Larger lump sum or Pension?

nurseneedshelp

I am a 55 year old nurse with a final salary pension scheme. I am retiring from the NHS at the end of this year. My pension options are £13,086 year with £39260 lump sum or £10,516 with £70,108. I have to tick a box ASAP!
I will continue to work full time in the private sector for a while and pay into their pension scheme immediately. I would like to reduce to part time in a year or so if I can.
I own a house which has an interest only flexible mortgage with £60,000 remaining to pay.This is currently rented for £1,200 per month minus agency fees.
I am living with my partner in our jointly owned home which has £210,000 interest only mortgage with 10 years remaining. My outstanding share is £73,750.
I am getting bogged down with all the numbers and feeling out of my depth. I know that I have to make important decisions but need help please.

R_P_W

What is your plan to pay the mortgages balances?

hollie.weimeraner

When I retired from the Police I was faced with the same dilemma. I found the best thing was to temporarily ignore my current financial considerations and work out how long it would take me in retirement to recoup the largest lump sum should I continue to draw my maximum pension. In my case I would have been in my mid 80's.

The other consideration was what would happen should I die the day after I retired (worst case scenario) with the answer being my spouse would not have a lump sum but just half of my pension.

I decided it was better to have the lump sum (also tax free which the pension payments are not) and invest it. I intend to pay off my mortgage when it becomes viable (at the moment I'm paying £87 per month at 2.18% so no great rush to pay it just yet.

It does depend on personal circumstances but if you can avoid the temptation of frivolously spending the lump sum I would say it's worth taking the maximum. (A bird in the hand and all that stuff:))

jamesd

This is one of the public sector schemes and the standard rule with them is that it is a horrible idea to take a lump sum or increased lump sum. This is because of their terrible 12:1 commutation rate.

The £30,848 larger lump sum costs you £2,570 a year that increases with inflation. 30848 / 2570 = 12, so the standard lousy 12:1 commutation rate.

Do not take a lump sum or larger lump sum to clear a mortgage. The commutation rate is horrendously bad compared to mortgage interest rates. Even at the start the higher income is equivalent to 8.3% interest rate on the lump sum and that just goes on to increase with inflation over the years. So if you want to use the pension for mortgage clearing, do it with the extra income to make yourself better off than doing it with the lump sum.

The lump sum taking guidance for personal pensions is the exact opposite. There it is best to take the maximum lump sum. This is because you can get the personal pension income more tax efficiently outside the pension, from using the same investments inside a S&S ISA or from a purchased life annuity instead of a pension annuity. It's still a bad idea to use the money for mortgage payoff unless you deliberately planned that as the repayment strategy for the mortgage. If you did that, it's the most efficient normal way to clear a mortgage that there is, because you effectively get tax relief on some or all of your capital repayment.

Of course, since one property is BTL the standard BTL approach to clearing that mortgage may well apply: don't, because the interest on borrowed amounts up to the value of the property at the time it entered the letting business is deductible from rental income for income tax purposes. You can take or increase a mortgage to withdraw capital from the business up to that value and the interest of this extra borrowing is also tax deductible. If you had some need for a lump sum, this way would be more efficient than taking a larger lump sum from the NHS pension scheme.

If you're interested in a level income throughout retirement and also want to do some mortgage repaying, the best time to do that repaying would be after state pension age, when you have your state pension income available. That substantial extra income would be on top of the work pension so you'd have a stable income if you used it all for mortgage repaying. Of course, it's not necessary to ever repay a residential mortgage, provided the amount owed is within the limits for equity release. People who prioritise income during their lifetime over a larger inheritance for others might choose this approach. Those who want to leave a larger inheritance at the cost of reduced income for themselves wouldn't choose it.

atush

It is VERY unwise to have two interest only mtgs without having a plan to repay them.

Do you have any savings and investments outside the pension? What % of running/mtg costs does the 1200/month repay? What do you do with the income from this after costs and tax?

Are you taking an actuarial reduction to retire at 55? If so, work on and save as hard as you can to repay the mtg (well at least one of them).

Personally, i'd sell one of the properties before i'd reduce the pension income as it is indexed for life. And i'd pay 100% of the pension income (plus any I could spare) into the new pension at the new job. This will give you a second lump sum when you take it.

jamesd

It isn't necessarily unwise to have two interest only mortgages, with or without a plan to repay them. Those who want to maximise income may well choose to die with the mortgages outstanding. That's particularly true with the BTL where it's very tax efficient and may avoid CGT on sale of the property while alive.

Whether it's wise or unwise to repay or sell or not depends on the balance of income vs inheritance that the individuals concerned seek.

At much younger ages it might be better to repay sometime but here we're in the end game of life and it's fine to die with money still owed. It's something that is more about available money for spending and which choices maximise that for the rest of life, or whether there is a higher inheritance desire. At younger ages repaying will often be the maximising choice because there are many more years interest free available to gain from. At older ages the cost of the capital repaying can be much more significant than the potentially saved interest over the remaining life. For BTL the income tax relief tends to shift the balance more in the direction of not repaying than for a mortgage to purchase someone's own residence (though the BTL might have a mortgage secured on the residence, because that's cheaper than a BTL mortgage secured on the let property and saves the business money).

atush

Those who want to maximise income may well choose to die with the mortgages outstanding.

It is my understanding (at least with the ones I've seen) that interest only mtgs aren't infinite and do have an 'end' date. So can't run forever. Being a forced seller if one can't sell it easily before end date could possibly be a concern.

jamesd

BTL mortgages can run until death and for some time beyond to allow the estate to deal with it. Residential can be replaced with equity release provided the property value is sufficient to allow equity release of the capital still outstanding. We don't know the property values so it's not really possible to evaluate these options.

However, I definitely agree at least that there should be a plan. It's not something to just drift into.

At 55 the age is young enough that there might be some overall income benefit from repaying, but at 55 there's the issue of trying to get a level income for the rest of the life. The repay plan reduces income now when there's no state pension income available, so unfortunately it hurts any plan to have a level income. And by the time the state pensions start, life expectancy is such that it's hard for capital repaying to save enough interest to get ahead.

But it's really down to personal choice. Some will want the mortgage gone and the property to inherit and probably be sold by the beneficiaries, others won't and will favour more income while alive. Just be sure whatever choice is made gets planned, not done by accident or lack of planning.

If there's ample income available and no need for the level income issue to matter then that would tend to shift more in the direction of repaying enough equity so that there's only a mortgage up to the value of the BTL at the time it entered the letting business, so all of the interest is tax deductible. I phrased it that way because the mortgage for the BTL might well be secured on the place they are living just because that's cheapest.

Then there's the choice of whether to go further and accept higher income tax by repaying more mortgage or whether to use the mortgage to buy more BTL property. More property would probably be the income maximising choice of those two.

nurseneedshelp

The property that is currently let has a value of £300,000 ish. The property that is currently my residence is 300,100 ish. I can use the sale of the rental property to pay both mortagages if necessary and still have a lump sum. I can keep the rental house until Oct 2015 before paing CGT as it was my family home until last year.
Do I take the higher pension or lump sum?
Thanks for the input so far, I just wish I was clever enough to understand all the details!

jamesd

[text giving advice removed by MSE Forum Team]

For the rental you will be able to keep it much longer before paying CGT. At present as your Principal Private Residence (PPR) a year ago you get the time it was your PPR plus three years of with no CGT at all. There's a plan to reduce that to 18 months. But you also get something called Letting Relief on rental properties that you used to live in that you rented out later. There's a worked example at that link.

kidmugsy

nurseneedshelp wrote: »

Do I take the higher pension or lump sum?

Taking the higher pension is equivalent to forgoing the extra lump sum and using it to buy an annuity that pays 8.33% p.a., at age 55, index-linked. Just compare that to commercial annuity rates as reported in the personal finance section of the weekend papers. You may never be offered such a bargain again in your life. Unless you've some objective reason to expect to die young, take the bigger pension.

That was me with my avuncular hat on. With my taxpayer's hat on, I urge you to take the bigger lump sum (and, preferably, spend it all on booze).

nurseneedshelp wrote: »

The property that is currently let has a value of £300,000 ish. The property that is currently my residence is 300,100 ish. I can use the sale of the rental property to pay both mortagages if necessary and still have a lump sum. I can keep the rental house until Oct 2015 before paying CGT as it was my family home until last year.

The Capital Gains Tax exemption period for a previously owner-occupied house is being reduced from three years to eighteen months, taking effect from 6th April 2014. (https://www.gov.uk/government/news/autumn-statement-5-december-2013) It may be worth your while to read up on this.