Should I go over the SIPP lifetime allowance?

Albermarle

EdSwippet said:

Albermarle said:

The way you minimise these lifetime allowance charges is by crystallising as soon as you can.

Is it not better to wait until there is a fall in the markets/fall in the value of your pot , so the crystallised value will be less? 

Therefore with a lower % LTA contribution.

I suppose the issue is if the pot keeps growing instead, then you are in a worse position .

The OP hasn't yet reached the LTA. Currently, their LTA headroom is eroded by both growth of investments in the current pot and new contributions. Crystallising now removes investment growth in the current pot from that equation, preserving the remaining LTA headroom for the planned future contributions.

And yes, the required market fall may not occur. Or, it may not occur in the timeframe needed. Or, it may not be as deep as needed. Or, you could miss it by failing to call the bottom. Or ...

I do not think 'calling the bottom ' is as critical in this case as it would be if you were actually buying and selling and trying to time when to start buying again . In any case there would be a time lag whilst you organised it with the pension provider.

As suggested in the post above, hedging your bets by crystallising in stages if you were around or above the LTA could also be a valid strategy.

Albermarle

So the 25% TFC growth management (LTA charge) strategy above can't be fully combined with "waiting for a dip".   If you wait with most LTA unused for a market correction of say 50% then our 130% example becomes 65% LTA consumed.  Very good.  

Thanks for the clearly worked example and info. Just one point is that most of us are not 100% equity invested so even a large equity market crash of 50% would only translate into say a 25% drop in pension pot. As hopefully a 50% market drop will not happen, then probably more realistically a typical medium risk pension pot might drop 15/20% at most .Although if you were able to crystallise after a 15% drop ( or even a 10% drop ) every little helps as they say .

jamesd

Yes, though if you were looking to benefit from a drop you might put the most volatile investments inside the pension to maximise the drop.

r2i

Very Informative thread. Lots to learn.
& thank you for posting some great youtube video links too.
What is hives view , if OP was reaching LTA with DB pension, such as NHS Pension? 
thanks in advance

Tinten

Thank you all for these replies. jamesd - I am working my way through the links and posts to understand the strategy of crystallising as soon as possible. My initial reaction is one of uncertainty. The advice seems to be to crystallise my SIPP asap, with some urgency. My SIPP now is approximately £600,000. With maximum contributions (as of now I can contribute 2 x £80,000 and £40,000 thereafter) allowing for some growth I estimate I could close in on the LTA in as little as 5 years time.

So say I crystallise my SIPP now at £600,000. Once I make any withdrawals from my SIPP, doesn't that mean I lose the right to put in the maximum £40,000 contributions and am then limited to only £4,000 p.a.? 

If the idea is to have the minimum pension pot to avoid the LTA, where do you draw the line - should everyone aim for a really small pension pot? 

Say you start with a SIPP with £1m (just under the LTA £1.075m) and withdraw a safe withdrawal rate of 3% p.a. increased by inflation annually. You do this for 30 years. Inflation over the 30 years averages 2.5%. After 30 years you are withdrawing £61,000 p.a. and you have cumulatively withdrawn £1.3m from your SIPP. So you've exceeded the LTA - but the LTA is projected to increase by a measure of inflation. If the measure of inflation is the same measure chosen to increase annual withdrawals, so 2.5%, then in 30 years the LTA should have risen to £2.2m. So after 30 years your total withdrawals will have not exceeded the LTA at that point.

Is that reasoning not correct?

Is the problem more the test at age 75? Using these same starting value, 3% withdrawals, and 2.5% inflation figures, starting the first withdrawal at age 55, at age 75 £875,000 has been withdrawn in total, and the remaining SIPP value would be approximately £1.6m. If the LTA has increased over the period at the same rate as the annual withdrawals, 2.5% then the LTA would be around £1.7m. What happens then?

One unknown that makes it a leap of faith to start drawdown (to crystallise the SIPP) and remove the possibility of making further maximum £40,000 contributions, is suppose the LTA gets scrapped in the future? Has this not been discussed and debated? Could such a change not cause regret for those who chose to limit the size of their SIPP and then unable to maximize their pension pot again?

Tinten

PS the calculations I refer to assume 6% investment growth. 

Albermarle

Tinten said:

Thank you all for these replies. jamesd - I am working my way through the links and posts to understand the strategy of crystallising as soon as possible. My initial reaction is one of uncertainty. The advice seems to be to crystallise my SIPP asap, with some urgency. My SIPP now is approximately £600,000. With maximum contributions (as of now I can contribute 2 x £80,000 and £40,000 thereafter) allowing for some growth I estimate I could close in on the LTA in as little as 5 years time.

So say I crystallise my SIPP now at £600,000. Once I make any withdrawals from my SIPP, doesn't that mean I lose the right to put in the maximum £40,000 contributions and am then limited to only £4,000 p.a.? 
The £4 K limit only kicks in if you take any taxable income . If you crystallise £600K , you will have £150K tax free cash , so presumably it will not be necessary to touch the £450K drawdown pot for some time. In this case the £4K limit will not apply.

If the idea is to have the minimum pension pot to avoid the LTA, where do you draw the line - should everyone aim for a really small pension pot? No - suggest you read GMO's post again - it makes it clear there a lot of competing and intertwining factors . Particularly that money in a pension is not subject to IHT.

Say you start with a SIPP with £1m (just under the LTA £1.075m) and withdraw a safe withdrawal rate of 3% p.a. increased by inflation annually. You do this for 30 years. Inflation over the 30 years averages 2.5%. After 30 years you are withdrawing £61,000 p.a. and you have cumulatively withdrawn £1.3m from your SIPP. So you've exceeded the LTA - but the LTA is projected to increase by a measure of inflation. If the measure of inflation is the same measure chosen to increase annual withdrawals, so 2.5%, then in 30 years the LTA should have risen to £2.2m. So after 30 years your total withdrawals will have not exceeded the LTA at that point.

Is that reasoning not correct?

Is the problem more the test at age 75? Using these same starting value, 3% withdrawals, and 2.5% inflation figures, starting the first withdrawal at age 55, at age 75 £875,000 has been withdrawn in total, and the remaining SIPP value would be approximately £1.6m. If the LTA has increased over the period at the same rate as the annual withdrawals, 2.5% then the LTA would be around £1.7m. What happens then? 

One unknown that makes it a leap of faith to start drawdown (to crystallise the SIPP) and remove the possibility of making further maximum £40,000 contributions, is suppose the LTA gets scrapped in the future? Has this not been discussed and debated? Could such a change not cause regret for those who chose to limit the size of their SIPP and then unable to maximize their pension pot again?

As above , if you do not take taxable income you are not limited . 
The usual advice is not to let fear of paying LTA tax skew your financial planning too much . It is clear with your SIPP, pension, own business etc you are going to pay extra taxes  somewhere down the line . If not LTA , then IHT . There are probably many different scenarios that could be modelled in your ( nice ) situation .

Gets complicated !

jamesd

Tinten said:

Thank you all for these replies. jamesd - I am working my way through the links and posts to understand the strategy of crystallising as soon as possible. My initial reaction is one of uncertainty. The advice seems to be to crystallise my SIPP asap, with some urgency. My SIPP now is approximately £600,000. With maximum contributions (as of now I can contribute 2 x £80,000 and £40,000 thereafter) allowing for some growth I estimate I could close in on the LTA in as little as 5 years time.

So say I crystallise my SIPP now at £600,000. Once I make any withdrawals from my SIPP, doesn't that mean I lose the right to put in the maximum £40,000 contributions and am then limited to only £4,000 p.a.? 

No 4k limit when you take just the tax free 25%. It's the taxable 75% that triggers the reduction to 4k.

If the idea is to have the minimum pension pot to avoid the LTA, where do you draw the line - should everyone aim for a really small pension pot? 

The ideal target for tax while alive is typically to just hit the lifetime allowance but not go over because this maximises the pension benefit.

There are cases where going over is best. Say if there's a lot of growth and nothing else that can be done to reduce tax on investments, then the lifetime allowance charge might be cheaper than tax on all of the growth. But the annual capital gains tax allowance helps and VCT, EIS and SEIS are available a other tax options.

Pensions are treated very well for inheritance under current rules. You can have it used to create a beneficiary pension that can be drawn on at any time by the recipient and that in turn can be inherited by their beneficiaries as a successor pension, also takeable whenever desired, all with no capital gains taxation,, just income tax if original death was from age 75. Someone wanting that may want to go well above the lifetime allowance and accept that there will be a big lifetime allowance bill to pay. Or without if before. But giving while alive is an alternative and that lets you see the recipients benefitting from the money. A matter of personal preference.

Say you start with a SIPP with £1m (just under the LTA £1.075m) and withdraw a safe withdrawal rate of 3% p.a. increased by inflation annually. You do this for 30 years. Inflation over the 30 years averages 2.5%. After 30 years you are withdrawing £61,000 p.a. and you have cumulatively withdrawn £1.3m from your SIPP. So you've exceeded the LTA - but the LTA is projected to increase by a measure of inflation. If the measure of inflation is the same measure chosen to increase annual withdrawals, so 2.5%, then in 30 years the LTA should have risen to £2.2m. So after 30 years your total withdrawals will have not exceeded the LTA at that point.

Is that reasoning not correct?

Not correct for a couple of reasons. It's been announced that the LTA is no longer to increase with inflation. If the BoE achieves its 2% inflation target that means a cut by that each year.

If you start at a million, best usually to crystallise. Then you immediately use a million of lifetime allowance but as long as the 75% taxable is still not more than £750k at 75 there's no more lifetime allowance to pay because you already did the LTA calculation on that 75% and it's associated 25% and you've made sure there's no growth.

You'll probably have to draw more than 3% out because that's lower than may common growth possibilities, but that's something that can be managed at the time and it's withdraw, not necessarily spend.

Is the problem more the test at age 75? Using these same starting value, 3% withdrawals, and 2.5% inflation figures, starting the first withdrawal at age 55, at age 75 £875,000 has been withdrawn in total, and the remaining SIPP value would be approximately £1.6m. If the LTA has increased over the period at the same rate as the annual withdrawals, 2.5% then the LTA would be around £1.7m. What happens then?

One unknown that makes it a leap of faith to start drawdown (to crystallise the SIPP) and remove the possibility of making further maximum £40,000 contributions, is suppose the LTA gets scrapped in the future? Has this not been discussed and debated? Could such a change not cause regret for those who chose to limit the size of their SIPP and then unable to maximize their pension pot again?

Yes, the test at 75% an issue because you don't know future growth, while before that, you can see how it's gone and if you're at least 55, crystallise to avoid going over. Yet the fixed age also lets you plan for it, by taking the growth out.

The then case if you withdraw the 3% as 25% tax free and 75% taxable each year is that you'd be using about 0.3% of the lifetime allowance each year if both increased with inflation. If you're not above the remaining lifetime allowance at 75 with uncrystallised money then there's no bill to pay, if you're over it, there is one.

The lifetime allowance isn't likely to increase now, except maybe by having the inflation ink added back. Too much to pay in covid costs to allow significant taxation reductions for a while, unless high inflation is used as a tool to reduce the real value of the debt. Here's its history, note the high early years then the cuts and inflation link that's now been removed. If Coalition and Conservative governments didn't get rid of it, that the rest won't is a safe bet.

2021/2022 £1,073,100

2020/2021 £1,073,100

2019/2020 £1,055,000

2018/2019 £1,030,000

2017/2018 £1,000,000

2016/2017 £1,000,000

2015/2016 £1,250,000

2014/2015 £1,250,000

2013/2014 £1,500,000

2012/2013 £1,500,000

2011/2012 £1,800,000

2010/2011 £1,800,000

2009/2010 £1,750,000

2008/2009 £1,650,000

2007/2008 £1,600,000

2006/2007 £1,500,000

Since crystallising doesn't cause the annual contribution limit to be cut that particular dilemma isn't present and you can actually increase the time you can continue with 40k a year by crystallising and locking in the lifetime allowance use of the currently accumulated pot at today's value.

Tinten

I'm still not clear how you avoid the LTA if you cannot withdraw more than £1.073m in total, ever, or have a total SIPP value of more than £1.073m at age 75, or (I assume) the sum of all you have withdrawn prior to age 75 plus the remaining value of your SIPP these values combined cannot exceed £1.073m at the test age 75. So:

"If you start at a million, best usually to crystallise. Then you immediately use a million of lifetime allowance but as long as the 75% taxable is still not more than £750k at 75 there's no more lifetime allowance to pay because you already did the LTA calculation on that 75% and it's associated 25% and you've made sure there's no growth."

£750,000 compounded by 6% p.a. for 20 years becomes £2.4m so mostly invested in equities there will likely be a lot of growth over 20 years. If the way to ensure there's no growth on the £750,000 is to take it out, surely that means over 20 years you'll have taken out an amount exceeding the LTA, plus there's the £250,000 already taken? On total you end either taking out more than £1.073m, or being left with remaining value of investments + withdrawals taken over £1.073m?

Or am I just not getting this?

Albermarle

Tinten said:

I'm still not clear how you avoid the LTA if you cannot withdraw more than £1.073m in total, ever, or have a total SIPP value of more than £1.073m at age 75, or (I assume) the sum of all you have withdrawn prior to age 75 plus the remaining value of your SIPP these values combined cannot exceed £1.073m at the test age 75. So:

"If you start at a million, best usually to crystallise. Then you immediately use a million of lifetime allowance but as long as the 75% taxable is still not more than £750k at 75 there's no more lifetime allowance to pay because you already did the LTA calculation on that 75% and it's associated 25% and you've made sure there's no growth."

£750,000 compounded by 6% p.a. for 20 years becomes £2.4m so mostly invested in equities there will likely be a lot of growth over 20 years. If the way to ensure there's no growth on the £750,000 is to take it out, surely that means over 20 years you'll have taken out an amount exceeding the LTA, plus there's the £250,000 already taken? On total you end either taking out more than £1.073m, or being left with remaining value of investments + withdrawals taken over £1.073m?

Or am I just not getting this?

The LTA does not apply to withdrawals but when you crystallise.
So the £750K is crystallised and you can now withdraw from it without any effect on LTA ( although you will pay income tax )
So if it grows by 6% and you withdraw 6%pa , then in 20 years it will still be £750K so no problem.
If it grows by more than you withdraw and the pot gets bigger , then at at age 75 that growth is subject to LTA.