DB - TFLS 'annuity' rate

k6chris

I have requested and today recieved an estimate from my ex employeer to allow me to take my pension at 53. The pension is question started out as DB, then became DC, so I have managed to build up a reasonable DC money part in addition to the older DB. The original DB part is based on a normal retirement date of 63, so I have been able to work out the implied 'cost neutral' early reirement discount factor, which would seem to be 3.6% compound reduction from 63' This was lower than I had expected, is this a reasonable rate?

The estimate I have also gives me the option of taking my full DC part, which is slightly less than 25% total value, as a TFLS (I asked for this option) or convert the DC part into a dual life 'annuity' with up to 5% indexation. The rate for this conversion works out at £1,000 pa decline in income for £100,895 capital - which I am (perhaps wrongly) suprised at. Does this imply that if I opted to take the full 25% as a TFLS, ie eating into the DB part slightly, that the inverse of this could apply, ie for each £1,000 of DB I was able to 'convert' I could get an additional £100,000 TFLS?

Hope that makes sense?

jamesd

Pension schemes have at least two conversion rates between income and capital.

Commutation rate is for converting income to capital. 12:1 is bad and I've seen as low as around 8:1. Cost neutral for the scheme varies but is likely to be around 28:1.

The other one is reverse commutation to convert lump sum to income. This is normally even worse than the other one. You might see 16:1 commutation and 12:1 reverse commutation.

jamesd

Your first decision is trivially easy. Take the tax free lump sum using the DC at least instead of buying income from them with it. You're being offered an appallingly bad reverse commutation rate that may well be the worst I've ever seen. To put 1% into context, around 5-6% is what a safe withdrawal rate would be from investments if using modern drawdown rules. Or alternatively if ignoring inflation you'd be able to stick it into a current account and pay yourself for a hundred years. So to get a guarantee from them they are taking around 80% of your possible income. It's simply not credible with modern drawdown rules that you'd suffer such a huge income drop even during the worst investing times. So politely decline their offer and take the money to invest it.

jamesd

Ask them for a transfer value and find out what you'd get. It's probably less than you are thinking of but it still could be very good.

The rate they have quoted you implies that they may be pricing using gilt yields or annuity purchase. If they are then you could get an excellent transfer value.

jamesd

Remember to consider income tax also. If you buy income from them it's taxable. If you don't you could eventually move the money into an ISA to get tax free income instead. There's also an annuity type that pays mostly tax free income from non-pension or former pension money. That type would probably pay you more net but still be very poor compared to drawdown.

k6chris

jamesd wrote: »

You're being offered an appallingly bad reverse commutation rate that may well be the worst I've ever seen.

I agree that part is an easy decision, although I suspect the very low rate might reflect my age, 53? My best estimate of the commutation rate, worked out by looking at figures I received as a general update last october, is 41:1, but I will ask for a quote. I want to have the bulk of my pension as a risk free DB, just so I can sleep at night when the market downturn occurs. The TFLS will go into an ISA drawdown mode and then I get the happy "I'm worth more" feeling when the market goes up and the smug "I have a DB pension" feeling when the market goes down. None of which is really real, apart fom the ability to sleep!

jamesd

If you do get 41:1 that would be one of the highest I've seen, possibly the highest. I'd jump at the chance to transfer at that rate.

Markets go up and down but you don't have to be entirely in those markets. At 55 you could take the tax free lump sum and say reinvest it in P2P where rates of 12-14% raw, may be 10% after bad debt, can be had, with no stock market link at all. Just this 25% would get you more than the pension income.

It's harder to invest in direct P2P inside a pension at the moment but funds holding short term bonds should make enough to be worth doing without equity risk.

Of course a catch with a transfer is that you couldn't take anything until 55.

jamesd

Yes the low reverse commutation rate would be due to your age and the scheme buying an annuity or using guilts to match their future obligation. Pretty much an insane thing to be doing at the moment but no reason to complain if it creates an opportunity for you in the other direction.