As the New Year approaches, families face a fresh set of challenges when it comes to tax mitigation and long-term pension planning - alongside the possibility of a new government.
"There is a huge amount of uncertainty regarding what the changes will be, depending on who's in power," says James Norton of independent financial adviser (IFA) Evolve Financial Planning. "But there's no doubt that things are definitely going to get tougher for wealthy families."
The chancellor used the pre-Budget report to paint a grim picture of punitive tax rises over the next few years, as he took drastic steps to meet a target of halving the soaring public deficit.
Pension planning
"From 2011, tax relief will be restricted for those earning over £150,000; at present how much you can put in to benefit from higher-rate tax relief depends on your situation, but it could be up to £30,000 a year, so it makes sense for high earners to use this allowance to the maximum this and next year," says Laith Khalaf of Hargreaves Lansdown.
"So far the government has said that from 2011 anyone earning over £180,000 will receive no higher-rate tax relief - only basic rate - while those earning below £150,000 will receive full tax relief and those in between these sums will have it tapered. Importantly, as announced in the pre-Budget report, earnings will include employer pension contributions if you earn above £130,000. Any higher-rate taxpayers earning less than this, watch this space."
Mr Norton adds: "All higher-rate taxpayers should ensure that they contribute as much as they can while they are still able, as there is a strong possibility that all higher-rate tax relief will go over the next few years."
Investors in this situation should therefore maximise their other tax-efficient savings such as individual savings accounts (Isas). "While these will not provide an initial boost to their savings as there is no tax relief, there is tax-efficient growth within the fund and income is not subject to tax," says Mark Stone of IFA Whitechurch Securities.
Other alternatives for higher earners could be enterprise investment schemes (EIS), offering 20 per cent tax relief on investment up to £500,000 with gains free from capital gains tax (CGT) if held for more than three years. Also look into venture capital trusts (VCTs), with 30 per cent tax relief on investment up to £200,000 with gains free of CGT after five years.
Annuities and company pension schemes
Turning to annuities, rates on these have been falling recently, so searching the market to find the best rate and type of 'income for life' in return for your pension pot is particularly important.
"This also means completing a medical details form to find out whether you qualify for an enhanced annuity, as in doing this you could be in line for an increase in your starting income of up to 40 per cent," says Mr Stone.
Falling gilt yields have seen the level of income from income drawdown annuities sink over the past year, but these remain an option for those willing to accept fluctuating income in retirement.
"The minimum fund value for income drawdown is normally £200,000 where the pension fund is the only asset and £100,000 where a client has other assets that can provide an income," says Mr Stone.
Mr Khalaf adds: "Whereas these are a more risky option than conventional, level annuities, if anything the downside risk is much less than it was two years ago at the height of the market in 2007 - although, conversely, it is greater than it was in March of this year. Irrespective of the conditions, however, you should be prudent with any drawdown plan.
"That said, some people actually want fluctuating income and drawdown allows that - if you are in semi-retirement or have other income, you might find it valuable to vary how much you are taking from your pension and so what tax band you are in."
Employer pension schemes are also expected to change over coming years. The defined benefit (DB) or final salary pension market in the private sector will diminish, according to experts, as more companies will want to remove pension liabilities from their balance sheet.
However, not everyone should automatically move out of a scheme in anticipation of this - getting independent advice on what the options are and what they are giving up by doing so is vital. "They need to obtain an analysis of the annual level of growth that will need to be achieved for the new scheme to match the benefits of the existing scheme," says Mr Stone.
The pension protection fund (PPF) has been set up to provide 90 per cent of the benefits an employee was promised under the defined benefit scheme should the sponsoring employer go into liquidation. "But the PPF only protects benefits up to £28,000 a year, so high earners might be more prepared to jump ship if they think their company might fail or, indeed, might be inclined to make additional pension savings elsewhere just in case," says Mr Khalaf.
Mr Norton adds: "It is inevitable that more final salary pensions will close, but those in such schemes should probably stay where they are unless they are prepared to take the investment risk that their employer currently takes."
By moving to a defined contribution (DC) scheme, you will have to take more of an active role in your pension provision, as your retirement income is solely reliant on the size of the pension pot.
Children's savings
Advisers are divided on whether or not Child Trust Funds (CTFs) will be abolished under a conservative government. "They do not cost the government a huge amount but, even so, people who top up CTFs for their children should do so sooner rather than later just in case," says Mr Norton.
When planning for school and university fees, equities are the obvious choice for long-term growth, with Isas the best choice for tax-efficient growth and income. "In addition, a portfolio of unit trusts and open-ended investment companies should be considered with an individual's capital gains tax allowance used to pay part of the fees," says Mr Norton.
Brian Dennehy of IFA Dennehy Weller & Co says: "Children have their own tax allowances, for income and capital gains - these should be used to the full, and grandparents can also be involved to avoid any income generated being assessed on the parents' tax status."
The key to investing over the long term is to keep costs down to a minimum, concludes Mr Norton. He suggests a simple solution such as a global index tracker or an exchange-traded fund (ETF) that you are not going to need to chop and change on a regular basis.
Turning to investing in student accommodation, Mr Dennehy says: "Property is very illiquid, interest rates could go up any time from the second half of 2010, and economic recovery is fragile - personally I wouldn't want to be in an illiquid property investment unless I had a lot of time and knew the local market very well."
IHT planning
Families face being hit by Labour plans to freeze a planned rise in the inheritance tax (IHT) threshold.
In the 2007 pre-Budget report, the chancellor promised to raise the threshold progressively to £350,000 for a single person in 2010, and £700,000 for a couple from April next year. However, in this year's pre-Budget report, Alstair Darling said that the IHT threshold will remain frozen at £325,000 for 2010.
The Conservatives have pledged to raise the threshold to £1m for a single person and £2m for a couple by the end of their first term in office. "If the Conservatives do come into power next year, they have already committed to increasing the nil rate band for everyone, and therefore the outlook for IHT planning will change," says Mr Stone.
When looking into IHT planning, putting trusts in place often forms a large proportion of this. "Yet, with the increase in the tax paid by trusts to 50 per cent from 6 April 2010 up from 40 per cent, careful consideration needs to be made on where the investments within these are made to limit the amount it will pay," says Mr Stone. You should also be wary of new legislation to be introduced into the Finance Bill 2010 to counter tax-avoidance schemes that have been designed to avoid IHT charges on property held in trust.
Despite the planned changes, current IHT rules which enable couples to pool their individual allowances remain. In the event of one partner's death, their allowance can be transferred to the surviving spouse.
