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Invest our not to invest in AVC's
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# 1
keebo
Old 06-02-2011, 9:21 AM
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Default Invest our not to invest in AVC's

Hi I'm new to Pension's, but I need to get up to speed ASAP as I retire in a few weeks and have the opportunity to invest a cash lump sum in AVCís
My question is
Should I invest £10,000 in AVCís our in 5yr bank account at 4.5%
£10,000 in AVCís gives me £337 extra per annum which is about 6.2%
but I only actually invest £8,000 because of tax relieve and my cash lump sum goes up by about £2500 so I only really invest £5,500 to gain £337 extra per annum.
So £5,500 invested at 4.5% = £247 per annum
Obviously a saving of £90 isn't much
As I said "I'm new to Pension's" so any advice would be greatly appreciated

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# 2
dunstonh
Old 06-02-2011, 10:28 AM
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Quote:
Should I invest £10,000 in AVC’s our in 5yr bank account at 4.5%
Why have you limited it to just those two options? What about the others?
Quote:
£10,000 in AVC’s gives me £337 extra per annum which is about 6.2%
but I only actually invest £8,000 because of tax relieve and my cash lump sum goes up by about £2500 so I only really invest £5,500 to gain £337 extra per annum.
So £5,500 invested at 4.5% = £247 per annum
Obviously a saving of £90 isn't much
I make it more than £90.

Pension costs you £5500 net. (net of basic relief and 25% back). £7500 @ 6.2% = £465
Savings should use £5500 to reflect the same cost. £5500 @4.5% = £247.50

So, it is a difference of £217 a year.

In 25 years you could get the cost of the pension back assuming you bought an annuity. If you went with unsecured income then it would likely be quicker than that as it could pass to spouse and then children, if applicable.
I am a Financial Adviser. Comments are for discussion purposes only. They are not financial advice. Different people have different needs and what is right for one person may not be for another. If you feel an area discussed may be relevant to you, then please seek advice from a Financial Adviser local to you.
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# 3
keebo
Old 06-02-2011, 11:05 AM
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Thanks for the reply dunstonh
Not sure about this (net of basic relief and 25% back).

I retire a the age of 53.5 yrs with two pension options £9500 our £11.000 / annum with two lump sums options one £30000 greater than the other
I inquired at work about invest £10,000 in AVCís and the quote was £10,000 = £337.19 as a pension. so I was thinking of raising my pension by using the money that I had earned this year.
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# 4
dunstonh
Old 06-02-2011, 11:49 AM
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Age 53 is a key fact. That is a very young age to get an annuity. Mainly as the annuity rate is likely to be dire. Unsecured income option may be more favourable or going with personal pension and deferring the commencement until a later age (to benefit from growth and better annuity rate). - although any other pension arrangement will have a minimum age of 55 before they can commence.

Quote:
Not sure about this (net of basic relief and 25% back).
If you pay £10,000 gross in, you write the cheque for £8000. When you crystallise the pension (commence it) you take 25% back. If you are doing this overnight, then 25% of £10,000 is £2500. So, the net cost to you is £8000 minus the £2500 you are getting back.

There are probably better ways of meeting your objectives. Such as an S&S ISA (with the option to move to pension later if you really do want an annuity or to a personal pension when annuity rates make it more sensible or unsecured income if you want the flexibility of income choice and better death benefits).
I am a Financial Adviser. Comments are for discussion purposes only. They are not financial advice. Different people have different needs and what is right for one person may not be for another. If you feel an area discussed may be relevant to you, then please seek advice from a Financial Adviser local to you.
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# 5
pollypenny
Old 06-02-2011, 2:16 PM
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Are you ale to buy extra years in your occupational pension? That would give you increased pension ad increased lump sum.

Wish I'd done that, but I fell for the hype about stock exchange and AVCs, like lots of teachers.
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# 6
Loughton Monkey
Old 06-02-2011, 9:42 PM
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I am assuming you are deliberately 'dumping' extra money into the pension just before taking it. Often a sound idea. My understanding of the mathematics is this.

1. You are dealing with £8,000. Put it into pension and it becomes £10,000. Take your £2,500 and you have £7,500 earning an annuity rate. £7,500 at 6.2% gives you £465 for life (taxable). That's £372 after tax. In addition, you have £2,500 that you can put away and earn 4.5% (taxable) for the 'majority' of the next 5 years. That's an extra £112.50 a year, or £90 after tax. So you have total income, after tax of £555.

2. The equivalent alternative would be simply to put the £8,000 away at 4.5%. This would give you £360 a year 'gross' or £288 a year after tax.

You need to take into account other pro's and con's.

In the second scenario, the whole £8,000 is available forever - although if you want to continue drawing an income, it effectively gets tied up forever. But at least it is available in the 'estate' after death.

In the first scenario, only £2,500 is available for the estate.

In pure technical cash terms, the pension route is far better - primarily because of the 25% 'load' on your money donated by the government. Taking 25% of this (plus 25% of your 'own' contribution) means that you have had a 'donation' of 25% of the lump sum. 25% of £2,500 is £625.
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# 7
keebo
Old 07-02-2011, 8:03 AM
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Thanks for the reply
I’ve readdressed my theory below

I put £10,000 & claim £2,000 back from the tax man
On my AVC’s quote £10,000 in - gives me £337.74 per annum before tax
And my tax free cash lump sum goes up by £2,601.65
£2,601.65 earning 4.5% (taxable) = £117.07
£2,000.00 earning 4.5% (taxable) = -£90.00
----------------------------------£337.74
-----------------------------Total £544.81
£10,000 earning 4.5% (taxable) =...£450.00
-----------------------------------£94.81

£10,000.00 earning 6.8% (taxable) = £544.00 would this be the interest rate that I would need to break even our 17.40% better off

Last edited by keebo; 07-02-2011 at 8:24 AM.
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# 8
Loughton Monkey
Old 07-02-2011, 8:57 AM
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Quote:
Originally Posted by keebo View Post
I put £10,000 & claim £2,000 back from the tax man


Well, strictly, no. It doesn't work like that. You physically pay £8,000 into the AVC. It 'magically' appears instantly as £10,000. You do not need to claim tax relief.

Quote:
Originally Posted by keebo View Post
On my AVC’s quote £10,000 in - gives me £337.74 per annum before tax
Quote:
Originally Posted by keebo View Post
And my tax free cash lump sum goes up by £2,601.65
You mentioned £2,500 before. If you have been quoted £2,601.65, then they are working on a total 'pension pot' of exactly 4 times that. i.e. £10,406.60.

Therefore I can only assume that they are talking about you paying this extra £8,000 a while before retirement, and they are assuming some 'growth' in the fund.

This is not what I had envisaged, and not what I would personally do. Pension investments are 'volatile' and an extra contribution a year before retirement (say) could just as easily lose 20% as gain 20%.

The 'normal' concept is to dump in the 'abnormal' amount just before retirement. Put it in a 'cash fund' very temporarily. That way you have no investment risk. The reason for doing it is simply to obtain the HMRC tax relief (25% of which you get back as pure, free 'profit')


Quote:
Originally Posted by keebo View Post
£2,601.65 earning 4.5% (taxable) = £117.07
£2,000.00 earning 4.5% (taxable) = .£90.00
...............................................£33 7.74
........................................Total £544.81
£10,000 earning 4.5% (taxable) =...£450.00
.................................................£ 94.81
OK, but you need to 'revisit' the £337.74 to discover what this actually comes from. I am now assuming that your quote assumes your £10,000 grows to £10,406.60, from which you take £2,601.65 lump sum, leaving £7,858.95 to buy an annuity. If you are being quotes £337.74 as a gross income from £7,858 then that is a very low annuity rate of 4.3%. This cannot be right unless it is RPI linked - which gives a different equation for the future.

Quote:
Originally Posted by keebo View Post
£10,000.00 earning 6.8% (taxable) = £544.00 would this be the interest rate that I would need to break even our 17.40% better off


Now I am confused.

It is possibly misleading to compare 'pension annuity' income with 5-year bond investment income - both as 'interest rates' because they are two different things. The return you get on a pension fund includes an internal 'interest rate' plus return of the capital.

The key question to ask, here, is "I have some spare cash. What do I want to do with it? If I want to 'turn it into income for life' then I should seriously consider an annuity - since that's exactly what an annuity does. It converts cash into an income, at a reasonably 'fair' rate and provdes security in paying that income even if I live far longer than average..."

If turning capital into income is what you want, then a one-off "dump-in" to a pension is good. You 'pay' £8,000. HMRC 'pay' £2,000. You can get back £2,500. So your bank account is worse off by £5,500.

However, you have £7,500 put into a lifetime annuity providing a 'fair income' on which you pay tax.
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# 9
keebo
Old 07-02-2011, 9:33 AM
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Thanks for the reply

Last edited by keebo; 07-02-2011 at 12:45 PM.
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