Pensions already exceed LTA - How do BCEs and Taxation apply

rayzjay

1. SITUATION

I have the Fixed Protection 2016 at £1.25m

I have a defined benefits scheme which at NRD 1/4/24 would have an LTA impact of about £560k, or about £500k if I take it now with a reduced benefit for early commencement.
I am currently 62

I have a SIPP which I am investing in shares successfully that now stands at just over £900k 

The total of £1.4-1.46m is already over my LTA and the SIPP is growing.
The SIPP allows any proportion to be crystallised at any time and all assets not required for cash withdrawal can remain invested (they prorate crystallised and uncrystallised assets)
- (this is only relevant if I crystallise only part of the SIPP into drawdown at this time)

I expect to be a Higher Rate or Additional Rate tax payer for the foreseeable future

The DB pension has a 50% widow's pension whereas the SIPP can be passed to my chosen beneficiaries in entirety.

2. INITIAL CRYSTALLISATION 
The widow's benefits and the continuing growth rate of the SIPP seem to suggest to me that I should 

1. use the LTA to cover the SIPP in full and allow the DB scheme to suffer crystallisation taxes

2. crystallise the full £900k of the SIPP into drawdown now and take the 25% tax free lump sum

3. Then commence drawdown of the DB scheme and pay the LTA excess taxes as drawing it (say, 32 months) early gives me a larger total for any lifetime up to age 85 than waiting until NRD.

3. SIPP - TAXATION (PRE Age 75)

With £1.25m of SIPP assets crystallised into flexi drawdown I believe this will be 

- BCE1 for the 75% funds designated to provide a drawdown

- BCE6 for the 25% lump sum which will be tax free

Is that correct? and am I correct in believing that prior to age 75 there would be no further tax on the crystallised investments while not down (tax on capital gain or dividends etc within the drawdown assets in the SIPP)

- I believe BCE3 only applies to pension "schemes" and not drawdown pensions so the annual limit on growth is not applied?

- believe I can then draw any amounts at any time from the crystallised drawdown assets without any further LTA related tax being triggered but will pay income tax at my marginal rate of 40 or 45% on annual tax return.

4. DB SCHEME TAXATION 

For the DB scheme I will only have remaining LTA for part of it, £1.25m - £900k = £350k at today's values

So I think that means that if I take it now with a £5000k LTA value then 350/500 - 70% of the DB pension is within LTA and 30% of it will be taxed as excess over LTA
Assuming I take the 25% lump sum option the DB pension will give (approx) £125k lump sum and £18,750 pcm

I believe this will trigger BCE6 for the lump sum and BCE2 for the monthly payments.
I believe I have to pass the certificate from my SIPP drawdown to the DB provider so they know how much of my LTA remains and that they will deduct tax at source from the payments for the excess over LTA.
So I think this will result in them deducting tax on the 30% excess element of each part..

Lump Sum 70% of £125k will be tax free - £87.5k tax free, £37.5k taxed at 55% is £20,625 leaving me £16,875 of the taxed part - a total of £104,375 with no further tax to pay
Monthly payments - 70% of £18,750pcm untaxed (for LTA) = £13,125 and 30% £5,635 taxed at 25% leaving me £4226 for a total monthly income of £13,125 + £4,226 = £17,351

I believe those deductions will be made by the pension trustees so I then just pay income tax on the monthly payment of £17,351 at, currently, 45%

I don't believe this scheme has any increase in payments over time so will not trigger BCE3 

5. AGE 75

I believe BCE5 and BCE5B will not apply, and BCE5C cannot occur if I died before 75 as all of the DB scheme funds and all of the SIPP assets will have been crystallised
However I think BCE5A may apply to the SIPP drawdown fund growth.

The HMRC guide  PTM088650 says:

"And the prevention of overlap rules apply to ensure that it is only net growth (investment growth less payments of income made) in the drawdown pension fund or flexi-access drawdown fund remaining since the original designation(s) that is tested."

Does this mean that there will be an extra tax charge at age 75 but only if the drawdown fund has grown and that growth exceeds income payments taken, and that if I take any growth as income before my 75th birthday then there is no tax... but if I leave the growth in then there is extra tax to pay on the growth?
The wording implies that the purpose of BCE5A is for HMRC to tax the growth but does it tax the growth in crystallised funds and if so how is that tax applied?
Or is this an irrelevant clause as all it does is to use up remaining LTA where I will have used all of mine already.
So is age 75 then irrelevant in my case?

After any tax (if any) at reaching 75 is that the end of extra taxes as a result of exceeding LTA?

Apologies for the complexity of my questions.
I hope they make sense!
I would appreciate any advice as to whether my understanding is right or wrong and the approach I'm planning is sensible

Many Thanks

rayzjay

That should have said..

3. SIPP - TAXATION (PRE Age 75)

With under £1.25m of SIPP assets crystallised into flexi drawdown I believe this will be ...

zagfles

I think you've misunderstood how the LTA will hit the DB scheme. You're best asking your DB provider, but AIUI the lump sum ie BCE6 is deemed to have occured first, and you won't get the LTA tax on each monthly payment, your benefits will be reduced by an actuarial factor as a one-off event.

BCE5A is definitely relevant if you've used all your LTA, you're taxed on any increase since crystallisation. As the PTM says, it's growth minus withdrawls, ie it simple subtracts the value at 75 from the value when crystallised under BCE1 and if it's greater you'll pay 25% tax on the difference as a one-off, usually from the SIPP. Plus of course income tax as usual on drawdown.

Might be worth a chat with pensionwise, or your SIPP provider might provide one off advice for free. Don't worry about it being "independant", if it's just for taxation issues it shouldn't matter.

Dead_keen

I think that the method of calculating how the DB scheme takes account of the LTA tax charge may be wrong too.  Have a look at this example: https://adviser.royallondon.com/technical-central/pensions/case-studies/lifetime-allowance-charge---scheme-pension-in-a-defined-benefit-scheme/

I don't have much of a DB scheme and have little choice about when I can take it.  However, the way that the 20x multiple is applied for tax and your equivalent of the "17.79" in the example may mean that there can be a benefit in taking the DB pension before doing anything with the SIPP.  

jamesd

Not sure why you want to ensure that you pay lifetime allowance charge when it's potentially avoidable.  

To avoid, take DB now as income and start crystallising 80k a year, the tax free bit going into an ISA, taxable left in flexi-access drawdown until later. Continue with this while waiting for a market drop. Say 200k drop required on 900k is 23% and that's moderately frequent. Growth and the gradual crystallising makes it harder each year but the prospects for getting it all with 25% tax free and without any lifetime allowance charge are at least reasonable. If you see a nice correction maybe use that along the way.

zagfles

jamesd said:

Not sure why you want to ensure that you pay lifetime allowance charge when it's potentially avoidable.  

To avoid, take DB now as income and start crystallising 80k a year, the tax free bit going into an ISA, taxable left in flexi-access drawdown until later. Continue with this while waiting for a market drop. Say 200k drop required on 900k is 23% and that's moderately frequent. Growth and the gradual crystallising makes it harder each year but the prospects for getting it all with 25% tax free and without any lifetime allowance charge are at least reasonable. If you see a nice correction maybe use that along the way.

Have you actually backtested this sort of strategy you keep mentioning? A drop of 23% might be quite common. For the market to be 23% lower in the future than at this point in time isn't. A dip of 23% after growth of 30% is still growth.

Look at any stockmarket chart. Then backtest - pick dates and see if the stockmarket is ever 23% lower in the future than on that date.

Looking at a random one, eg Dow Jones, from 1982 to 1998 there is no date on which the stockmarket was ever 23% lower on any future date, except for a few months in 1987. Same for 2009 to about 2017. So for most dates between 1982 and now, the Dow Jones was never 23% lower at any point in the future than on that date. And that doesn't account for dividends.

rayzjay

zagfles said:

As the PTM says, it's growth minus withdrawls, ie it simple subtracts the value at 75 from the value when crystallised under BCE1 and if it's greater you'll pay 25% tax on the difference as a one-off, usually from the SIPP. Plus of course income tax as usual on drawdown.

So does that mean that I can avoid any additional tax on the growth (other than income tax) providing I take out the amount of any growth as pension payments prior to age 75?

rayzjay

Dead_keen said:

I think that the method of calculating how the DB scheme takes account of the LTA tax charge may be wrong too.  Have a look at this example: ...

Thanks

Dead_keen said:

I don't have much of a DB scheme and have little choice about when I can take it.  However, the way that the 20x multiple is applied for tax and your equivalent of the "17.79" in the example may mean that there can be a benefit in taking the DB pension before doing anything with the SIPP.  

My rationale for letting the DB pension take the tax hit is because I expect the SIPP to grow substantially and because it can be passed on to my wife and children in full whereas the DB scheme has a 50% reduced widow's pension and the DB valuation of 20x annual payments would use a large part of my LTA

rayzjay

jamesd said:

To avoid, take DB now as income and start crystallising 80k a year, the tax free bit going into an ISA, taxable left in flexi-access drawdown until later. 

Is there some significance to the amount of £80k a year or is that just an example?

rayzjay

Thanks everyone for you thoughts, I really appreciate it

zagfles

rayzjay said:

zagfles said:

As the PTM says, it's growth minus withdrawls, ie it simple subtracts the value at 75 from the value when crystallised under BCE1 and if it's greater you'll pay 25% tax on the difference as a one-off, usually from the SIPP. Plus of course income tax as usual on drawdown.

So does that mean that I can avoid any additional tax on the growth (other than income tax) providing I take out the amount of any growth as pension payments prior to age 75?

Indeed....