Notional income from pension pots

Before the pension freedoms of April 2015, the practical reality, for most people with pension savings, was that they had to take an annuity. For those with benefits entitlements that was often a pretty poor bargain. The annuity was taken penny for penny from any means tested benefit entitlement that they had, whether Pension Credit for older people or Jobseeker’s Allowance, Employment and Support Allowance or Income Support for those of working age.

For a single healthy person with a basic state retirement pension and no other income then that meant the first £35.25 of an annuity was just handed straight back to the state. There was, for some, a small offset from Savings Pension Credit but that has been reducing for several years and will disappear completely for those receiving the new state pension after April 2016.

With the pension freedoms, things have changed. People are now able to exercise many more options, take capital in one lump sum or in multiple drawdowns or just leave their pension savings where they are.

Leaving the pension savings where they are, once somebody is able to make use of them, does not mean that they are ignored for benefits assessments. Somewhat unusually they are not treated as a capital lump sum but they are treated as producing a notional annuity value.

This notional income only applies to those claiming Pension Credit.  For those getting working age benefits, there is no effect from untaken pension savings, even if they can be accessed. Only actual sums taken from those savings have an effect on the benefits assessment.

The notional value for Pension Credit claimants is calculated using tables produced by the Government Actuary’s Department, and depends upon the amount of money in their pot, their age and the current yield from 15 year Gilts.  The tables and Gilt yields produce a notional annuity value for each thousand pounds in the pension pot and this is used to determine the notional income for benefit purposes.

No notional capital value is applied to the pension pot.

The effects

In many cases this might be seen as a relatively straightforward calculation. It can however become quite complicated when people start to make use of the money in the pension pot, because then the notional annuity value changes.

Taking capital

The chart below shows the, initially rather puzzling, situation where someone can take capital out of their pension pot and

  • increase the amount of their benefits
  • gain access to passported benefits
  • have a higher overall income
  • have a substantial capital sum in the bank


This is because of a number of factors. In this example the pot size starts at £35,000 and the new capital axis shows the amount withdrawn from that.

At first, the capital withdrawn is disregarded, as the amount taken is below the £10,000 level that is ignored for Pension Credit.

The reduction in the pot size also reduces the notional income which is used in the benefits assessment.

Benefits increase as there is less income taken into account.

When somebody has more than the disregarded £10,000 of capital then a notional income, called deemed or tariff income, begins to be taken into account. In Pension Credit that is calculated on the basis of £1 a week for every £500, or part, above £10,000.

When deemed income begins to be taken into account the increase in that income at each step is higher than the reduction in notional income because of the reduction in the pot size. That means that benefit entitlement begins to fall.

In the chart, it can be seen that the reduction in the notional annuity figure, as the value of the pension pot reduces, actually produces an entitlement to Guarantee Pension Credit with the passported entitlements which accompany it.

Taking income


When taking increasing amounts of income from a pension pot then, for benefits purposes, there can be a steep initial rise in net income, which later becomes more gradual. An example of this is shown in the chart above.

The steep gain in net income initially happens because while the income taken is less than the notional income level, the calculated notional income is used in the assessment of benefits.

The actual amount of income taken is ignored for benefits purposes but produces an increase in real net income.

Once the real income taken is higher than the notional income level for the pot, the real income is used in the calculation and the benefits level reduces with the income increases rather than having been constant with a fixed level of notional income.

The notional value of the pot reduces by the amount by which the real income is greater than the notional income.


The table above shows the result and the way in which the switch from notional to real income occurs in the benefits assessment.

The charts and tables are produced by Ferret’s pensionForward advice system which calculates the tax and benefits impact of the pensions options open under the new freedoms.


The new pension freedoms have opened up options which can allow those on benefits to see less impact from their pension savings than was previously the case.

The new options introduce more complexity into the assessment of benefit entitlement and into the advice needs of clients. In order to provide an accurate picture of the effects and impacts of the different options, complex calculations are needed. This is particularly the case where notional income from untaken pots needs to be considered.

Posted in Welfare Reform | 3 Comments

Tax Credit cuts bad – Universal Credit cuts worse!

Tax credits are very much in the news at the moment, not least because of the powerful appearance on BBC Question Time of Michelle Dorrell with her concern about the personal impact of these cuts.

I have recently completed a big exercise, using our Future Benefits Model, looking at the effect of all the announced changes on people over the next five years.

Like all of the other analyses, I found huge cuts in real income that will not be offset by increases in tax allowance or the new National Living Wage (a misleading label, as it has no relationship to any assessed living costs or needs).

I haven’t yet published anything covering my modelling around tax credits, as it seemed that it would be fairly repetitive, although I now have a very rich data set covering hundreds of thousands of scenarios.

The focus on tax credits cuts at the moment, although they will cause enormous suffering to many people, may be diverting attention from something even more serious.

Tax credits, and their cuts, will not be with us for too many more years.  They will be replaced by Universal Credit in due course, albeit several years later than planned. It seems unlikely, but not impossible, that there will be tax credits in payment in 10 years’ time.

Well before then, Universal Credit will have become the standard way of delivering support to people in low-paid work, such as Michelle Dorrell.

On today’s rules, when she moves onto Universal Credit she will find herself much more worse off than under tax credits, even after the cuts come into effect.

As a self-employed person with four children, and extremely low earnings, several commentators have pointed out that she may not be affected by this round of tax credits cuts directly.

Her current earnings appear to be lower than the reduced threshold at which reductions will start to be applied and, as her children are already born, she will not be affected by the forthcoming tax credits limit on the number of children receiving support.

On the other hand, as she is self-employed, the National Living Wage won’t change her earnings either that it will have no direct impact on the prices asks for her services. She also doesn’t seem likely to gain from the rise in personal allowances she doesn’t earn enough to pay tax.

Universal Credit

She can move onto Universal Credit in one of two ways.

The first, and the best for her, will be if she is ‘migrated’. This means that she would be moved from the tax credits system to Universal Credit as part of a ‘managed move’. This will happen when the DWP are transferring people from the old benefits and tax credit systems en masse.  The old benefits system will be closed down and everybody moved onto Universal Credit.  This may not happen at the same time across the country but there will be no individual circumstances which force the move.

People who are migrated will be entitled to be ‘transitionally protected’. That means that, if their calculated entitlement to Universal Credit is less than they were getting previously, they will continue to receive the amount of money that they were getting under the old system. Their Universal Credit won’t however go up annually when benefits rates change. They will continue to get the same cash amount of benefit until their Universal Credit calculated entitlement passes that amount.

The other way she might move onto Universal Credit is because her own circumstances change. For example, if her earnings were to rise, so that she was no longer entitled to tax credits, and then drop later then she would have to claim Universal Credit and her entitlement would be whatever the rules in force at the time said. There are many possible ways in which she might have to move onto Universal Credit.

Transitional protection will be very important particularly for those people moving from tax credits where the rules about earnings and capital are very different from those applied by Universal Credit.

If she doesn’t have transitional protection, or if circumstances were to change in such a way that she lost the protection, she would face a very much less generous situation than the tax credits would offer, even after the cuts.


If you’re self-employed for Universal Credit then the way in which earnings are treated is very different than that for tax credits, which follows closely on from their treatment for tax.

Universal Credit needs the self-employed to provide, every month, a statement of the money in and out of their business. The difference is treated as their earnings.

If they earn less than, typically, 35 times the minimum wage each week then their benefit is calculated as if they were earning that amount. That level of notional earnings will, of course, reduce their entitlement to benefit. On today’s minimum wage figure that means that Michelle would be treated as having a net income of over £1000 a month when calculating her entitlement to Universal Credit. That’s a lot more than she appears to be actually earning, which is the figure used for tax credits.

Each notional £1 above her real earnings figure will reduce her real Universal Credit by 65p.


In 2017 the government are introducing stringent new rules about the number of children who will be entitled to benefit. Only the first two children in the family, where there are any born after that date, will count towards tax credits. All children born before April 2017 will continue to count for tax credit purposes.

That’s the case even where tax credits are claimed after that date.

It’s not the case for Universal Credit. Where there are more than two children born before April 2017 they will count where Universal Credit was being claimed at that date and continues to be claimed. If Universal Credit stops for some reason and then is reclaimed only two children will count regardless of when they were born.

So Michelle’s four children will continue to count for tax credits, as long as she continues to receive it or reclaims it, but they won’t count for Universal Credit if she was to stop getting it and then have to reclaim.

On today’s figures that means a drop in her benefit of £5,500 a year – £105.77 a week.

That’s on top of the equivalent changes that are being made to Universal Credit to match the cuts in tax credits.


The tax credit changes are indefensible, if this government is genuinely trying to support and help low-paid workers. They will make the worst paid of the hard-working worse off.

The cuts are being carried across into Universal Credit as well, removing much of the work incentives which were such a foundation of that benefit.

If you are self-employed with low earnings, or if you have more than two children, then you will find yourself hit worse under Universal Credit than under the tax credit cuts.

If you happen to be self-employed with low earnings and to have more than two children then you face a very bleak future.

Gareth Morgan

October 2015

Posted in Welfare Reform | 18 Comments

Mortgage interest changes – finally on their way

I wrote some time ago, over 3 ½ years in fact, about the consultation and call for evidence that had been published by the government announcing their policy intentions for support for mortgage interest in means tested benefits –

The Summer Budget 2015 has now produced the date of introduction of the proposal – April 2018 – and more detail of the implementation.

There have been a number of changes to the proposals as originally suggested. The core elements remain; there will be a second charge on the property and the loan will carry interest and service charge. There will not though be a two-year period where the current mortgage interest scheme operates, loans will be made for up to £200,000 of mortgages and existing recipients will be transferred onto the loan system.

The waiting period for help with mortgage interest will be extended, again, to 39 weeks.

Gone is the suggestion, which would have been difficult to administer, that liability would cease to increase once the property went into negative equity. Instead, repayment will be limited to the amount of remaining equity in the home and any additional balance would be written off when the account is settled.

The absence of a two-year period which would have been loan free may introduce new complexities for those people with irregular work patterns. Loan repayment will be expected not just on the sale of property, or the death of the owner, but when the claimant enters work.

Universal Credit has a ‘zero earnings policy’ where no help with mortgage interest is available if there are any earnings at all. Loans will therefore be available only when there are no earnings at all. Irregular earning patterns, which for current benefits will normally mean over 16 hours a week’s work before it happened stops, are much more likely for Universal Credit claimants.

Before loans are made, financial advice will have to be received by the claimant. This is described as ‘industry-standard advice’ although this is described only as ‘explaining the consequences of taking a loan’.  This advice will be made by ‘a non‐governmental organisation which will also be responsible, on behalf of the Secretary of State, for registering charges on claimants’ properties and for the recovery of the debt’. Whether this will be an entirely new organisation or whether an existing organisation expected to take on these functions is unclear. There does seem to be some potential conflict within these different roles.

The Effects

All of the following examples are concerned solely with mortgage interest.  They assume that no capital repayment takes place.  Shortfalls in interest support are added to the capital amount owing while higher amounts of support than interest due, reduce the capital outstanding.

I have used the current support for mortgage interest (SMI) rate of 3.12%, in place since July 2015, for modelling the current scheme effects.  For the loan scheme I have taken the Office of Budget Responsibility (OBR) forecast for Gilt rates to 2020 and continued the last rate into the future.

Interest and charges have been added using the 2% rate applied in the examples in the 2011 call for evidence.

In these examples, for ease of calculation, I’ve used a case with £100,000 value and £50,000 mortgage, giving starting equity of £50,000.

To start with the simplest case; a mortgage interest rate of 3.12%, the same as the SMI rate, and zero assumed house price inflation (HPI).


Figure 1 shows that under the current SMI scheme, equity is unchanged across the duration of the claim, as the interest due on the mortgage matches the support received.

Figure 1

Figure 1

Figure 2 shows the situation under the new proposals.

Figure 2

Figure 2

The loan, together with the interest and administrative charges, will use up all equity in the property after about 20 years.

The repayment due is shown in figure 3.

Figure 4

Figure 4

The joy of compound interest is shown by the fact that after 10 years and amount of just less than £20,000 would be due while after 20 years the whole £50,000 will be due.

Where the actual mortgage interest due is greater than the SMI rate, the normal approach under the current scheme is to add the shortfall to the mortgage amount owed. Figure 4 shows the effect that this has, with a real interest rate of 4%.

Figure 4

Figure 4

The real equity is reducing slowly; by year 20 it has fallen to £37,824.

Under the new scheme, shown in figure 5, things are different.

Figure 5

Figure 5

All equity has gone by 17 years but, presumably, the continuing interest shortfall will move the borrower further into negative equity.

Figure 6

Figure 6

Figure 6 shows that the amount repayable peaks and then reduces after 17 years as the first charge amount owed on the mortgage increases. There is no net gain for the borrower from this as there is no equity for them remaining in the property.

If there is house price inflation, which seems to be the assumption behind the justification for this policy, then the situation becomes more complex.

Assuming 2% HPI and a mortgage rate which matches SMI then the situation under the current support scheme is shown in figure 7.

Figure 7

Figure 7

The interest on the mortgage has been met by SMI, but the increase in the value of the house all accrues to the claimant. The original £50,000 equity reaches £110,843 in the 25th year. The capital outstanding remains at £50,000 and, in this example, there has been no shortfall in mortgage interest.

Applying the rules of the new scheme, as shown in figure 8, changes the situation dramatically.

Figure 8

Figure 8

In this example, the increase in the value of the house is not reflected in the equity possessed by the claimant. Their equity falls as in previous examples, although much more slowly.

The repayment of the loan makes most use of the increasing running of the home is shown in figure 9.

Figure 9

Figure 9


The OBR, in their July 2014 working paper No.6 – Forecasting house prices forecast that “assuming consumer price inflation in line with the Bank of England’s 2 per cent target implies 5.3 per cent a year nominal house price growth in steady state”.

That house price growth produces a substantial change in house values, and thus equity after the fixed mortgage amount is deducted.

Figure 10

Figure 10

Continuing the current SMI support scheme with this level of HPI and a mortgage rate at the same level as SMI would produce the result shown in figure 10. There is a substantial increase in equity for the claimant, even after the effects of inflation at the OBR assumed rate of 2%.

Figure 11 shows the effect of the new loan proposals. With this level of house price inflation, a substantial amount of equity would remain even after repayment of the loan and other charges.

Figure 11

Figure 11

Figure 12 shows the substantial payment, which would be recovered in these circumstances, is almost dwarfed by the increase in house prices.

Figure 12

Figure 12

House price inflation at this level would clearly make the changes much more acceptable.


Although these are only a small number of very simple examples, some conclusions seem reasonable to draw from them.

The acceptability of the scheme, to claimants and to others who may benefit from the remaining equity after loans and charges are repaid, appears to depend upon substantial and continuing increases in house prices. There is no certainty, as has been seen over the recent period, that this will occur.

If it does not, and HPI is lower than the OBR forecasts, then what?

The reduction in equity, in particular for those likely to remain dependent on benefits for a lengthy period, will be substantial. This will affect both individuals and others in many ways.

Local authorities see their long-term care costs substantially contributed to, by the remaining equity in their homes, of those entering residential care. That contribution may be reduced by this proposal, with consequent effects on local authority budgets.

Individuals, who have seen the equity in their homes as contributing to their retirement funds, care needs or as an inheritance for their heirs, may have to alter their plans.

A homeowner with a mortgage who becomes unemployed in their late 50s may see little opportunity for employment but expect over 20 years more of life. If the example shown in figure 2 is to be expected, any equity in the home would have been lost by this time.

An Equity Release scheme could allow them to make early use of the equity and, if gradually applied, need not affect the net amount of their benefit income. Releasing funds early, in this way, may benefit the financial services industry and reduce government costs in the short term. The additional needs of older claimants and those in need of care may, however, outweigh these effects.

The impact assessment for this measure has not examined this area carefully, but it would be very interesting to see the internal policy briefings which have, presumably, been produced.

Posted in Welfare Reform | 4 Comments

Pension Wise will make people Pound Foolish

There are big changes coming in April to the way in which people, from age 55, can access their ‘money purchase’, or ‘defined contribution’ pension savings.  These are pensions where the amount you get is decided by the amount that you’ve paid in to your ‘pot’ – the total value of your pension savings.  The changes don’t, in the main at the moment, apply to occupational or ‘defined benefit’ pensions where what you get is linked to your pay.

These changes, announced in the April ’14 Budget, will give much more freedom to people who would previously have had to buy an annuity.  Now they will be able to take their pot in many different ways.  25% of that pot will be tax free but the rest will be taxed, as extra income in the year it’s taken, whether it’s taken as income or as capital.  That means that it can be easy, when taking capital, to see it taxed at higher rates. Pension pots vary enormously in size but the average used for an annuity before the budget announcement was £33,400 according to the Association of British Insurers.

The government recognised that these freedoms required people to have access to guidance about the new options that were open to them.  They are funding a new service, Pension Wise, which can be accessed on the internet at (provided by the Money Advice Service), by telephone where the service is going to be delivered by The Pensions Advisory Service or face to face at 44 Citizens Advice Bureaux delivery centres across England and Wales and CABx in Scotland.

I’ve been working on the ways in which people will be able to understand the effects of the various options that will be open to them.  It’s crucial that people understand one thing,

What you take from your pension pot is not what will end up in your pocket

Some of what you start off with will normally see tax taken off it.  The more you take, the more likely that some of it will be taxed at higher rates.  At larger amounts, the money you take will reduce your tax allowance making even more of a deduction.

Even more importantly for many people with lower value pots, the money that you take, whether as income or as capital can affect your entitlement to many benefits.

That makes it really, really important that when people are thinking about what to do with their pension pot, they have help to understand the final value of income and capital that they will end up with – the ‘bottom line’.  Without that bottom line figure, it’s going to be too easy to make wrong, uninformed and potentially very bad decisions.

My hope has been that the Pension Wise guidance sessions and website would recognise that and include it as part of their service.  I’ve become less and less hopeful that they will include this essential part of guidance as April comes nearer.  Now with the launch of the Beta website I’ve become sad and angry as it looks like they won’t be doing anything to help people understand their real position.

They do mention benefits on the website

Your eligibility for some benefits depends on what other income you have. Any income you get from your pension, eg a guaranteed income (annuity), will count towards the income these benefits are assessed against.

Your eligibility for some benefits is affected by what benefits you already get or by your other circumstances (eg savings, or if you have a disability).

ExampleYour income is £125 per week. You get Guarantee Credit (a part of Pension Credit), which increases your income to £148.35. You then buy an annuity and your income increases to £220 per week. As you now earn more than £148.35 – the Guarantee Credit threshold – you don’t qualify for Guarantee Credit any more.


But that’s pretty much it.  They do point to online benefit calculators but that can’t do the necessary sums; as I’ll show later.

They then go on to completely ignore the existence of benefits in the information they provide.  Here’s an example they give on their web page Work out how much money you’ll have in retirement

Pension Wise Example

You’re 65 and you decide to stop working. You have the basic State Pension and your pension pot.

What you have


Full basic State Pension per year


Your total pension pot


What you do with your pension pot

You decide to take 25% of your pot tax free and take money from this amount every year. You buy a single annuity with the rest. This kind of annuity won’t continue to pay to your spouse or partner after you die.

What you do with it


25% tax free

£7,500 in one go

You buy an annuity with the remaining pot of £22,500

This will pay £1,125 per year until you die

What you get from 65 onwards


Amount per year

Basic State Pension

+ £5,881

Annuity income

+ £1,125

Your total retirement income

= £7,006

Your income is below the tax-free Personal Allowance of £10,500, so you won’t pay tax on it.

You also have the £7,500 tax-free money to supplement your income.

Note the line – Your total retirement income = £7,006.  That’s it!  Then it’s on to the next subject.

Take that advice and the reader is going to join the third of people who don’t claim the benefits that they are entitled to.

Even if we assume that this person has no other needs; has no housing costs, no disabilities, no partner or dependent children and is not a carer then they’re still entitled to help.

They’d qualify for £13.62 a week, or £708 a year, Guarantee Pension Credit (GPC), a nice top-up to their annuity bringing their total income to £7,714 a year.

The income without the annuity would be £7,714 a year too.   The Pension Credit top-up would be higher at £1,833 a year or £35.25 a week.  If they only had a partial, or no, State Pension the income would be … £7,714 a year.  That’s how means testing works.

It was the same under the previous rules but, then, people had to take an annuity, with few exceptions, so there were no options – now there are.

If people aren’t aware of the effects of taking an annuity, or not taking it, they can easily make choices that won’t be very wise.  The same is true about other income choices or their options around taking capital instead, or as well.

Remember the average pot size is £33,400. At the 5% rate used by Pension Wise in their example, that would generate income of £1,670 a year or £32.12 a week.  In the simplest Pension Credit case, with no extra needs at all and a basic State Pension, there’d still be an entitlement to Guarantee Pension Credit of £163 a year or £3.13 a week.

That means that anyone with, or less than, the average sized pension pot will not gain one penny from taking an annuity at Pension Wise’s example rate.  Not .. One .. Penny!

That’s not something you’ll find out from looking at the Pension Wise web site.

In actual fact it’s not that simple, that’s only true for people under 65.  The extra income would generate, for those over 65, an entitlement to Savings Pension Credit (SPC) which was designed to stop the penny for penny deduction for those with a little extra income or capital over State Retirement Pension level.  Over the last few years though the rates of SPC have been cut to keep GPC in line with the pensions’ triple lock so it doesn’t always work.  The chart below shows how this works.

Chart 1

About the first £40 a month of income, from an annuity or other source, gains the person nothing but after that Savings Pension Credit begins to kick in.

In their example the person would have a Guarantee Pension Credit entitlement of £35.25 a week, after taking into account the state pension.  Taking an annuity of £32.86 a week would reduce the Guarantee Pension Credit to £2.39 but would create a Savings Pension Credit entitlement of £15.37.

The net increase in income from taking an annuity of £32.86 (assuming no tax liability) is £15.37.

What if they took capital instead?  The chart below shows the effect.

Chart 2

There is no reduction in benefit, or total income for the first £10,000 of net capital withdrawn from the pot and held.  After that a notional income is calculated with reduces GPC and, at first, increases an entitlement to SPC.

If someone is under 65, the qualifying age for SPC, then that benefit vanishes and the 100% deduction applies for much longer.

Table 1

As the table above shows there is no gain for a pensioner under 65 until their income reaches £160 a month.  For them taking capital, and keeping the amount held under £10,000 is a much better choice … but not one that Pension Wise will show them.

Working Age Pensioners

It’s not just people above pension age who will need to know what their options are.  Anybody over 55 will be able to make use of the new freedoms.  For them, up until they reach the qualifying age for Pension Credit (currently 62 and a half but increasing to 65 by 2018, then 66, then 67), their benefits will be the much less generous ones like Jobseeker’s Allowance (JSA) or the new Universal Credit (UC).  Benefits whose basic rates are about half those of Pension Credit.

Benefits, also, with much harsher rules around capital.  The working age benefits have an absolute cut-off from entitlement at £16,000 and a much higher notional income rate.

Baroness Hollis said, in a debate on the Pensions Schemes Bill on February 5th,

“It is essential that anyone on means-tested benefits at 56 knows what the hit will be for accessing their pension pot”.

The question is who will tell them?

Look at the chart below, again for someone with no extra needs, dependents, savings  or housing costs who is unemployed and claiming JSA.

Chart 3

Until any extra income or annuity is more than £300 a month, after tax, no increase in bottom line income happens.  £300 a month would, on the figures used in the Pension Wise example need a pot of £72,000 (after taking 25% capital tax free).  That’s over twice the average pot size.

Taking 25% of the original pot of £96,000 would give the person £24,000 of capital in one lump.

The effect of that is shown in the next chart,

Chart 4

Over £16,000 stops entitlement to JSA, and other working age benefits, immediately and completely.

Even for pensioners the effects of capital can be equally severe, once entitlement to GPC stops.  The chart below brings in Housing Benefit (HB) and Council Tax Reduction (CTR) which become subject to the same cut-off once GPC stops.

Chart 5

One pound too much held by the claimant can almost halve their income.

These are complex calculations but they are vital ones.  Knowing that you can take an annuity, can take some capital tax free, can leave it in place or can draw it down in stages is important but ultimately, if you don’t know what that means to your overall situation, worthless or even dangerous.  The figures matter and, if Pension Wise won’t give them then other advisers must.

The calculations need to be personal to each case, there are too many factors to be able to generalise.

Consider a 65 year old single person, severely disabled with a mortgage of £100,000.

Their income includes Attendance Allowance of £81. 30 a week and their full state pension of £113.10 a week.  When we look at the effect of taking income from their pot we see the following in a chart.


Looking at those figures in detail shows the level of actual income which they will receive from increasing the income or annuity level that they take.

income chart top

Income Chart Middle

They gain from taking income up to £160 a month, which generates a net increase for them of about £72.80 (the variations in pence in the table come from rounding tapered amounts).

After that they gain nothing at all from taking extra income up to £740 a month.  Taking £760 a month sees a reduction in real income of almost £60 a month, as passported Council Tax Reduction stops.  It takes an income of £920 a month before that drop is recovered.

At that point the marginal deduction rate, from tax and benefits, is 91.3%.

The importance of understanding the effects over a range of incomes is clear; checking the effect on tax, benefits and overall income for any one amount tells very little.  Knowing that you will get the same income if you took £740 a month from your pension as if you took £160 a month, tells advisors and pensioners much more.  Knowing that if you took £760 a month, it would reduce your income by almost £60 compared to taking £160 a month is a real factor in aiding decision making.

When the same case is looked at for capital options, a very different picture is seen

PGchart cap

Capital top new

capital middle new

There is no effect on income at all until net capital, after any tax has been applied, passes £10,000.  There is then a gradual reduction income as the notional interest on increasing capital reduces the Guarantee Pension Credit.  When that benefit ceases there is a cliff-edge drop in income of £106 a month as Council Tax Reduction also stops.

It should also be noted that there is still some benefit entitlement with capital of over £113,000 which would take £153,500 in pot value before tax is applied in this year.

The calculations depend upon the complex, real life, circumstances of individuals and families and generalisations or ‘traffic light’ advice will not suffice.

They must cover current entitlement to means tested benefits for both working and older people, with all the complexities of dependants, disability, housing type and costs, and other factors. They must then look at the effects of taking capital, income or both from pension pots, calculate the tax on them and the tax free amounts and assess the effects over a range of amounts so that the cliff-edges and flat lines can be identified and informed choices can be made.

Throwing in a quick advert, the tables and charts in this note are all produced by pensionsForward, Ferret’s new system which does all these calculations and produces detailed reports, tables and charts.   It’s also great for doing what-if assessments for changes of circumstance.

I’ve also produced some notes covering other areas around the changes and advice and information.

You can download them from the links below.

Pensions Guidance Information and Consequences.pdf

Pensions Guidance Considerations of the Future.pdf

Pensions Guidance consequences.pdf

Pensions Guidance Support for Providers.pdf

Pensions Guidance Information Tools.pdf

Pensions Guidance – Annuity Selling.pdf

Posted in Welfare Reform | 7 Comments

Why the referendum has killed Universal Credit

It now seems that Scotland will get control of at least some of, what are now, national benefits. In particular it seems that Housing Benefit will be devolved to Edinburgh. According to the BBC, on the morning of the result, the Tories and Labour have agreed on this while the Libdems have not.

The move seems, in some ways, to be logical. The very similar Council Tax Reduction scheme has been devolved to Scotland already and, administratively, it would be a relatively simple undertaking.


What does this mean for Universal Credit?

UC is meant to be a universal ‘one benefit fits all’ for working age people; originally Council Tax Benefit was meant to be included as well – which would, as an aside, have been much better than the current mess. Pulling rent support out of it would be a serious dilution. Pulling it out only in Scotland would be difficult, confusing and add considerably to the IT woes of the project.

There are more fundamental problems though. Rent is integral to much of the UC scheme.
To point to only one, the variable levels of earnings disregards in UC depend on the rent element in the calculation. Reintroducing multiple tapers in different means-tested benefits will make things very difficult technically, more complex for claimants and a nightmare to administer. A mix of weekly and monthly benefit cycles, minimum notional income in some of them and the necessity to separately consider the needs of children and disability in each scheme will be ‘interesting’ to say the least.

Even if it works, socially, benefit tourism might become attractive if a bedroom tax exists outside Scotland and the rent caps and overall benefit cap may add to the differential between nations.

If it works is the big question though. My own feeling is that it will make Universal Credit unworkable, driving a rethink of the future – or provide a much sought for excuse to exit the mess.

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A lower threshold for automatic enrolment in a workplace pension scheme

The Shadow Secretary of State for Work and Pensions, Rachel Reeves, announced last week that the Labour party was looking to move to lower the earnings threshold for automatic enrolment in a workplace pension scheme from its current level of £10,000 to the Lower Earnings Limit for National Insurance, currently £5,772 a year.

As The Times pointed out “The threshold was first conceived at a lower level but was raised by the coalition under pressure from businesses fearful of the costs.”

The government in their review of the level in December 2013* said

“The earnings trigger determines who gets automatically enrolled. If the trigger is too high then people whom the policy is designed to target may miss out. If the trigger is set too low people who are very likely to receive a high replacement rate from the State may be included.

The Secretary of State considered all the review factors against the analytical evidence and the policy objectives and decided that the PAYE personal tax allowance at its 2014/15 level of £10,000 is the factor that should determine the value of the trigger for 2014/15.”

The response to Rachel Reeve’s announcement has been, as would be expected mixed.

The Association of British Insurers welcomed the proposals, although they wanted to “ensure they could be implemented with minimum unnecessary cost to scheme administrators and employers.”

The CBI said “Businesses would face increased costs from this change, and it’s not clear that automatically enrolling this group of low earners is necessarily in their long-term interests.”

The government tweeted that “Extending auto enrolment to those for whom it may not make -financial sense would be unfair and irresponsible.”

There is little surprising in these responses but one factor has been entirely ignored in the announcement, in the government’s review and by, as far as I can see, all the commentators.

Universal Credit.

Under the Universal Credit scheme, the bulk of low paid workers will see a cash increase in their benefit of £6.50 for each £10 they paid into a pension scheme in the previous month.

Unlike Tax Credits, the current in-work benefit for those working full-time (a complex definition in itself), Universal Credit will be based on net earnings not gross earnings. Part-time workers currently claim, normally, means tested Job-seekers Allowance (JSA) which is based on net earnings.

Tax Credits disregard pension contributions when calculating the income used in assessing entitlement but, because gross income is being used and the thresholds and tapers are complex, it is difficult to compare with net income based means-tests.

JSA disregards half of pension contributions when calculating net income for its means test.

Universal Credit is more generous; it disregards 100% of pension contributions.

In its means-test, Universal Credit is reduced by 65% of income, after any general earnings disregards have been applied. The result is that paying £10 into a pension scheme will reduce the income taken into account by £10 and increase the Universal Credit payable by £6.50 – the amount that would otherwise have been deducted.

I looked, a couple of years ago, at the increased generosity of the disregard here

(and at the way in which pension contributions can have a perverse effect on the benefits cap here)

As I said then,

It’s hard to see why anyone in this situation would not take advantage of what is in effect a 65% subsidy of their pension pot from the public purse. The beleaguered pension industry must surely be rubbing their hands in glee at the prospect (or will be, when they wake up to the consequences).

This doesn’t take into account the additional longer term tax advantages of pension contributions which further add to the attractiveness of the situation, for those who can afford the smaller drop in actual disposable income that increasing contributions brings.

* Review of the automatic enrolment earnings trigger and qualifying earnings band for 2014/15: supporting analysis. – DWP December 2013

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Benefit Cuts – £18 Billion, £25 Billion or more?

The two sets of announcements about benefit cuts, and increases, that were made in the Emergency Budget (June 2010 in the tables) and Comprehensive Spending Review of 2010 (SR 2010) became a headline figure of £18 billion a year in cuts to existing benefits.  That figure is still widely used today although it should be somewhat higher as some announced increases and cuts were later cancelled.

The government has just published an interesting set of figures which takes those announcements, and those made subsequently up to the 2014 Budget, and collates the costings year by year.

It’s well worth a look at the tables which can be downloaded from

I’ve done some crude analyses of the figures, separating them into direct cuts/increases and process savings.  I’ve then categorised the direct cuts / increases into broad groups of impact.  There are some overlaps of course but I’ve tried to include items only in the most relevant grouping (my selection entirely – and apologies that the tables are odd sized images.  I can’t get tables working sensibly in this blog).

In summary, after removing those elements which seem to be related to procedures and processes, I’ve ended up with direct cuts year by year, in millions, of:

BUT…. The notes point out “Most measures are costed to 2015/16, although some costings extend only to 2014/15. This does not necessarily mean there is no effect in 2015/16.”

There are a substantial number of elements in the tables without values in the 2015 – 2016 column, as can be seen below, which might be assumed to have some costs or benefits in that year.  It can be assumed therefore that the total for that year may be higher than shown.

 “If you invest your tuppence / Wisely in the bank / Safe and sound / Soon that tuppence, safely / Invested in the bank / Will compound,” – Mary Poppins

Compound interest is a wonderful thing; it makes value grow more quickly as time passes.  Sadly it works both ways and that can be seen in the largest item in the tables.

The difference between the RPI indexation method of old and the new CPI (or frozen, or 1% or …) indexation is that each year there will be a smaller percentage increase on a smaller previous years increase.  I’ve looked at this before, about two years ago in but the figures in these tables are revealing in their stark reality.

It’s interesting to look at the winners and losers in the groups that I, arbitrarily, chose.

  • Workers, the government’s target for incentives we are constantly told, will see a £7.3 billion a year cut by 2016
  •  Children will face a £3.7 billion loss annually
  • Housing support gets cuts of almost £2 billion a year
  • Disability support drops by £1.35 billion a year

There are winners though

  • Universal Credit gets an extra £890 million a year
  • Older people get £1.8 billion extra annually

The older people’s increase is not new money of course; it’s largely a protection against the cuts inflicted on other benefits by indexation changes and the need to match Pension Credit to SRP increases (thus avoiding cuts in Pension Credit).  It must be remembered that there are future changes to older people’s benefits which are not yet included in these tables – mixed-age couples, abolition of Assessed Income Periods, a capital cut-off, new pension credit schemes, single-tier pensions etc.

To summarise the answer to the title of this piece – the answer is ‘More’.  How much is unclear but it is clear that it will be increasing year on year.

For me; I’ll just be using £25 billion plus from now on.


It is useful that the figures include the original impacts of measures later withdrawn and an estimate of the offsetting spend consequential on the withdrawal.  These figures are not necessarily identical of course.  For example, the proposed increases in child tax credit appear in   June 2010 and SR 2010 while the reversal of the second of both proposed increases appears in Autumn 2011 and excludes the first increases.  A clearer example is that of the proposed Housing Benefit cut in ‘Reduce awards to 90% after 12 months for claimants of Jobseekers Allowance’ in the 2010 emergency budget.  The reversal appears in the Budget 2011 as ‘Housing Benefit: not introduce reductions for long term jobseekers’.  The savings figures of £100M and £110M are offset by £105M and £115M in 2013/2014 and 2014 /2015 respectively.

 In the tables figures are £ million (negative figures represent a saving). 

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More on self-employment and the bedroom tax – and a human rights issue?

I scribbled some notes yesterday about the suggestion that was made in the Lords, by Earl Attlee a government spokesman quoted below (a), that a room used for work by a tenant need not count as a bedroom for bedroom tax purposes.  I thought I’d pull together those points and add some more.

There have also been a flurry of comments in social media saying that this is not possible and making a couple of common points.

  • Planning consent is required to run a business from a dwelling (b)
  • Landlords won’t allow it (c)

Neither of these is entirely accurate (again spelt out below) although (c) is still too common.  Many businesses don’t require planning permission and landlords are being encouraged, by the professional bodies and government, to remove the limitations in tenancy agreements.

The Earl is a DCLG Spokesman rather than DWP but his comment still raises a couple of interesting issues.

The first is an additional facet in the ‘room’s use’ argument. If a tenant – with the landlords knowledge and any other necessary permissions – is using a room solely as a workplace then it isn’t a bedroom. If the landlord knows about this usage then it clearly can’t argue that it’s a bedroom. The landlord may though believe that the permitted business doesn’t require using the room entirely for work. In that case the argument joins the series of appeals at FTT around the usage question and may follow the line of reasoning in the Bolton and Carmarthen UT cases.

More interesting is to consider what happens if that argument loses and the benefit cut is imposed. If the tenant cannot afford to stay in the property after the ‘bedroom tax’ is applied (remembering that HB is an in-work benefit) then moving to a smaller property becomes necessary.


There will not be a room in a smaller property to carry out the self-employment; so the bedroom tax has caused the tenant to lose his livelihood. That opens up a range of issues under human rights and equalities legislation.

Article 23.1 of the Universal Declaration of Human Rights states: Everyone has the right to work, to free choice of employment, to just and favourable conditions of work and to protection against unemployment


(a)    Hansard

“13 Mar 2014

Earl Attlee: My Lords, as I have indicated, we have put out advice to all social landlords on the need to seriously consider allowing their tenants to set up businesses. There is a misconception among social tenants that they cannot run a business from a council flat. They can, but they need to apply for permission from the landlord. This process is necessary because the landlord needs to be able to accept sensible web-based businesses while not allowing industrial processes to be carried out from the flat.

Lord McKenzie of Luton (Lab): My Lords, should a social landlord acknowledge a room as being available for home-working, would that preclude it being a spare bedroom for the purposes of the bedroom tax?

Earl Attlee: My Lords, the noble Lord has not disappointed me one little bit: I was certain that he would not be able to resist this opportunity. The spare room subsidy encourages people to make full use of their property and to consider running a small business—which I think is highly desirable.”


(b) Planning consent is required to run a business from a dwelling

From the Planning Portal which is the UK Government’s online planning and building regulations resource for England and Wales.

You do not necessarily need planning permission to work from home. The key test is whether the overall character of the dwelling will change as a result of the business.

If the answer to any of the following questions is ‘yes’, then permission will probably be needed:

  • Will your home no longer be used mainly as a private residence?
  • Will your business result in a marked rise in traffic or people calling?
  • Will your business involve any activities unusual in a residential area?
  • Will your business disturb your neighbours at unreasonable hours or create other forms of nuisance such as noise or smells?

Whatever business you carry out from your home, whether it involves using part of it as a bed-sit or for ‘bed and breakfast’ accommodation, using a room as your personal office, providing a childminding service, for hairdressing, dressmaking or music teaching, or using buildings in the garden for repairing cars or storing goods connected with a business – the key test is: is it still mainly a home or has it become business premises?


(c) Landlords won’t allow it

In late 2010 business and enterprise minister Mark Prisk and housing minister Grant Shapps wrote to England’s council and housing association landlords telling them they should encourage tenants to work from home

The letter said that just 190,000 of England’s 3.5 million self-employed live in social housing, less than in any other tenure. Of those, just 10% work from home or in the same property, compared with 24% of home-owners.

‘There appears to be a common misperception among social tenants that there is a blanket ban on working from home or that it is only allowed in specific and often very restricted circumstances,’ the ministers said.

The letter was endorsed by the chief executives of the National Housing Federation and Chartered Institute of Housing and coincided with the launch of a guide from the chartered institute explaining how social landlords can promote home-working.

The guide says social landlords can promote home-working as part of their efforts to tackle worklessness. It also says tenancy agreements should be revised so that tenants no longer need permission to set up their own home-based business.

There was an estimate of 22, 000 businesses operating from social housing at the time of this letter.

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Self-employed can escape the bedroom tax?

“13 Mar 2014

Earl Attlee: My Lords, as I have indicated, we have put out advice to all social landlords on the need to seriously consider allowing their tenants to set up businesses. There is a misconception among social tenants that they cannot run a business from a council flat. They can, but they need to apply for permission from the landlord. This process is necessary because the landlord needs to be able to accept sensible web-based businesses while not allowing industrial processes to be carried out from the flat.

Lord McKenzie of Luton (Lab): My Lords, should a social landlord acknowledge a room as being available for home-working, would that preclude it being a spare bedroom for the purposes of the bedroom tax?

Earl Attlee: My Lords, the noble Lord has not disappointed me one little bit: I was certain that he would not be able to resist this opportunity. The spare room subsidy encourages people to make full use of their property and to consider running a small business—which I think is highly desirable.”

The extract above from Hansard seems to say, if not clearly, that using a room in your social rented property will stop it being considered a bedroom and remove it from an under occupation calculation.

The tenant will need the permission of the landlord to use the room in this way but the government has encouraged landlords to grant this normally.

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The Benefits Cap and Real Income Levels

Many commentators have pointed out the misleading justifications often made for the introduction of the benefits cap. The government has said that it is unfair that people dependant on benefits should receive more than those in work at the average wage. This message ignores the fact that most workers earning the average wage will still qualify for benefits which top up their earnings.

Although this point has been made frequently, there has been little quantification of the amounts involved. I’ve used the April 2014 edition of Ferret’s Future Benefits Model (FFBM) to generate a set of tables to quantify the amounts of benefit and tax credit applicable to different types of families in differently priced rented accommodation.  The modelling assumes that gross earnings are at the cap level for both single people and for one earner in a couple.  There are figures for the current benefits schemes and for Universal Credit.

Thr chart below shows an example of this for a single person with for 0 to 6 children.  Without children the cap level is £350 a week, with children it’s £500 a week.

Single Cap Earnings

The other chart below is the same calculation, but for couples.  The cap level is £500 for them, with or without children.

Couple Cap Earnings


The full tables show the benefits entitlements and total net incomes of single people and couples, with from 0 to 6 children in a number of different housing circumstances. The model assumes 35 hours of work; at these hours of work, or earnings levels for Universal Credit, no capping is applied.
There are two sets of tables

Standard rent – illustrates what additional benefits are payable for different compositions of families with full-time gross earnings at the cap level. In these examples there is a single rent level for all households in social and private housing. This shows, as might be expected,

• Only childless families receive no additional benefits with earnings at the cap level.
• Additional children receive extra support from the benefits system for working people.
• The benefits cap takes no account of the greater needs of families with more children.

Varied rents in 7 different areas – where the rent levels are set in two different ways.
• Within each area, the social rent levels and private sector levels are set by reference to the appropriate housing size for each family.
• Areas use increasing levels of rent set in bands from the lowest average social rents in Britain and the lowest LHA levels, in a local authority or Broad Rental Market Area, to the highest.

A simple message is clear from these examples.
• The Housing Benefit and Universal Credit schemes take account of higher rents for larger families who are not subject to the cap.
• The benefits cap takes no account of the higher rent amounts typically needed for bigger properties needed for larger families.

You can download the tables and charts here.

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