Policyholder Taxation

[Viki2010]

Q1. Section 2.1 of core reading - qualifying status

4th bullet point - "the relationship between the premiums payable in different 12 month periods".

Are we talking about reviewable vs guaratneed premiums here?



Q2. Pension contracts - section 4.3 - Benefits

"The remaining 75% can be placed into drawdown account or used to purchase an immediate annuity". This happens at age 55. Question - would the drawdown or immediate annuity payments be available from age 55 or 65?


Q3. The core reading uses two sets of terminology:

"full marginal tax rate" - in the context of general annuity payments
"marginal tax rate" - drawdown at age 55 or life assurance contracts

What is the difference, if any between the two?

 

[Lindsay Smitherman]

Q1. Section 2.1 of core reading - qualifying status

4th bullet point - "the relationship between the premiums payable in different 12 month periods".

Are we talking about reviewable vs guaratneed premiums here?

Not necessarily: premium levels may vary for other reasons e.g. may be scheduled to increase during the policy's premium payment period, or (for a unit-linked product) policyholders may be allowed to pay in higher amounts at different stages of the policy. There is an example of this at the end of Section 2.1 of Chapter 5 of the course notes.

Q2. Pension contracts - section 4.3 - Benefits

"The remaining 75% can be placed into drawdown account or used to purchase an immediate annuity". This happens at age 55. Question - would the drawdown or immediate annuity payments be available from age 55 or 65?

Policyholders can take the tax-free cash and simultaneously enter into a drawdown arrangement or purchase an immediate annuity (or take it all as lump sum cash) at any age from 55 onwards: it doesn't have to be at age 55 exactly. Once they have entered into a drawdown arrangement, they can start to take income immediately. Once they have purchased an immediate annuity, they will start to receive the payments straight away (hence "immediate" annuity).

Q3. The core reading uses two sets of terminology:

"full marginal tax rate" - in the context of general annuity payments
"marginal tax rate" - drawdown at age 55 or life assurance contracts

What is the difference, if any between the two?

They mean the same thing. [The word "full" is sometimes inserted to emphasise the difference between policies (such as general annuities) where the benefits are taxed at the marginal rate, and policies (such as non-qualifying life insurance business) where the benefits are taxed at the marginal rate less the lower rate, but in both cases "marginal rate" and "full marginal rate" mean the same thing: the highest band of tax into which the policyholder's income falls.]

 

[Mbotha]

On this topic, I have a question relating to annuity contracts. Ch2 pg9 states that "The capital content for an immediate annuity is obtained by dividing the premium by an expectation of life...". For deferred annuities:

• I'm assuming that the same applies, where the expectation of life is taken at the vesting date of the annuity?
• Are the premiums the total premiums payable leading up to the vesting date?

 

[Lindsay Smitherman]

Yes, broadly speaking (an accumulated premium equivalent) - but you are not required to know how the capital content for a deferred annuity is determined as this is not included in the Core Reading.

 

[Mbotha]

Once they have entered into a drawdown arrangement, they can start to take income immediately. .

I'm a little confused by the tax side of this (specifically relating to the annual allowance for contributions). There is tax relief on £40k pa, which reduces to £10k for individuals who have accessed a flexible (unlimited) drawdown product (I'm assuming this is essentially the "flexi-access drawdown"?).

• Aren't income drawdowns essentially just funds into which you "deposit" your accumulated pension fund and which give you flexibly regarding using that money?
• If so, I don't quite understand the relevance of the reduction in the annual allowance - by the time the income drawdown is purchased, surely there are no more contributions to be made by the individual?

 

[Lindsay Smitherman]

A fair question! However, some individuals do choose to move some of their funds into income drawdown arrangements but still to make pension contributions to a remaining defined contribution pension scheme. Bear in mind that most individuals have more than one pension arrangement, particularly where they have changed employers. At or after age 55 they may choose to start to drawdown from one or more of these in order to supplement their employment income, but also may decide to continue to make pension contributions in another, for example in order to benefit from an additional employer contribution.

Pensions can be somewhat messy - speaking from experience!

 

[Mbotha]

Oh, I see. That helps a lot! Thank you!

 

[Viki2010]

Hi, I am a little puzzled with the personal allowance vs. annual allowance. Say if someone is earning £100,000, their personal allowance is up to £100,000 but the annual allowance is up to £40,000. Does it mean that the true final cap is £40,000 and the annual allowance rule is superseding the personal allowance limit?

 

[Lindsay Smitherman]

Yes - this is correct: you have to apply both rules. Start with the personal allowance, which states that you can only contribute up to a maximum of your taxable earnings (or £3,600 if higher), which would be £100,000 in your example.

You then have to apply the second rule, the annual allowance, which currently limits contributions to £40,000. So the overall maximum that this example person could pay in a year is £40,000, as you say.

[The annual allowance used to be much higher, and in fact up to 2010/11 it was consistently more than £200,000. It has been brought down significantly in more recent years as a means of reducing the tax advantages of pension savings for those on higher earnings.]