Pension vs Mortgage - am I right?

jamesd

Triumph13 wrote: »

If you put the full £1,000 in and have HRT to cover it then you most definitely do have to worry about the LTA. You said your scheme is salary sacrifice so that's 42% tax and NI saved (plus possibly some of the employer's NI if they share it). Your £12k pa of after tax income therefore turns into £20,690 of pension contribution. 6 years at that rate with 3% growth would put more than £50k over the LTA and as you are definitely looking at a big risk of being a HRT payer in retirement that would be painful.

You're right that I didn't allow for the tax and NI gain but the inflation linked increase in the LTA should easily cover it. If not a handy market downturn might and if that doesn't happen the pension contributions can be reduced once it is clear that the LTA will be exceeded. Or commutation of DB pension or taking it early to stay within the LTA might be best.

jamesd

Twenty times DB income then lump sum on top is the rule but apparently it can vary so a check with the provider should be made.

It doesn't normally seem right that your DB benefits can drop. Projections are normally in today's money and wouldn't drop unless there was deflation instead of inflation. But you might have a pension where some of your rights can increase faster than inflation and that could cause it if the assumptions about the excess are reduced. Alternatively it might be final salary and you having a lower salary without protection against a drop.

jamesd

But now income tax. As Triumph13 has explained that planning gets fiddly. The current government has made a manifesto undertaking that the higher rate threshold will be 50k by 2020. So even with the DB and state pension of say 8k in payment to give 46k you should be a basic rate tax payer with some margin, depending on what inflation does because 50k is a fixed number, not going to be increased with inflation. But the pension has index linking and you may have other taxable income.

It's a bit uncommon but sometimes it can actually pay to take a pension early and take an actuarial reduction to avoid higher rate income tax and this might actually be sensible planning for you to get you a bit more margin below higher rate.

Even if this government does as planned you'll be close and a continual target for inflation increases in pension taking you above a threshold increasing slower than inflation or even being outright reduced by a non-Conservative government.

So oddly, taking before 60 by a year or two may well make sense. That also reduces the LTA value since it is twenty times the starting value still even if you take it earlier. So you'd have more LTA margin.

jamesd

Pension contributions for your wife are close to break even with those for you if she isn't able to use salary sacrifice and you have no LTA issue. If she can use salary sacrifice doing enough so that she uses her personal allowance would be a good move.

We don't know your wife's tax band, earnings, income or salary sacrifice position so we can't compare to your contributions properly yet. If she is a higher rate tax payer even without salary sacrifice then some contributions for her would be a good move. Same if basic rate with salary sacrifice.

jamesd

What next? Consider what you want to do about income tax position when DB and SP are in payment and find out about your actuarial reduction and lump sum options. If you take it early to be sure you stay basic rate, that - depending on the reduction level - can eliminate any LTA potential. Then it would be you vs your wife comparison for pension tax relief to decide what to do with contributions for her.

Of course taking it early also reduces the reason for DC to provide income but it will still win anyway vs directly overpaying the mortgage.

westv

The only problem I can see with diverting extra mortgage payments to a DC scheme is a stock market crash just before you want the money out.

Triumph13

I said it was complicated - not many things need 5 consecutive posts from James:)


Whilst pension contributions for the OP would potentially give the best profit, that is only if he stays below the LTA and he has capacity to get them out without incurring HRT on them. If he has to pay HRT then wife's contributions taken out tax free beat his contributions taxed at 40%.


If the HRT threshold doesn't rise above inflation, then OP has little or no basic rate tax capacity as his current contribution schedule will pretty well gobble it all up. If it does rise to £50k, as promised by the current government, then he will still struggle. With 4% investment growth it would take until nearly age 90 to get it all back out below HRT if he was to increase his contributions by the full £12k net pa. Taking his DB early, as James suggested, would help the LTA issue, but not the HRT one as it would use up those income-free early years.


Basically OP needs to sit down and model all the possible scenarios with different investment returns and HRT thresholds and DB start dates to try to best achieve the following:

1. Avoid breaching LTA; then
2. Maximise own DC contributions that can be withdrawn with basic rate tax; then
3. Maximise wife's contributions that can be drawn tax free; then
4. Maximise own DC contributions drawn with HRT but still below LTA.

Spreadsheet. Darkened room. Cold flannel.

BennyBrownBoy

jamesd wrote: »

Twenty times DB income then lump sum on top is the rule but apparently it can vary so a check with the provider should be made.

It doesn't normally seem right that your DB benefits can drop. Projections are normally in today's money and wouldn't drop unless there was deflation instead of inflation. But you might have a pension where some of your rights can increase faster than inflation and that could cause it if the assumptions about the excess are reduced. Alternatively it might be final salary and you having a lower salary without protection against a drop.

Thanks jamesd - perhaps I need to call my provider and ask. My projected income from 60 has fallen twice in my previous two year projection statements.

Is there anything specific you recommend I should ask?

BennyBrownBoy

jamesd wrote: »

Pension contributions for your wife are close to break even with those for you if she isn't able to use salary sacrifice and you have no LTA issue. If she can use salary sacrifice doing enough so that she uses her personal allowance would be a good move.

We don't know your wife's tax band, earnings, income or salary sacrifice position so we can't compare to your contributions properly yet. If she is a higher rate tax payer even without salary sacrifice then some contributions for her would be a good move. Same if basic rate with salary sacrifice.

Thanks jamesd - my wife is lower rate tax payer and in the teachers pension scheme (TPS). She will move to a career average scheme under th tapering rules from mid 2018

BennyBrownBoy

Triumph13 wrote: »

I said it was complicated - not many things need 5 consecutive posts from James:)


Whilst pension contributions for the OP would potentially give the best profit, that is only if he stays below the LTA and he has capacity to get them out without incurring HRT on them. If he has to pay HRT then wife's contributions taken out tax free beat his contributions taxed at 40%.


If the HRT threshold doesn't rise above inflation, then OP has little or no basic rate tax capacity as his current contribution schedule will pretty well gobble it all up. If it does rise to £50k, as promised by the current government, then he will still struggle. With 4% investment growth it would take until nearly age 90 to get it all back out below HRT if he was to increase his contributions by the full £12k net pa. Taking his DB early, as James suggested, would help the LTA issue, but not the HRT one as it would use up those income-free early years.


Basically OP needs to sit down and model all the possible scenarios with different investment returns and HRT thresholds and DB start dates to try to best achieve the following:

1. Avoid breaching LTA; then
2. Maximise own DC contributions that can be withdrawn with basic rate tax; then
3. Maximise wife's contributions that can be drawn tax free; then
4. Maximise own DC contributions drawn with HRT but still below LTA.

Spreadsheet. Darkened room. Cold flannel.

Wow - didnt think what I believed was a relatively simple question would provoke so many thoughts and advice.

Much appreciated everyone. Best make a start on that spreadsheet...