Download December 2013 Update - Mackintosh Cunningham Consulting Ltd

CONTENT PLUS
DECEMBER 2013
A LOT CAN HAPPEN IN NINE MONTHS
The Chancellor’s Autumn Statement produced few surprises and no giveaways.
In March 2013, George Osborne’s job security looked similar to that of a Premier League
manager. Talk was of a triple dip recession, government borrowing was stuck at £120bn and
the Office for Budget Responsibility was running out of red ink for its projections.
Nine months later, the Chancellor was able to present his Autumn Statement having
avoided the triple dip recession and with economic recovery seemingly on a solid footing.
He could even talk of a budget surplus being in sight, albeit not until 2018/19. There the
rosy picture stopped: 18 months before a general election is not the time for giveaways.
Thus the raft of announcements and re-announcements ended up as tax-neutral. The main
points of interest were:

The personal allowance will increase to £10,000 in 2014/15 and the higher rate (40%)
tax threshold will increase by £415 to £41,865

There will be a new transferable tax allowance of £1,000 for married couples and civil
partners from April 2015.

From 6 April 2015 employers will no longer pay Class 1 National Insurance Contributions
on earnings paid up to the Upper Earnings Limit to any employee under the age of 21.

The final exemption period for private residence relief will be halved to 18 months from
April 2014 while from April 2015 capital gains tax will apply to future gains on residential
property owned by non-resident individuals.

The overall annual Individual Savings Account (ISA) subscription limit for 2014/15 will
rise to £11,880, of which £5,940 can be invested in cash.

A raft of specific employment anti-avoidance measures were announced, mostly aimed
at arrangements designed to disguise employment.

New ‘simplified’ IHT rules for trusts will be introduced from April 2015, following further
consultation.
FORWARD GUIDANCE GOES BACKWARDS
The Bank of England has been revising its forecasts too.
In November the Bank of England published its latest Quarterly Inflation Report (QIR). This
report had been more eagerly awaited than many of its predecessors because of the Bank’s
introduction of ‘forward guidance’ on interest rates in early August.
Back then, Mark Carney, the Bank’s newly imported Governor, suggested that base rate was
unlikely to be reviewed until the unemployment rate fell to 7%, which was projected to be
not until at least the middle of 2016. The markets were not convinced and the Bank found
itself firmly on the back foot, defending its pessimistic view that it would take over two and
a half years for unemployment to drop by 0.8%.
Since August, news on the UK economy has been generally upbeat:

Third quarter economic growth was 0.8%, more than some forecasters (including the
Office for Budget Responsibility) had earlier pencilled in for the whole year.

The latest inflation numbers (for October) showed an unexpectedly sharp drop. The
annual increase in the Consumer Prices Index (CPI) fell by 0.5%, bringing it to 2.2%,
only marginally above the Bank’s regularly missed 2% target.

The unemployment rate has declined to 7.6%.

Government borrowing from April to October 2013 was 8.2% lower than for the
same period in 2012.
In its November QIR, the Bank effectively conceded that its summer view had been too
gloomy. In its introduction the Bank said “In the United Kingdom, recovery has finally taken
hold. The economy is growing robustly as lifting uncertainty and thawing credit conditions
start to unlock pent-up demand.” It went on to concede that there is now “a two-in-five
chance” its 7% unemployment threshold will be reached by the end of 2014.
Hitting 7% does not mean rates will rise, the Bank stresses. It is merely the trigger for a
review and if other factors are benign the 0.5% base rate could continue. The stimulation
that theoretically provides is still relevant: in inflation-adjusted terms the UK economy is still
2.5% smaller than it was in the first quarter of 2008. Nevertheless, the markets continue to
be sceptical, witness the Bank’s own graph showing market-derived future interest rates.
The value of your investment can go down as well as up and you may not get back the full
amount you invested. Past performance is not a reliable indicator of future performance.
SEED ENTERPRISE INVE STMENT SCHEMES – SMALL ALL ROUND
The Treasury has released figures on the take up of seed enterprise investment schemes.
The Seed Enterprise Investment Scheme (SEIS) was originally outlined in the 2011 Spring
Budget, but did not formally start life until April 2012, after the usual smattering of reannouncements. It was designed to encourage investment in new, small start-up companies
with no more than 25 employees.
In November the Treasury released a ‘news story’ (aka press release) explaining how the
scheme was working. It revealed that over 1,100 companies had raised money through the
SEIS, with the average amount invested of £72,000 – less than half the maximum permitted
of £150,000. That meant total capital raised was about £82m, compared with £525m
provided by the main Enterprise Investment Scheme (EIS) in 2010/11, the most recent year
for which HMRC have published data.
At the same time as the Treasury was highlighting its numbers, HMRC issued some research
they had commissioned into the early months of the scheme. Predictably this reported that
“The main aims of investors for participating in SEIS were to take advantage of the front end
tax relief… and the Capital Gains Tax (CGT) exemptions from the likely gains.” More
surprising was the fact that those putting money into SEIS “were generally individuals who
made relatively few investments (rather than business angels).”
This does sound eerily like the tax tail wagging the investment dog. By their nature SEIS
companies are very high risk – as the HMRC report shows, many enterprises resort to SEIS
because funds are unavailable from traditional sources. If you are tempted by the tax reliefs
SEIS offer, do take advice before committing any money. There is a role for small companies
in well-diversified portfolio, but SEIS companies are at the nano-sized end of small and may
not be the right route to choose.
The value of tax reliefs depends on your individual circumstances. Tax laws can change. The
Financial Conduct Authority does not regulate tax advice.
B, C AND NOW A
The DWP is proposing a new type of pension scheme.
At present pension schemes can be broadly divided into two types:
Defined Benefit (DB) Schemes which typically offer a retirement income, or a specific level
of pension savings, based on a formula related to an employee’s salary and/or the length of
service in the scheme. The classic example is the occupational scheme that offers 1/60 th
final pensionable salary for each year of service.
Defined Contribution (DC) Schemes which are more akin to savings plans. A DC schemes
builds up a fund from invested contributions that are converted to a pension at retirement.
Personal pensions and the government’s default auto-enrolment scheme, NEST, are both DC
arrangements.
DB schemes place inflation and investment risks solely with the employer and, as a
consequence, have been disappearing from the private sector for some years – the latest
report from the Pensions Regulator says less than one in seven private sector DB schemes
still accept new members. In DC schemes, the risks are all left to the individual member,
which can have unwelcome consequences if poor investment conditions coincide with their
retirement date.
The government, and in particular Steve Webb the Pensions Minister, have been struggling
to find some form of compromise between DB and DC. The result, now put out for
consultation by the DWP is DA – defined ambition. To quote the paper, “A DA scheme would
be a scheme under which members are given some form of guarantee in respect of their
pension, but not complete certainty of the level of income that they will receive from it in
retirement, or when it would be paid.” For example, it is suggested that an occupational
scheme could offer a guaranteed level pension, but leave any inflation-proofing as a
discretionary benefit, to be reviewed each year. Similarly a scheme could promise a
particular rate of pension accrual, but reserve the right to change the retirement age to
reflect rising longevity.
The paper has only a brief consultation period of six weeks, with draft legislation promised
in the New Year. How much interest employers and pension providers will take in
developing DA remains to be seen, particularly with all the other developments going on in
the pension area. For now, the prospect of DA will probably do little to stop the move to
away from DB to DC.
AT LEAST WE BEAT MEXICO
The UK state pension system has come under the spotlight again.
The Organisation for Economic Cooperation and Development (OECD) has just published its
2013 snapshot of pension provision amongst its members. As usual, it does not paint a great
picture for the UK:

Based on the existing UK state pension structure (basic state pension and state
second pension), someone on full time average earnings (£35,900 according to the OECD)
with a complete working life can expect the state pensions to equal 32.6% of their earnings on
retirement. In the OECD league table that puts the UK one from bottom, with only Mexico (28.5%)
scoring less. The OECD average is 55.4%.
Higher earners (150% of average earnings in OECD-speak) can expect 22.5% replacement retirement
income compared to the OECD average of 48.4%.

When the OECD looks at the new single tier pension due in 2016, its conclusion is
that the replacement rate would fall to just 21%. The drop is a reminder that the
new regime will mean the loss of the earnings–related element provided by state
second pension.

The situation is somewhat redeemed when the OECD adds into their calculations an
8% contribution assumption under pension auto-enrolment, even though this is not
compulsory. The pension that auto-enrolment produces, when combined with the
single tier pension, brings long term UK benefits in line with the OECD average at all
earnings levels, as the graph below shows. Nevertheless, the high earner still faces a
replacement rate of slightly under half, with a pension age of at least 67 from 2028.
The main upside from joining Mexico in the relegation zone is UK state retirement provision
is relatively cheap. The OECD says it currently costs 6.2% of GDP against an average of 7.8%
and, for example, 13.7% in France.