Selling the Golden Goose? (DB scheme pension swap for lump sum)

diddyflanker

I see Martin often refers to taking the 25% tax-free amount from pension funds when you start but I am concerned that this might really only be of significant advantage to DC schemes where annuity rates are so low that it makes sense to get the absolute maximum tax-free.

With many DB schemes the option to take up to 25% tax-free involves giving up some of the annual pension. That pension is often index-linked and you only get, in my case, 12 times the amount you give up. That doesn't seem much considering I would be taking the pension at 55 and would therefore, on average, have given up 25 years worth of index-linked pension for it. Am I selling the Golden Goose too cheaply?

Albermarle

Presume with a commutation factor of only 12, it is a public sector pension ?
It is a poor deal, and you would be better not take the lump sum if possible, and get the highest annual pension income you can.

For comparison, most private sector DB schemes will have a commutation factor of 20 to 22. In which case it is a bit more 50:50, especially as most private sector DB schemes have a cap on the inflation increases, where public sector ones do not ( a big plus ) 

diddyflanker

Albermarle said:

Presume with a commutation factor of only 12, it is a public sector pension ?
It is a poor deal, and you would be better not take the lump sum if possible, and get the highest annual pension income you can.

For comparison, most private sector DB schemes will have a commutation factor of 20 to 22. In which case it is a bit more 50:50, especially as most private sector DB schemes have a cap on the inflation increases, where public sector ones do not ( a big plus ) 

Yes. It is a public sector scheme. I saw that for the lifetime allowance it is twenty times the pension figure hence my assumption that the Government would be 'buying' the pension on the cheap.

Silvertabby

Also note that public sector CPI increases are uncapped, whereas most private DB schemes are capped at 3% or 5%.

This hasn't been much of an issue over the last few years, but as we seem to be entering a period of high inflation that could be another reason to maximise your pension income.

Marcon

diddyflanker said:

I see Martin often refers to taking the 25% tax-free amount from pension funds when you start but I am concerned that this might really only be of significant advantage to DC schemes where annuity rates are so low that it makes sense to get the absolute maximum tax-free.

No need to take an annuity - you could always use drawdown if you had a DC pot.

diddyflanker said:

With many DB schemes the option to take up to 25% tax-free involves giving up some of the annual pension. That pension is often index-linked and you only get, in my case, 12 times the amount you give up. That doesn't seem much considering I would be taking the pension at 55 and would therefore, on average, have given up 25 years worth of index-linked pension for it. Am I selling the Golden Goose too cheaply?

DB schemes don't automatically have a 25% tax free lump sum - the rules of each scheme set out the maximum tax free cash you can take, subject to overall HMRC limits. 

Thrugelmir

If you take a lump sum what do you plan doing with it?  Big numbers are extremely attractive. Jam today or jam tomorrow. 

diddyflanker

Thrugelmir said:

If you take a lump sum what do you plan doing with it?  Big numbers are extremely attractive. Jam today or jam tomorrow. 

Yes. I'm pretty much set on taking the minimum lump sum but many colleagues I think are misinterpreting what they are seeing on the Money Show where Martin takes the 25% up front and then enters into either a drawdown or annuity purchase with the rest. The confusion between DC and DB schemes.

draiggoch

If you are a member of the LGPS then you can add an AVC and take a lump sum without having to reduce your annual pension. Very cost effective.

MX5huggy

diddyflanker said:

Thrugelmir said:

If you take a lump sum what do you plan doing with it?  Big numbers are extremely attractive. Jam today or jam tomorrow. 

Yes. I'm pretty much set on taking the minimum lump sum but many colleagues I think are misinterpreting what they are seeing on the Money Show where Martin takes the 25% up front and then enters into either a drawdown or annuity purchase with the rest. The confusion between DC and DB schemes.

I’ve not watched the show, but I think and @Silvertabby will confirm that a high percentage of people taking their LGPS take the maximum lump sum way before any ML program. People over estimate the affect of the tax on income and underestimate their life expectancy. If you’ve not got a need for the money take the annual pension. 

I’m doing AVC’s to build up a separate tax free pot. 

Thrugelmir

diddyflanker said:

Thrugelmir said:

If you take a lump sum what do you plan doing with it?  Big numbers are extremely attractive. Jam today or jam tomorrow. 

Yes. I'm pretty much set on taking the minimum lump sum but many colleagues I think are misinterpreting what they are seeing on the Money Show where Martin takes the 25% up front and then enters into either a drawdown or annuity purchase with the rest. The confusion between DC and DB schemes.

There's no confusion. It's the belief that the large lump sum will generate a better return than a borring ( but annually compounding) pension. The stock market of the past decade has raised expectations of future returns to unrealistic levels. 

Albermarle

Yes. It is a public sector scheme. I saw that for the lifetime allowance it is twenty times the pension figure hence my assumption that the Government would be 'buying' the pension on the cheap.

I think you might be mixing up two issues.

The 20X figure is an arbitrary one, and most people think it significantly undervalues DB pensions in terms of the LTA %. It also applies to private sector DB pensions. In reality is should be more like 35X.

It is totally unrelated to how the government funds your/public sector pensions, which is effectively by taxation receipts