Methodology to compare lump sum V bigger pension

kwikbreaks

I'm due to get an old frozen company pension in December. It turns out I have the choice of what I thought was the fixed sum pension or a lump sum + reduced pension.

I will be paying basic rate tax on all of this pension and to try to compare the two options I've calculated the difference in pension received post tax for both. I then put the lump sum into
http://www.thecalculatorsite.com/finance/calculators/compoundinterestcalculator.php and assumed it to be tax free - given the new cash ISA allowances that is likely to be so.

By assuming a monthly withdrawal to make up the post tax difference and the current poor 1.5% ISA rates the cash lump sum runs out after 12 years. At 5% it would last 16 years.

Is that a reasonable methodology?

Obviously I've no idea if I'm going to expire before the cash or not but it does seem a pretty parsimonious sum for the reduction. Is there anywhere I can check on what is par for the course?

Further research has lead me to the term commutation factor which determines the pension reduction made for the lump sum taken - for my scheme I've calculated that as only 9 which seems to be very poor.

dunstonh

If you are using cash ISA then fair enough. if you were using investment ISAs then you would use a little higher rate.

Remember that the income on the pension will likely to be index linked.

You also need to consider health, existing savings & investments, future personal requirements and marital status.

kidmugsy

kwikbreaks wrote: »

I'm due to get an old frozen company pension in December. It turns out I have the choice of what I thought was the fixed sum pension or a lump sum + reduced pension.

Further research has lead me to the term commutation factor which determines the pension reduction made for the lump sum taken - for my scheme I've calculated that as only 9 which seems to be very poor.

9 is lousy; really you'd hope for twice that.

kwikbreaks

Thanks. The pension income is fixed and there is a smaller (fixed) pension for my wife if she survives me. I did take cash on some personal pensions when I gave up working a couple of years back. Some of that went into stocks & shares ISAs and I am, so far, distinctly unimpressed with their performance so would need a lot of persuading to ever take that route again.

Any comment on the commutation factor? The only saving grace I can see in taking the cash option would be if I popped my clogs early.

atush

What are your S&S isas invested in? And did you invest lump sums just before the crash?

ISAs is only a tax wrapper, it is the investment you chose within the ISA that are at fault here. And they aren't set in stone so you could move them to different funds within the ISA if you wanted.

So condemning S&S isas due to your own choice of investments isn't really fair.

Generally speaking using cash to fund retirement is a poor decision. And it is generally best (if you are in normal good health) to take the higher pension.

Are you sure this pension isn't indexed to rise with inflation?

kwikbreaks

The ISAs are only a couple of years old so it's too early for any final judgement. They are each based on several inner managed schemes.

I'm more interested in the pension scheme I'm asking about in the OP and the cash option. I'm leaning toward taking it all as pension which is what I expected it would be anyway simply because the cash offered reduces the pension far too much IMO.

jem16

kwikbreaks wrote: »

Any comment on the commutation factor? The only saving grace I can see in taking the cash option would be if I popped my clogs early.

If the commutation factor is 9:1 then, as kidmugsy has already said, it's lousy. I thought the public sector commutation rate of 12:1 was dire, but this is even worse.

Unless you have an immediate need for the extra tax free cash, take the higher pension. You will never make up the lost income by saving it and even investing it would require quite a bit of risk.

kwikbreaks

Thanks - that confirms the conclusion I came to myself after playing with the figures.

jamesd

The commutation rate is one of the lowest I've ever seen. If you worry about early death take a look at term insurance policies. Those are very cheap for people in reasonable health and you can easily pay with some of the higher income. For higher potential inheritance lump sum or provision for possible care needs, invest some of the extra income within a stocks and shares ISA.

RichandJ

jamesd wrote: »

The commutation rate is one of the lowest I've ever seen. If you worry about early death take a look at term insurance policies. Those are very cheap for people in reasonable health and you can easily pay with some of the higher income. For higher potential inheritance lump sum or provision for possible care needs, invest some of the extra income within a stocks and shares ISA.

You youngster, you, jamesd.

It used to be the old 'standard', 9.0 for men & 9.6 (? Or was it 10.2 ? Memory going.) for women at 65, in a lot of private sector schemes. 0.02 interpolation per month early/late.

Most I've seen have improved this, at least once if not several times, since the 90s, but there may be the odd legacy scheme and, IIRC, the mineworkers scheme that still have the old rates.

kwikbreaks

FWIW this is a frozen Ford Motor Company pension. By frozen I mean I changed employer back in 1985 but didn't transfer the pension benefits to a new scheme.