Another Lifetime Allowance Question

doodling

Hi,

I’m a long time lurker but I've finally reached a point where I think some opinions from others would be helpful.

In summary, my concern is that I will shortly be at a point where my pension savings will (with a conservative growth assumption) exceed the lifetime allowance when I come to retire and I'm not sure where to go from here.

I’m 50 on a salary of ~£75k plus ~10k bonus.  I get 7% matching on DC pension contributions from my employer.  Each year I contribute the annual allowance (my contributions being all via salary sacrifice) and have done for several years.

My DC pension is currently valued at £600k (but I note that markets are surprisingly high at the moment).

I have a previous DB pension which (on a recent estimate) will pay £11k pension and £22k lump sum at age 60.  There is also an AVC of £85k.  The value of the AVC must be taken as cash but the £22k lump sum can be converted to pension at 12:1, which I plan to do.  Interestingly, if the AVC exceeds more than 25% of the total HMRC valuation of the pension+AVC then any excess is also converted to pension at 12:1 – depending on the growth of the AVC I might see a little benefit there.

I have already qualified for the maximum state pension.

I plan to retire at 60 (or at least reduce my hours substantially) and hope for a personal income of ~£50k pa (inflation adjusted from now).  I think this will just about work taking into account the totality of my pension provision, including the state pension but it is quite aggressive.  Comments on the viability of this would be welcomed.

Any pension my wife receives would be a bonus on top (see below).  The mortgage will be gone by retirement.

Even assuming no growth at all in the next 10 years, I will exceed the lifetime allowance if I continue to contribute at my current rate.

Two options which come to mind are:

1. Carry on as I am and ignore the lifetime allowance.
2. Drop my contributions down to 7% to still get the matching from my employer and use the increased income to allow my wife to increase her pension contributions (her pension provision is roughly 5k DB and 100k DC at the moment, with ongoing DC contributions).  My wife’s contributions would be via salary sacrifice but she only just earns into higher rate tax so the additional contributions would reduce basic rate tax liability.   My wife wants to retire when I do but is 5 years younger.

I’m sure there are alternatives – suggestions and opinions welcome?

Thanks!

Albermarle

Ignoring the employers contribution for now , as you are getting 40% tax relief on your pension contributions , then going over the LTA does not lose or gain you anything .

£100 in pension costs a higher rate taxpayer £60 . The when the £100 is taken from the pension it incurs 25% LTA tax = £75 and then 20% income tax so £60 . If you include employers contributions it goes positive.
If you might pay higher rate tax in retirement , the calculation goes negative.

So you should continue at least with enough contributions to get the employer 7% .

Probably you should row back on your current pension contributions to some extent and assist your wife's contributions.

LTA situations can be quite complicated so you might want to think about seeing an IFA.
Or you could just think if you have to pay some LTA tax , then it shows you are doing very well and not worry about it too much.

TVAS

DB pension if it is pre 2006 you have the right to take higher tax free cash called Protected Tax Free Cash (PTFC). 

This is because tax free cash in an occupational scheme is based on salary and service. So you need to ask you the scheme (assuming all or most of the membership was before A Day i.e. 6 April 2006 when Pensions Simplification (no it bloody wasn't) came into force.

You will need 3 years P60 earnings to 5/5/2006 if you had bonuses and P11D benefits or the last 12 months salary if you had basic salary only. 

So you may be able to get more than 25% tax free cash from the DP plan.

A commutation factor of 12:1 is poor anything less than 20:1 is considered poor. It means for every £1 pension given up you get £12 cash. So if you do not get PTFC you may wish to consider taking more pension especially as it will probably increasing once in payment. The DB and the state pension would be your guaranteed pensions and you then you could take ad hoc income from your SIPP.

Re LTA I agree with Albermarle.

If you do use an IFA he will try to charge you an ongoing adviser fee (OAC) negotiate, go for 0.25% of the fund. If you are not happy with the service which should be at least one face to face or Zoom to Zoom meeting a year and regular updates you can write to the provider and have the fee removed from your plan.    

doodling

Hi,

TVAS said:

DB pension if it is pre 2006 you have the right to take higher tax free cash called Protected Tax Free Cash (PTFC). 

This is because tax free cash in an occupational scheme is based on salary and service. So you need to ask you the scheme (assuming all or most of the membership was before A Day i.e. 6 April 2006 when Pensions Simplification (no it bloody wasn't) came into force.

You will need 3 years P60 earnings to 5/5/2006 if you had bonuses and P11D benefits or the last 12 months salary if you had basic salary only. 

So you may be able to get more than 25% tax free cash from the DP plan. 

I didn't know about the PTFC.  Having said that I was hoping to optimise pension from the DB rather than cash so as to provide a low risk underpin for the overall income.  Having looked at the scheme rules, they are based around a maximum tax free cash of 25% of the overall HMRC valuation.

A commutation factor of 12:1 is poor anything less than 20:1 is considered poor. It means for every £1 pension given up you get £12 cash. So if you do not get PTFC you may wish to consider taking more pension especially as it will probably increasing once in payment. The DB and the state pension would be your guaranteed pensions and you then you could take ad hoc income from your SIPP.

I was looking at if from the other direction and thinking that 12:1 is excellent for converting cash to pension, especially in the case of the AVC which is a normal S&S based investment so its effectively a GAR on growth above a certain threshold.  I know that pension is less tax efficient than cash from a LTA perspective but I value the low risk income.

Re LTA I agree with Albermarle.
If you do use an IFA he will try to charge you an ongoing adviser fee (OAC) negotiate, go for 0.25% of the fund. If you are not happy with the service which should be at least one face to face or Zoom to Zoom meeting a year and regular updates you can write to the provider and have the fee removed from your plan.  

At the moment the pension is in the boring company scheme with a large insurer which has pretty low charges - does that fit with an OAC or would the pension need to move to allow an IFA to charge it?

Thanks for the comments!

doodling

Hi,

Albermarle said:

Ignoring the employers contribution for now , as you are getting 40% tax relief on your pension contributions , then going over the LTA does not lose or gain you anything .

£100 in pension costs a higher rate taxpayer £60 . The when the £100 is taken from the pension it incurs 25% LTA tax = £75 and then 20% income tax so £60 . If you include employers contributions it goes positive.
If you might pay higher rate tax in retirement , the calculation goes negative.

So you should continue at least with enough contributions to get the employer 7% .

Good point on the overall LTA "cost", I just need to keep income below the higher rate tax threshold in retirement.

Probably you should row back on your current pension contributions to some extent and assist your wife's contributions.

Agreed, I'm leaning towards dropping to around 20k PA contributions and freeing up the wife to make an equivalent contribution of her own.  I lose 42% tax and NI whilst she gains 20% tax and 12% NI so there's a 10% tax loss but overall its better than me just blowing it on fast cars and booze.

LTA situations can be quite complicated so you might want to think about seeing an IFA.
Or you could just think if you have to pay some LTA tax , then it shows you are doing very well and not worry about it too much.

It does feel very much like a good problem to have so I'm not really complaining - just trying to optimise.

Thanks.

Albermarle

There are other strategies for reducing LTA impact regularly discussed on this forum so probably worth scanning through it from time to time .
For example crystallize the DC pension early , especially if it has just had a downturn .
Derisk the DC investments away from high risk/high growth ones . 

There is no magic solution though and some strategies bring other issues. At best they reduce the potential LTA tax rather than eliminate it .

doodling

Hi,

Albermarle said:

There are other strategies for reducing LTA impact regularly discussed on this forum so probably worth scanning through it from time to time .
For example crystallize the DC pension early , especially if it has just had a downturn .
Derisk the DC investments away from high risk/high growth ones . 

Noted, I've already been watching the forum for the options.  The early crystalisation is a little challenging as I'd want to make sure that I have enough LTA left over for the whole of the DB so as to preserve the maximum low risk income.  That suggests either very early crystallisation (which isn't necessarily a problem) or picking a suitable time after taking the DB at 60.

I've now done the maths for the various options.  If you have £1000 that is going to be subject to higher rate tax / NI and you will be paying basic rate tax / NI on your pension then the following is possible:

1. Take the money now and get £580.
2. Put the money in the pension and get £850 if you don't hit the LTA.
3. Put the money in the pension and get £600 if you do hit the LTA.
4. Give £580 to the wife who pays basic rate tax / NI, she puts ~£853 into her pension via salary sacrifice and gets out £725 if she is subject to basic rate tax on withdrawal.
5. Give £580 to the wife who pays basic rate tax / NI, she puts ~£853 into her pension via salary sacrifice and gets out ~£853 if she isn't subject to basic rate tax on withdrawal.

Given that there may be a period directly (potentially five years) after I have retired during which my wife will have no income other than her DC pension then (5) looks possible for a fair proportion of the contributions I facilitate her making.

It certainly looks like it is worth anyone paying higher rate tax making sure that their spouse has enough pension to at least top up their income to the personal allowance from 55 (or 57, whatever it will be) onwards if their spouse is currently in work paying tax.

Note that the comment in my original post about a 10% tax loss was wrong - it is a 14.7% loss all other things being equal.

There is no magic solution though and some strategies bring other issues. At best they reduce the potential LTA tax rather than eliminate it .

I also suspect that the tax environment will evolve somewhat over the next 10 years so its all a bit hit and miss anyway.

mark55man

I don't think pensions attract NI - or I'm confused at your calculation

doodling

Sorry, you're right, there is one point where I say "tax / NI" when I should just say "tax" - the text should be:

...
I've now done the maths for the various options.  If you have £1000 that is going to be subject to higher rate tax / NI and you will be paying basic rate tax / NI on your pension then the following is possible:
...

The numbers are correct though (i.e. I haven't deducted any NI from the pension withdrawals).

jamesd

doodling said:

Hi,

1. Take the money now and get £580.
2. Put the money in the pension and get £850 if you don't hit the LTA.
3. Put the money in the pension and get £600 if you do hit the LTA.
4. Give £580 to the wife who pays basic rate tax / NI, she puts ~£853 into her pension via salary sacrifice and gets out £725 if she is subject to basic rate tax on withdrawal.
5. Give £580 to the wife who pays basic rate tax / NI, she puts ~£853 into her pension via salary sacrifice and gets out ~£853 if she isn't subject to basic rate tax on withdrawal.

I also don't follow your calculations.

For example, start with £850 gross pay before sacrifice then I deduct 42% for 40% income tax and 2% employee NI and I get £493 take home pay. You might be getting some of the saved employer NI to boost what goes into the pension. It'd be useful to start the calculation with the gross pay amount being considered.

Or on the way out, if there's £850 in the pension, you get no tax free lump sum and assuming the LTA charge is payable you can choose 55% for a lump sum, leaving you £382.50 with no more tax to pay. Or pay 25% for income leaving you £637.50 that's taxable when when withdrawn, so £510 at basic rate or £382.50 at higher rate, both assuming no mitigation through VCT buying.

The age 75 lifetime allowance test typically means that those subject to the LTA charge must draw some money at higher rate or pay a charge at 75. You can mitigate by doing it early and / or by using VCTs. Early more rapidly gets money out so it's growth happens outside the pension.

doodling

Hi,

The starting point is £1000 of gross income so

jamesd said:

doodling said:

Hi,

1. Take the money now and get £580.
2. Put the money in the pension and get £850 if you don't hit the LTA.
3. Put the money in the pension and get £600 if you do hit the LTA.
4. Give £580 to the wife who pays basic rate tax / NI, she puts ~£853 into her pension via salary sacrifice and gets out £725 if she is subject to basic rate tax on withdrawal.
5. Give £580 to the wife who pays basic rate tax / NI, she puts ~£853 into her pension via salary sacrifice and gets out ~£853 if she isn't subject to basic rate tax on withdrawal.

I also don't follow your calculations.

For example, start with £850 gross pay before sacrifice then I deduct 42% for 40% income tax and 2% employee NI and I get £493 take home pay. You might be getting some of the saved employer NI to boost what goes into the pension. It'd be useful to start the calculation with the gross pay amount being considered.

Or, start with £1000 as I stated.  If you take it as income then you pay 40% tax and 2% NI so you get £580 in your hand.  Or your could put it (£1000) in your own pension, or you could give £580 to your wife and she could put ~£853 into her pension (she being a basic rate taxpayer with sal sac available)

Or on the way out, if there's £850 in the pension, you get no tax free lump sum and assuming the LTA charge is payable you can choose 55% for a lump sum, leaving you £382.50 with no more tax to pay. Or pay 25% for income leaving you £637.50 that's taxable when when withdrawn, so £510 at basic rate or £382.50 at higher rate, both assuming no mitigation through VCT buying.

On the way out, there are several scenarios (there are others but I think these are most likely between me and my wife).

A. It can all be paid as income with no tax charge as it fits in the recipient's annual allowance.
B. It gets paid subject to 20% tax (actually 15% taking into account the TFLS).
C. It gets paid subject to 40% tax.
D. It gets paid subject to 20% tax plus a LTA tax charge.
E. It gets paid subject to 40% tax plus a LTA tax charge.

My post considered B and D for me and A and B for my wife, plus the take the money now option. A will never be applicable to me and I hope that E won't be either, hopefully I can avoid C but I note your comment below.  C, D and E won't be applicable to my wife unless she unexpectedly gets an awesome increase in salary and puts it all in her pension.

The age 75 lifetime allowance test typically means that those subject to the LTA charge must draw some money at higher rate or pay a charge at 75. You can mitigate by doing it early and / or by using VCTs. Early more rapidly gets money out so it's growth happens outside the pension.

Does that hold true when 30% of the LTA is made up of relatively LTA efficient DB pension? The DC withdrawals will be somewhat front loaded to make up to the higher rate tax threshold from 60 until the state pension kicks in so I'm hoping to avoid issues at 75. Am I being optimistic?

Thanks for the comments.