Calculation of Deferred SP

jamesd

Albermarle said:

... unless I am calculating wrongly .
For example ( ignoring inflation /triple lock increases etc )
Current SP is £9340 pa available at age 66 .
Defer for 5 years and die at average life expectancy of 85.
Deferred pension would be £12050 , which you would take for 14 years = £168,700 in total .
Without deferral £9340 X 19 years = £177, 460 

OK if you lived one more year than average , you start to gain . On the other hand you are risking dying early and losing out a lot, maybe even zero.

Does not seem that attractive overall , unless you can get some tax benefit by deferring. If you were still working and a 40% tax payer for example ?

The ONS calculates the relevant cohort life expectancy for a 66 year old male who's attained age 66 already as 85 but with a 1 in 4 chance of making it to 92, 1 in 10 chance of making it to 96 and 2.8% chance of 100.

The ONS calculates the relevant cohort life expectancy for a 66 year old female who's attained age 66 already as 87 but with a 1 in 4 chance of making it to 94, 1 in 10 chance of making it to 98 and 4.8% chance of 100.

State pension deferral has several interesting properties:

1. It pays 5.8%. That's higher than the commonly used 30 or 40 year safe withdrawal rates, meaning that every Pound you get of income from deferring increases your income by both the 5.8% and the extra from the freed up bit of capital.
2. The income is inflation linked and for life, however long life is. It's something which can be viewed as a form of longevity insurance, to cover the lower probability long life cases.
3. As guaranteed income it can be used to reduce the success rate used in the drawdown calculations if you follow the approach suggested by Blanchett. That's another increase in potential income beyond the one from point 1.

Switching to a couple view, it's often the case that one person in a couple will have les guaranteed income and/or less investment risk tolerance. Deferring for that person can be a good move even if it isn't for the principal who's supplying the money to do it.

So, ponder the objectives. People who use safe withdrawal rates are quite likely to have lots of thinking about success rates and edge cases, as otherwise they could be drawing more than the 100% success rate level. Though quite a lot might start below 100% success rate anyway. Either way, the state pension deferral adds useful guaranteed income because state pension alone is likely to be lower than the minimum desirable income of a single person.

Once you go beyond that, the next question is what you'll do with the money. If you'd put it in a savings account paying below inflation the state pension deferral can look a lot better. If invested in equities, much less so.

I normally recommend state pension deferral to increase guaranteed income and as longevity insurance. They are both typically common concerns of those contemplating drawdown, and even more so for those who are not fans of drawdown. So it's useful to show how to get desired guarantees.

jamesd

I also normally suggest planning for the one in ten life expectancy case as the planning horizon.

So there's an additional question: are you planning for the 50% or 25% or 10% or some other life expectancy age? If you're planning for even 25% would you consider yourself to be wasting money by planning for longer than is likely, reducing your drawdown rate due to the extra years the plan has to cover?

If you are planning for one of the longer horizons, you're already paying something in lost potential income for provision for a lower than 50% chance case.

jamesd

DairyQueen said:

jamesd said:

DairyQueen said:

I just spotted a recent response to another thread posted by @jamesd . He states that the SP is increased by CPI (not the triple lock) before the 5.8% p.a. uplift is applied so it would appear that @xylophone's post referring to 'assuming no annual increase' is correct. ...

I still haven't found anything definitive (i.e. government advice) on the web which confirms this is the correct calculation but James's advice is good enough for me.

If jamesd appears to say that, jamesd would like to know which post so jamesd can clarify it.

When you stop deferring every increase in the state pension between the time of starting to defer and the time you end deferring is applied at the usual rates. That would normally be triple lock on the amount up to the single tier pension cap and CPI on the amount above that, if any (preserved earnings-related increase usually). Once the correct current year value for the unincreased pension is calculated, the 5.8% per year pro-rated increase is added to it. The increase itself gets CPI increases.

If you deferred by two years you get two times 5.8% increase, for five years, five times 5.8% increase. The increase percentage doesn't get compounded by inflation.

This all assumes that you've spent the whole time in countries where there is an annual increase. If any time was outside such countries you'll lose some of the normal annual increases for that amount of time.

Apologies, this thread:
https://forums.moneysavingexpert.com/discussion/comment/78780950#Comment_78780950

Would be much appreciated if you could confirm I have understood the calculation by reference to the following example:

Full SP 2021/22 = 179.60 per week (maximum single tier, no additional preserved amount)

Ditto 2022/23 = £185.15 (actual, includes inflationary increase notwithstanding triple-lock suspension)

Ditto 2023/24 = £190.00 (projected, includes whatever inflationary increase is applied to single tier amount that year - triple/double lock/something else).

If deferred from 2021 to 2023 (exactly two years) uplift would be 2 x 5.8% so the amount received would be:

£190.00*111.6% = £212.04.

i.e. Similar to a late retirement factor on a DB scheme?  Have I understood how this works? 

I ask as Mr DQ is pushing toward a LTA breach (all his pensions are crystallised) and we are trying to work out whether deferring SP for x years would be preferable to paying the tax penalty. And, if so, how many years of deferral would be best.

Yes, that's how it works.

I'm puzzled by the other thread. I didn't see any way to read any of my posts there as saying that you'd only get CPI during the deferral time. But maybe the words the extra in one post could have been taken to apply to the increases while deferring as well as just the deferral increase itself once it gets paid.

DairyQueen

jamesd said:

I'm puzzled by the other thread. I didn't see any way to read any of my posts there as saying that you'd only get CPI during the deferral time. But maybe the words the extra in one post could have been taken to apply to the increases while deferring as well as just the deferral increase itself once it gets paid.

I probably read your post out of context. Either that or I was suffering a(nother) senior moment. I appreciate the info. Thankyou.

Alter_ego

I have deferred and reclaimed, The new rate is based on your pension entitlement on the day you claim it. Claiming after 6th april maximises the uplift.

zagfles

Albermarle said:

I know that there can be some circumstances where deferring SP can be part of a strategy .
However in general terms it does not seem such a good dea, unless I am calculating wrongly .
For example ( ignoring inflation /triple lock increases etc )
Current SP is £9340 pa available at age 66 .
Defer for 5 years and die at average life expectancy of 85.
Deferred pension would be £12050 , which you would take for 14 years = £168,700 in total .
Without deferral £9340 X 19 years = £177, 460 

OK if you lived one more year than average , you start to gain . On the other hand you are risking dying early and losing out a lot, maybe even zero.

Does not seem that attractive overall , unless you can get some tax benefit by deferring. If you were still working and a 40% tax payer for example ?

Optimal deferral likely to be less than 5 years, maybe 2 or 3, see https://forums.moneysavingexpert.com/discussion/6258487/deferred-state-pension-then-passing-away-before-claiming-anything/p2

Other tax benefit could be allowing more pre age 75 drawdown within the basic rate band if the age 75 LTA test likely to be an issue.

DairyQueen

Albermarle said:

I know that there can be some circumstances where deferring SP can be part of a strategy .
However in general terms it does not seem such a good dea, unless I am calculating wrongly .
For example ( ignoring inflation /triple lock increases etc )
Current SP is £9340 pa available at age 66 .
Defer for 5 years and die at average life expectancy of 85.
Deferred pension would be £12050 , which you would take for 14 years = £168,700 in total .
Without deferral £9340 X 19 years = £177, 460 

OK if you lived one more year than average , you start to gain . On the other hand you are risking dying early and losing out a lot, maybe even zero.

Does not seem that attractive overall , unless you can get some tax benefit by deferring. If you were still working and a 40% tax payer for example ?

It's a tax issue (nice problem to have but a nightmare to manage/calculate).

Mr DQ has 2016 LTA protection and has crystallised all of his pensions. Including post-crystallisation growth on the SIPP, he is currently within 7% of breaching the LTA.

He is 64 so over a decade more growth before the age 75 BCE. But we are limited in how much we drawdown unless he takes a 40% income tax hit on a chunk of drawdown.

He has £31kp.a. DB in payment (mostly index-linked), £420k in a SIPP and full SP due in 2023. He will (almost) fully retire next month but will continue to earn a small salary (approx £6k p.a.). Not much wriggle room there to drawdown the SIPP growth without hitting 40% tax.

The intention is to drawdown up to the BRT threshold but that may not be sufficient to avoid the LTA breach.
We may need to choose whether he pays income tax at 40% on all/some SP, defers SP, or risks the onerous LTA tax charge.

Frozen tax allowances aren't helping the decision.

In OH's case it may be worth deferring SP in order to drawdown more from the SIPP at 20% tax
.
A market crash would also do the trick.

DairyQueen

zagfles said:

Other tax benefit could be allowing more pre age 75 drawdown within the basic rate band if the age 75 LTA test likely to be an issue.

Yes, that's the issue for OH.

jamesd

zagfles said:

Optimal deferral likely to be less than 5 years, maybe 2 or 3, see https://forums.moneysavingexpert.com/discussion/6258487/deferred-state-pension-then-passing-away-before-claiming-anything/p2

Actual optimal depends on circumstances, notably what else the money will be used for if you're confining optimal to mean only break even point and ignoring long life provision. Economist Sir John Kay even went so far as to provide a calculator to help those who want to use only the break even measure and ignore the rest of what makes an optimal choice. Those who like that measure will find that it offers pleasingly low deferral periods if you use the core ONS life expectancy.

That and more about the various ways of working out how long to delay is covered in this drawdown thread post.

NedS

jamesd said:

Albermarle said:

... unless I am calculating wrongly .
For example ( ignoring inflation /triple lock increases etc )
Current SP is £9340 pa available at age 66 .
Defer for 5 years and die at average life expectancy of 85.
Deferred pension would be £12050 , which you would take for 14 years = £168,700 in total .
Without deferral £9340 X 19 years = £177, 460 

OK if you lived one more year than average , you start to gain . On the other hand you are risking dying early and losing out a lot, maybe even zero.

Does not seem that attractive overall , unless you can get some tax benefit by deferring. If you were still working and a 40% tax payer for example ?

The ONS calculates the relevant cohort life expectancy for a 66 year old male who's attained age 66 already as 85 but with a 1 in 4 chance of making it to 92, 1 in 10 chance of making it to 96 and 2.8% chance of 100.

The ONS calculates the relevant cohort life expectancy for a 66 year old female who's attained age 66 already as 87 but with a 1 in 4 chance of making it to 94, 1 in 10 chance of making it to 98 and 4.8% chance of 100.

State pension deferral has several interesting properties:

1. It pays 5.8%. That's higher than the commonly used 30 or 40 year safe withdrawal rates, meaning that every Pound you get of income from deferring increases your income by both the 5.8% and the extra from the freed up bit of capital.
2. The income is inflation linked and for life, however long life is. It's something which can be viewed as a form of longevity insurance, to cover the lower probability long life cases.
3. As guaranteed income it can be used to reduce the success rate used in the drawdown calculations if you follow the approach suggested by Blanchett. That's another increase in potential income beyond the one from point 1.

Switching to a couple view, it's often the case that one person in a couple will have les guaranteed income and/or less investment risk tolerance. Deferring for that person can be a good move even if it isn't for the principal who's supplying the money to do it.

So, ponder the objectives. People who use safe withdrawal rates are quite likely to have lots of thinking about success rates and edge cases, as otherwise they could be drawing more than the 100% success rate level. Though quite a lot might start below 100% success rate anyway. Either way, the state pension deferral adds useful guaranteed income because state pension alone is likely to be lower than the minimum desirable income of a single person.

Once you go beyond that, the next question is what you'll do with the money. If you'd put it in a savings account paying below inflation the state pension deferral can look a lot better. If invested in equities, much less so.

I normally recommend state pension deferral to increase guaranteed income and as longevity insurance. They are both typically common concerns of those contemplating drawdown, and even more so for those who are not fans of drawdown. So it's useful to show how to get desired guarantees.

When considering the value of deferring SP, besides the obvious comparison with an equivalent annuity, I would also compare it to the fixed income portion of a drawdown portfolio.

For example, (and taking the SP as £10k for the sake of round numbers), imagine a couple with a DC pot of £40k and want a 50:50 split between equities and 'safe' bonds/fixed income. What returns are their Gov bonds likely to offer? 5.8% inflation linked? Where else could they invest their non-equity portion of their portfolio to achieve very low / zero risk 5.8% inflation-linked returns?

Consider each member of the couple defers their SP for one year, at a total cost of £20k - that's the fixed income portion of the portfolio taken care of, and they have effectively bought a life annuity at 5.8% inflation linked with 50% payout to the spouse (whilst they are both alive they jointly receive the full amount. When one dies, the survivor continues to receive half the joint amount). Would £20k buy a £1160 inflation linked annuity with 50% spousal protection at SRA?

Whether this represents value I think will depend on how much guaranteed income you already have from DB pensions etc. If you only have DC assets, then I think buying some guaranteed inflation-linked income at 5.8% looks like a good deal.