Which pot to spend first?

agent69

I'm toying with the idea of early retirement, and trying to work out which of my savings 'pots' I should spend first. I have a deferred final salary pension in addition to six figure sums invested in each of the following:

• Cash
• Stocks and shares ISA
• DC pension

I had always assumed that I would spend the cash first and not draw money from the DC pot until I needed it (65 or there abouts). Is this the correct thing to do? The thing that has brought the uncertainty in my mind is the way that tax on the DC pot is treated.


If I take £25k from the DC pot next year (with no other earnings) I will get 25% tax free, and the benefit of my tax free allowance of about £11k. Overall I will lose about £1,500 in tax. If I spend the cash now then when draw from the DC pot later when I am also drawing from other pension sources, it appears that the tax burden will be greater.


Have I misunderstood something?

soulsaver

I don't know - and I'm interested in other responses as it has relevance to my future plans but a couple of points - for your rough tax calc you've not taken into account the income from the cash?
And it assumes you stop work (earning) at April 6th? If you stopped earning at any other date you'd not have the full personal allowance in the calculation as presumably some would have been used up?

Linton

Which pot you spend is a separate matter to how you drawdown your DC pension. You can always put extra drawdown cash into your S&S ISA which you can regard as the same pot after tax. Lets look at optimum drawdown for the DC pension....

Quite a bit depends on the size of your DB pension and DC pensions. If your DB pension + SP is anywhere near the higher rate tax band you will have difficulty accessing the DC money without paying higher rate tax. Under these circumstances you want to drawdown your DC pension before you need to access both SP and the DB pension firstly keeping under the tax free allowance and then if necessary using the basic rate band. In any case you will want to use your tax allowance whilst you have it.

So firstly drawdown your tax allowance + the 25% tax free and put the money into your (and spouses if you have one) S&S ISA and then in subsequent years drawdown at least sufficient to use the tax allowance and put it in the S&S ISA(s). You can also add some money from the cash pot if that's what you want.

Now where you get your spending money from....

I suggest you keep enough cash for say 3-5 years spending requirement beyond the DB and SP. In this way you can use the cash to avoid selling equities when prices are low. Any extra cash can be moved into the S&S ISA(s). Take your spending money from your cash pot and replenish it from the S&S ISA(s) when prices are high.

Exactly what you do depends on your circumstances. For example if you actually want to keep the DC pension as an inheritance outside your estate then you wont want to draw it all down.

PS you could defer your State Pension to provide a bigger gap in the basic rate tax band if necessary or to use up extra cash.

Stubod

..difficult without knowing exact details. We are in the same boat now, (early retirement), and have a mixture of cash and SS ISA's. For us we intend to burn some cash. My OH can start taking a small pension shortly but this will not be enough by a country mile. It seems to make sense in the short term to start taking some money out of the "low interest" cash accounts that we have, but would be interested in any other comments / reasons....

Keep_pedalling

6 figures in cash sounds far to much so hit that pot first.

marlot

agent69 wrote: »

...six figure sums invested in each of the following:

• Cash
• Stocks and shares ISA
• DC pension

If you're not working then it makes sense to use your annual allowance, and get the money out of the DC pension.

If you withdraw £15k a year, that would give you £3750 tax tree, plus £11,250 - so (as long as you have no other income) no tax to pay.

You can then shunt the £15k into ISAs, for spending later, and live on your cash?

kidmugsy

Keep_pedalling wrote: »

6 figures in cash sounds far to much so hit that pot first.

How on earth can you tell? Maybe his deferred DB pension is worth £750,000. Maybe his house is worth £750,000. Maybe he expects to spend £30k p.a. Maybe has has some large non-recurrent expenditures coming up. Then his £100k in cash might be entirely sensible.

bigadaj

kidmugsy wrote: »

How on earth can you tell? Maybe his deferred DB pension is worth £750,000. Maybe his house is worth £750,000. Maybe he expects to spend £30k p.a. Maybe has has some large non-recurrent expenditures coming up. Then his £100k in cash might be entirely sensible.

Yes, but on the balance of probability on the limited information supplied?

kidmugsy

bigadaj wrote: »

Yes, but on the balance of probability on the limited information supplied?

"on the balance of probability" doesn't really mean "I'll just make things up".

AnotherJoe

My plan, as per another thread in here, is to take the 25% TFLS from DC pension in one go and place into ISAs (done in March and April that's £80k) . Anything over will go into non ISA account that can later be dripfed into ISAs.

Then in subsequent years before my DB and SP kick in, withdraw the max allowance before tax, around £12,500 and also put into ISAs. That way I'll have got out the maximum I can without paying tax before SP and DB come on stream. Once they do I'll be just about on the allowance limit.

For spending in those intervening years I'll be burning down shares in non ISA accounts and cash. That's a 4 year gap to bridge. After that will probably take from, in order, non ISA shares, ISA shares, 25% TFLS from second pension and then SIPP last. That may never be needed, if it is, either the markets will be in meltdown or I'll have bought that yellow Lamborghini you keep seeing on the warnings about drawdown.

jamesd

You correctly understand the tax situation. Taking out enough taxable income from the pension to use your personal allowance each year is likely to be a good move. Regardless of how you fund your income.

If you think that they are suitable you might also consider buying about £21,000 of VCTs and taking out enough to use your basic rate income band as well. This is particularly useful where the time to get money out is limited and where you can afford to defer getting all but 30%, the tax relief, of the income for at least five years. You can use the tax relief to help fund your ISA.

The general idea is to get money out of the DC pension effectively tax free then into the ISA where it'll generate ongoing tax free income.

Since you haven't retired yet but are close, now's the time to be putting all you legally can with tax relief into pensions, funded first from cash and income. If necessary and if you have the time, adding drawing from ISA as well to get the maximum benefit.