scheme. As you’ll have to share the benefit of any growth above the lifetime limit with the taxman, you may also decide to invest more cautiously.  It may also be possible to apply for a higher lifetime limit if you had savings over £1 million on 5th April 2016 or have not paid contributions since that time. This remains a complex area where paying for expert financial advice could be worthwhile.’

Public Sector Pension Increases
Public sector pensions increase member entitlements for next year using the September inflation rate. This is a particularly thorny topic at present given the pressure on Government around public sector pay which has stagnated.

Since 2015 Public Sector Pensions have moved to using Career Average Earnings as opposed to final salary pensions. This basically means that each year members ‘bank’ their accrued pension and this is uprated in-line with the previous September’s inflation.

Some pensions increase this cumulative accrued benefit by more than inflation.

Teachers’ Pension – Increases of CPI + 1.6 percent

NHS Pension – Increases of CPI + 1.5 percent

Police Pension – Increases of CPI + 1.25 percent

So if inflation was 2 percent in September 2017, the increase for pensions being accrued would be 3.6 percent on the Teachers’ Pension, 3.5 percent for those in the NHS and 3.25 percent for the Police Pension Scheme.

Nathan Long – Senior Pension Analyst at Hargreaves Lansdown: ‘The pay packets of public servants have become more and more stretched as their pay rises lag the rising costs of goods and services. Pension schemes of public sector workers continue to leave most members well placed for retirement. However, this is a fine balance as members of some public sector schemes may actually find their future pensions increasing nicely whilst they struggle to pay for the here and now.’

www.hl.co.uk

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