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Pension contributions and avoiding recycling
Deneb
Posts: 421 Forumite
As I know there are some very knowledgeable people here, can I ask a question relating to my wife's current situation please? Sorry, it's rather lengthy.
Mrs D is currently employed by the NHS in the 1995 pension scheme. In August 2011 she purchased £750 additional pension on instalments over 3 years. She has also purchase an additional £250 AP by lump sum payment in each of the tax years 2012-13, 2013-14 and 2014-15.
The scheme pension and AP are all payable from age 60. She lost special classes status by returning from a childcare break in employment in 1995, 9 days too late to retain it, unbeknown to us at the time
Due to a recent change of circumstances, she is now intending to retire in March 2015 at age 55. Both the scheme pension and AP will be payable from that date with actuarial reduction. Deferring her pension to age 60 and financing the intervening 5 years is not an option.
She has been purchasing the AP from savings made from her earned income, and had the situation not changed, was intending to purchase another £250 AP in this tax year with money already set aside. Obviously, due to the reduction that would be applied, it no longer makes any sense to buy more AP, and I feel the amount she has set aside would be better invested in a separate personal pension or an ISA.
She will be a non taxpayer from next year, and a contribution into a PP seems to me to be the best move financially. However, I am concerned about the effect of the pension recycling legislation.
She will receive a compulsory PCLS of about £22,500 on retirement. Our intention is to use it to supplement her pension income for up to 5 years, by which time we will have additional funds available to maintain her income up to SPA.
Whilst there is no intention to recycle the PCLS, it seems to me that it is best to also avoid at least one of the other requirements of the recycling rules, to avoid any possibility of falling foul of the legislation. At the same time, we'd also like to make the most of the tax relief available to her.
So, how much more can she safely contribute to a pension in this tax year without breaching any of the other recycling rules? Annual pension contributions below are taken from her payslips, and include the AP purchases, both the instalment and lump sum payments.
2011-12 £8775
2012-13 £10855
2013-14 £11332
2014-15 £8796 (including projected main scheme contributions to date of retirement).
My opinion is that her cumulative payments in 2012-13 were an increase of 24% over 2011-12, and her payments in 2013-14 were an increase of 4.4%, making a cumulative increase of 28.4%. A further contribution into a PP of £2500 in the current tax year should therefore be perfectly safe without breaching the cumulative increase of 30% contributions.
The cumulative increases to date total £2557, so could she instead safely contribute an additional £4190 in this tax year, which would still be cumulatively less than 30% of the PCLS?
Can she also make contributions of £3600 in each of the following two tax years without any potential problems arising?
Mrs D is currently employed by the NHS in the 1995 pension scheme. In August 2011 she purchased £750 additional pension on instalments over 3 years. She has also purchase an additional £250 AP by lump sum payment in each of the tax years 2012-13, 2013-14 and 2014-15.
The scheme pension and AP are all payable from age 60. She lost special classes status by returning from a childcare break in employment in 1995, 9 days too late to retain it, unbeknown to us at the time
Due to a recent change of circumstances, she is now intending to retire in March 2015 at age 55. Both the scheme pension and AP will be payable from that date with actuarial reduction. Deferring her pension to age 60 and financing the intervening 5 years is not an option.
She has been purchasing the AP from savings made from her earned income, and had the situation not changed, was intending to purchase another £250 AP in this tax year with money already set aside. Obviously, due to the reduction that would be applied, it no longer makes any sense to buy more AP, and I feel the amount she has set aside would be better invested in a separate personal pension or an ISA.
She will be a non taxpayer from next year, and a contribution into a PP seems to me to be the best move financially. However, I am concerned about the effect of the pension recycling legislation.
She will receive a compulsory PCLS of about £22,500 on retirement. Our intention is to use it to supplement her pension income for up to 5 years, by which time we will have additional funds available to maintain her income up to SPA.
Whilst there is no intention to recycle the PCLS, it seems to me that it is best to also avoid at least one of the other requirements of the recycling rules, to avoid any possibility of falling foul of the legislation. At the same time, we'd also like to make the most of the tax relief available to her.
So, how much more can she safely contribute to a pension in this tax year without breaching any of the other recycling rules? Annual pension contributions below are taken from her payslips, and include the AP purchases, both the instalment and lump sum payments.
2011-12 £8775
2012-13 £10855
2013-14 £11332
2014-15 £8796 (including projected main scheme contributions to date of retirement).
My opinion is that her cumulative payments in 2012-13 were an increase of 24% over 2011-12, and her payments in 2013-14 were an increase of 4.4%, making a cumulative increase of 28.4%. A further contribution into a PP of £2500 in the current tax year should therefore be perfectly safe without breaching the cumulative increase of 30% contributions.
The cumulative increases to date total £2557, so could she instead safely contribute an additional £4190 in this tax year, which would still be cumulatively less than 30% of the PCLS?
Can she also make contributions of £3600 in each of the following two tax years without any potential problems arising?
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Comments
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OK, let me condense my original post into just the question that I'm asking. I can see how the previous post might have caused everyone's eyes to glaze over!
Pension contributions:
2011-12 £8775
2012-13 £10855
2013-14 £11332
2014-15 £8796 (including projected main scheme contributions to date of retirement).
My OH has already set aside £4,300 with which she had intended to purchase a further £250 AP in the current tax year. She will however now be receiving a £22,500 PCLS in the same tax year.
Can she safely contribute the £4,300 into a personal pension without risk of falling foul of pension recycling?
If not, what would be the maximum contribution that she could make?
Can she also continue to contribute £3,600 each year into a pension going forward? Jamesd's post here seems to suggest that she can, as the future contributions would be a decrease, not an increase:
http://forums.moneysavingexpert.com/showpost.php?p=66340034&postcount=17
I'm just struggling at the moment with my understanding of how the recycling rules are calculated. James, you seem to have a good grasp of this?0 -
OK, but are you really certain that it is not an option? No home that you could raise a mortgage on or use equity release on to get living money until she can take the pension without actuarial reduction? The reductions are usually so bad that borrowing at lowish rates is better than taking the reduction. It's one of the cases where borrowing can make you better off.intending to retire in March 2015 at age 55. Both the scheme pension and AP will be payable from that date with actuarial reduction. Deferring her pension to age 60 and financing the intervening 5 years is not an option.
Every requirement in the list on this page must be satisfied before the recycling rule applies, note that the 1% lifetime allowance rule is being changed to al lower fixed £10,000 under the proposed changes for April 2015, bold to highlight the most relevant bits:Pension contributions:
2011-12 £8775
2012-13 £10855
2013-14 £11332
2014-15 £8796 (including projected main scheme contributions to date of retirement).
My OH has already set aside £4,300 with which she had intended to purchase a further £250 AP in the current tax year. She will however now be receiving a £22,500 PCLS in the same tax year.
Can she safely contribute the £4,300 into a personal pension without risk of falling foul of pension recycling?
If not, what would be the maximum contribution that she could make?
Can she also continue to contribute £3,600 each year into a pension going forward? Jamesd's post here seems to suggest that she can, as the future contributions would be a decrease, not an increase:
http://forums.moneysavingexpert.com/showpost.php?p=66340034&postcount=17
I'm just struggling at the moment with my understanding of how the recycling rules are calculated. James, you seem to have a good grasp of this?
"RPSM04104920 - Technical Pages: Taxation: Unauthorised Payments: Recycling of pension commencement lump sums: Establishing when the recycling rule applies ...
o the individual receives a pension commencement lump sum,
o because of the lump sum, the amount of contributions paid into a registered pension scheme in respect of the individual is significantly greater than it otherwise would be. Further guidance about what is a significant increase in contributions is at RPSM04104940.
o the additional contributions are made by the individual or by someone else, such as an employer,
o the recycling was pre-planned. Further guidance about determining whether the recycling was pre-planned is at RPSM04104930.
o the amount of the pension commencement lump sum, taken together with any other such lump sums taken in the previous 12 month period, exceeds 1% of the standard lifetime allowance, and
o the cumulative amount of the additional contributions exceeds 30% of the pension commencement lump sum. Further guidance about the cumulative basis of the recycling rule is at RPSM04104950.
It should be noted that very few lump sum payments will be affected by this recycling rule. Pension commencement lump sum payments will not be caught if they are paid as part of an individual’s normal retirement planning."
"RPSM04104950 - Technical Pages: Taxation: Unauthorised Payments: Recycling of pension commencement lump sums: Cumulative basis
...by providing for contributions to be measured over a set period of time in determining whether or not there has been a significant increase in contributions.
The period of time is:
o the tax year in which an individual takes a pension commencement lump sum with the intention of using it to make significantly increased contributions to a registered pension scheme
o the 2 tax years immediately preceding the tax year in which the individual took the lump sum, and
o the 2 tax years immediately following the tax year in which the individual took the lump sum."0 -
Whilst actuarial reductions for early retirement are significant, my understanding is that they are on a "cost neutral" basis for government pensions schemes although it's worth checking this point.
The reason why they seem so bad is because the pension is paid for an extra 5 years (if retiring at 55 instead of 60) and because of the discounting. In a crude way, if you're expected to live for 25 years and get £5000 per year with no increases, that would give a total sum of £125k at death. If you retire 5 years early, you get £125k over 30 years, i.e. £4166pa. £4166/5000 = 83%.
The variation is due to the increases, discount rate and mortality assumptions. (The full calculation is of the net present value of the benefits at a specified date, and you divide one by the other to give the factor. A non cost neutral basis will use more prudent assumptions for the discount rate etc)
I'm 99.9% positive the actuarial reduction for the 2008 section is on a cost neutral basis, it's worth checking for the 1995 section.
ETA - I probably also should have said, if you're including future service calculations (i.e. projected benefits at retirement age) when comparing pension with early retirement and not, you don't get a realistic picture because it assumes an extra 5 years, say, of accrual. If you are thinking of retiring early but not taking benefits, it's worth asking for a deferred benefit statement (how much you'd get at 60 if you stop working 5 years before taking benefits) and comparing that to the early retirement quotation.0 -
OK, but are you really certain that it is not an option? No home that you could raise a mortgage on or use equity release on to get living money until she can take the pension without actuarial reduction? The reductions are usually so bad that borrowing at lowish rates is better than taking the reduction. It's one of the cases where borrowing can make you better off.
Thanks James. That is an option I'd not considered. I've been a bit adverse to increasing borrowing as we have both been working towards early retirement. We still have a mortgage, and the funds set aside to pay it, which we haven't done as we're making more on the capital interest than the cost of servicing the loan. You make a very good point here, which I'll investigate further. I need to look at the figures though, as I'm not certain the actuarial reduction is that punitive for the NHS scheme.
I have wondered about the possibility of deferring for 2 years. I don't know whether that's an option, though. It may be that she either has to take her pension at the time of early retirement, or defer it until normal scheme pension age. If she could defer for 2 years though, we could afford it without any recourse to further borrowing. The result would be £740 p.a. increase in her pension, and a £1,520 increase in the lump sum.
Your reply has made me realise that we could of course use some of the money set aside to repay the mortgage as well, and replenish it from the PCLS later.the cumulative amount of the additional contributions exceeds 30% of the pension commencement lump sum.
and...by providing for contributions to be measured over a set period of time in determining whether or not there has been a significant increase in contributions.
The period of time is:
o the tax year in which an individual takes a pension commencement lump sum with the intention of using it to make significantly increased contributions to a registered pension scheme
o the 2 tax years immediately preceding the tax year in which the individual took the lump sum, and
o the 2 tax years immediately following the tax year in which the individual took the lump sum."
This is the part I'm getting most confused about. In my OH's case, would any increase in contributions be measured from her 2011-12 contribution (the year before the 2 tax years preceding the year in which she takes the lump sum) or from the 2012-13 tax year? The various examples in the RPSM don't seem to help in this respect.0 -
(other useful information snipped for brevity)Whilst actuarial reductions for early retirement are significant, my understanding is that they are on a "cost neutral" basis for government pensions schemes although it's worth checking this point.
Thank you, all very useful information. I had already started looking at the figures to an extent.
Her pension taken at age 55 is estimated as £8,298.17 p.a. plus £22,430 lump sum. The actuarial reduction is 0.787 on the annual pension and 0.854 on the lump sum.
If she defers until age 60, the pension would therefore be by my reckoning £10,505 p.a. plus £26,323.53 lump sum. She would of course have received an additional £41,490.85 plus CPI increases and all but £3,900 of the eventual lump sum in the intervening period by taking the reduced pension at 55.
Deferring for 2 years as I mentioned in my reply to James (if that is possible) would result in an increase of about £740 p.a and £1,520 on the lump sum.
A bit of number crunching is required, I think.0 -
A point to note about the £10,505 is that if you get a deferred statement, it's likely to be in today's money terms.
Lets assume inflation is 2.5%, then £10,505 in 5 years time is 10505*1.025^(-5) = £9,284 in today's money. (meaning that the deferred statement will say £9284 instead of £10505)0 -
I calculated the £10,505 on the early retirement estimate of £8,298.17 and the actuarial reduction of 0.787 (8,298.17 / 787) x 100 so surely the £10,505 is in real terms. The figure is also within £3 of the unreduced pension benefit calculated on final salary / 80 x length of employment, so I'm pretty happy that it's right. It would also be increased at CPI whilst in deferment and on payment.0
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That's true, but the factors inherently take into account the increases and discounting so it's not as simple as a straight swap.0
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They aren't. They use the same reduction for men and women so they reduce a woman's pension too much because of the effect of the normally higher life expectancy of women.Whilst actuarial reductions for early retirement are significant, my understanding is that they are on a "cost neutral" basis for government pensions schemes although it's worth checking this point.
For schemes using gender-neutral rates taking the pension early is a better deal for men than women because the women cross-subsidise the men.
If her life expectancy is lower than usual for some reason that is a factor to consider.0 -
It's not remotely close to being as bad as some.I'm not certain the actuarial reduction is that punitive for the NHS scheme.
]You need to de-stigmatise borrowing when it pays you money.we could afford it without any recourse to further borrowing.
Right. And while the borrowing has an interest rate, the actuarial reduction of a pension with inflation linking is going to exceed any reasonable mortgage interest rate, so it'll be a good trade.Your reply has made me realise that we could of course use some of the money set aside to repay the mortgage as well, and replenish it from the PCLS later.
You do need to be aware of the possibility of her dying before taking benefits and leaving you with the debt. Since the scheme has spousal benefits you may well not need term life insurance to cover that risk. If you do, term life insurance is very cheap for those in normal good health - I've checked it many times for those in this age range.
One key year is the tax year in which she takes the lump sum. If she does it in March 2015 that is the 2014/15 tax year. If she does it from 6 April 2015 it is the 2015/16 tax year.This is the part I'm getting most confused about. In my OH's case, would any increase in contributions be measured from her 2011-12 contribution (the year before the 2 tax years preceding the year in which she takes the lump sum) or from the 2012-13 tax year?
2011/12 tax year, 8775 the preceding year against which any increases will be measured
2012/13 tax year, 10855 two years before
2013/14 tax year, 11332 one year before
March 2015, 2014/15 tax year 8796 take lump sum
2016/17 one year later
2017/18 two years later
I do wonder though, are those just her own contributions or are they the total value of the increase each year, including the effect of the employer portion?
Using those numbers she would start with a base of 8772 so the increases would potentially be 2080, 2557, 21, total 5135. Lump sum value of £22500 and 30% of that is 6750 so she will not have exceeded 30% of the lump sum value.
Of course she could also consider retiring on 6 April 2015 instead of in March 2015 and shift this to one tax year later with a base of 10855. Not needed in this case.0
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