Wednesday, Dec 02, 2009
Gilts being covered
Wall Street Journal: Solid Demand At UK GBP2.25B 4.25% 2039 Gilt Auction
Government borrowing still OK. I have a comment on this with reference to pensions.
Posted by stillthinking @ 01:40 PM (1201 views) Add Comment
10 Comments
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1. stillthinking said...
In my view stealth taxes are much more prevalent than is considered the case. There is something which seems fairly major to me but attracts little attention in the press.
Namely, UK pension funds are obliged to invest in gilts. Which we know and the problem is usually considered to be a relatively low yield in exchange for risk-free. But.
Many people are obliged to fund locked pension funds, 3% off your salary and the employer then tops up an additional 3% ( I don't see that the employer contribution is different from taking directly off your salary, and also for the employer national insurance contribution, but anyway).
However, in the UK people hold mortgages which typically last 25 years, or 20 or whatever. Now, if somebody had lets say 100K in a pension pot, and an outstanding mortgage commitment of 100K, it seems reasonable to me that really that person has a net balance of zero, and more importantly, having a net balance of zero is financially a better position. Essentially, what you pay into your pension fund is money that isn't available to pay down your mortgage.
So, in the above case, you can consider the differential in debt servicing costs to be a loss to the individual which is a de facto tax, which I choose to define as an involuntary payment to government.
If you borrow from the bank at 6% for the mortgage, while your net worth is zero, then effectively you are borrowing from the bank to lend to the government. However, the interest rate on your loan to the government is around 3.25%. So each year that you were to do this, you actually lose 2.75% interest on 100K, or basically £2750 a year. Of course you can fiddle around with the values but the main driving value for the loss is the extent that your pension is contained in the mortgage debt i.e. 30K pension 100K mortgage loses at 30K at 2.75% etc
This seems to be a little known way for the government to take money, and is not considered as part of our overall taxation, which is accordingly substantially higher really. Also, this makes government locked in pension funds a loss-maker for those with mortgage debt or personal debt i.e. everybody.
But there is no outcry...
2. stillthinking said...
In addition, by forcing gilt yields down through QE without an accompanying forcing down of mortgage debt by using QE to buy mortgage backed securities (as the US did), then the government have deliberately -increased- this forced subsidy (by increasing the differential), and switched more real wealth to the state away from the individual.
3. crunchy said...
1, thanks for that observation.
12. crunchy said...One way to prevent bubbles is to not put people in a position where they feel that they have to speculate on houses to ensure a bloody pension. House prices were never this crazy when people were looked after in retirement and credit was a dirty word. Simples really!
Wednesday, December 2, 2009 01:42PM
So it goes on, the grubby rub.
4. refusetobuy said...
"UK pension funds are obliged to invest in gilts". Not true.
Defined benefit (final salary) funds are not obliged to invest in gilts, in fact accounting standards push them to invest in 15 year AA corporate bonds.
Defined contribution (3% off your salary and the employer then tops up an additional 3%) can be invested however you feel. Abroad if you so wish. In fact many DC schemes have a default 100% equity until 10 years before retirement.
That said, I agree that making investments before paying off debt is financial madness. Would be much better to use pension contributions to pay off mortgage and invest in ISAs.
5. stillthinking said...
That completely blows my argument out of the water...
6. drewster said...
What about annuities? How do the companies which run them invest the cash? What is the risk of an annuity-provider going bust?
7. drewster said...
It's a subject on which I know virtually nothing. We have this strange system whereby, at the magical age of 65, you sell all the shares / bonds / etc. in your pension, take the cash and buy an annuity. What happens next? The company which sells you the annuity must do something with all that cash, and you can bet your socks they don't just leave it in a savings account at RBS. What rules do the annuity-providers have to follow?
8. refusetobuy said...
Annuities linked to life expectancy are provided by life insurance companies (or can be paid out of a pension fund).
They can also invest assets how they like, up to some limitations. The smaller their Asset/liability ratio the more they have to invest in bonds (not sure whether this is gilts or corporate), which is closer to stillthinking's original argument (which is still in the water).
Keep thinking stillthinking. I enjoy your posts.
9. drewster said...
Thanks for the info, rtb
10. tenyearstogetmymoneyback said...
3% !!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!!
Some of us are paying 12.5% AND the company is paying in 18% !
The plus side is that we do still have a final salary scheme.
Completely agree with Crunchys comments "One way to prevent bubbles is to not put people in a position where they feel that they have to speculate on houses to ensure a bloody pension. House prices were never this crazy when people were looked after in retirement and credit was a dirty word."
I would like to think I would be in the position of a former neighbour who was able to take out a mortgage and move to a slightly more expensive bungalow AFTER she retired.
As we were speculating yesterday I reckon that nowadays a lot of people will get repossessed within a year of retiring and suddenly having no means of paying off their mortgage and debts.