Added Pension vs. AVC

hang_on_there_half_a_mo

I am in a DB scheme, aged 55, with a mix of final salary and now career average. I have some AVC rumbling along, and a personal pension pot from three decades ago, now worth 100k, and another I added to in recent years worth 30k. I also have cash and equity savings. I mention these because they are my 'flexible' pension pots. I am seeing on this site a number of posts and I am now thinking about cancelling my current AVCs and instead buying additional pension by contributing a lump sum, because the rate of return on the lump sum contribution to pension is really good, over 7%. I appreciate I might not get all that if I retire early. But for concrete figures, I can tell you that for someone aged 55 today, a lump sum is asked for which is 12 times greater than the annual pension to be gained, which is an 8% return, for life, isn't it? For someone aged 60, the lump sum is a bit bigger, 13 times the annual projected payment. Either way, these seem very good value. AM I MISSING SOMETHING? Yes, my AVC builds up a pot which may grow, and I have more flexibility about what I do with it, but I've been led to expect to take an annual income out my pot of only around 4% of the value of the pot... half as much as my DB pension would pay me, for my lifetime, for adding to it instead.
The only upside of the DC pot is that either I'm taking less money out in order that the capital will be protected to some extent, perhaps to leave to dependents, or if I don't use it at all, it would be outside my estate for inheritance planning altogether... but I've already got some DC pension pots (mentioned above) that I chose not to use and I am not sure I want to add yet more down that route.
Any thoughts?
To me, saving £12k now to get £1k pa on retirement as part of my main DB pension seems a lot better value than saving £12k into one of my DC pension pots, and worth the lack of flexibility. 

NedS

You are in a similar position to me, in that you have both DB and DC assets, and the ability to contribute to both, and you are struggling to decide which represents better value for money. As you have identified, both have advantages and disadvantages. I am of the view it is best to have a mixture of both. Ideally I would like to have sufficient index-linked DB (and State Pension) to cover my essential outgoings for the rest of my time, with enough DC to cover the luxuries in life and the irregular big spends which cannot be covered by regular monthly income (new boiler, new car, round the world cruise etc)

Getting on to your question - a downside of purchasing a large amount of added DB pension via lump sum is that you are paying for it out of taxed income (savings). It would be better if you could pay for it out of monthly contributions from your salary (thus receiving tax relief) and instead live on your savings for a couple years.

You can also make contributions to a DC pension (such as a SIPP) from taxed income and automatically receive the tax relief. So best to prioritise DB conts from your salary and then any further DC conts into a SIPP if you can.

hang_on_there_half_a_mo

oh, and those quotes are before tax relief.

dunstonh

AVCs are largely obsolete nowadays unless you have a scheme where the employer matches the contribution to the AVC (very rare now) or where the AVC can be used by the main scheme for payment of the PCLS (not very common but happens often enough that you should check it)

The requirement to offer an AVC was removed in 2006.   So, most AVCs are still using pre 2006 pension products that are expensive by modern standards and lack flexibility.      Most SIPPs and personal pensions and even the robo-providers come in cheaper than AVCs.

Some government-backed DB schemes have additional hybrid pensions that are very good value for the pension holder (not the taxpayer) but don't have the flexibility of DC pensions.   So, sometimes you need to mix and match or find out which best fits your objectives.

hugheskevi

NedS said:

a downside of purchasing a large amount of added DB pension via lump sum is that you are paying for it out of taxed income (savings). It would be better if you could pay for it out of monthly contributions from your salary (thus receiving tax relief) and instead live on your savings for a couple years.

You still get tax relief on lump sum purchases, you just have to claim it direct from HMRC. It may mean funding the full purchase up front and then waiting for a refund, and can be problematic as it is an unusual transaction for HMRC to deal with, so monthly purchases through net pay are administratively more

 convenient.

NedS

hugheskevi said:

NedS said:

a downside of purchasing a large amount of added DB pension via lump sum is that you are paying for it out of taxed income (savings). It would be better if you could pay for it out of monthly contributions from your salary (thus receiving tax relief) and instead live on your savings for a couple years.

You still get tax relief on lump sum purchases, you just have to claim it direct from HMRC. It may mean funding the full purchase up front and then waiting for a refund, and can be problematic as it is s tested transaction for HMRC to deal with, so monthly purchases through net pay are administratively more

 convenient.

Would you get tax relief on the whole lump sum though if it were very large? Or only a refund on the amount of tax you'd paid? For example, if someone earned £30k per year and purchased added pension for a lump sum price of £50k. Whereas if they spread that purchase over 3-5 years, they could probably get tax relief on the full amount. Or have I misunderstood?

Dazed_and_C0nfused

NedS said:

hugheskevi said:

NedS said:

a downside of purchasing a large amount of added DB pension via lump sum is that you are paying for it out of taxed income (savings). It would be better if you could pay for it out of monthly contributions from your salary (thus receiving tax relief) and instead live on your savings for a couple years.

You still get tax relief on lump sum purchases, you just have to claim it direct from HMRC. It may mean funding the full purchase up front and then waiting for a refund, and can be problematic as it is s tested transaction for HMRC to deal with, so monthly purchases through net pay are administratively more

 convenient.

Would you get tax relief on the whole lump sum though if it were very large? Or only a refund on the amount of tax you'd paid? For example, if someone earned £30k per year and purchased added pension for a lump sum price of £50k. Whereas if they spread that purchase over 3-5 years, they could probably get tax relief on the full amount. Or have I misunderstood?

No, you are correct.

Earning £30k and contributing £50k would limit the amount on which tax relief would be due anyway but if you earned £30k and contributed £30k via a lump sum payment to the DB scheme administrator the tax relief is limited to the income tax you have paid in the first place.  And has to be claimed from HMRC by the employee.

So on £30k that might be £3,484.

Whereas if you contributed £30k via RAS it would mean a payment of £24k with £6k in tax relief being added by the pension company.

Less tax relief with the non RAS lump sum payment but it could be argued the DB contribution is worth more in pension benefits.

hugheskevi

NedS said:

hugheskevi said:

NedS said:

a downside of purchasing a large amount of added DB pension via lump sum is that you are paying for it out of taxed income (savings). It would be better if you could pay for it out of monthly contributions from your salary (thus receiving tax relief) and instead live on your savings for a couple years.

You still get tax relief on lump sum purchases, you just have to claim it direct from HMRC. It may mean funding the full purchase up front and then waiting for a refund, and can be problematic as it is s tested transaction for HMRC to deal with, so monthly purchases through net pay are administratively more

 convenient.

Would you get tax relief on the whole lump sum though if it were very large? Or only a refund on the amount of tax you'd paid? For example, if someone earned £30k per year and purchased added pension for a lump sum price of £50k. Whereas if they spread that purchase over 3-5 years, they could probably get tax relief on the full amount. Or have I misunderstood?

As D&C says above. Lump sum would work the same as pay via monthly contributions using net pay once all relief had been claimed. Either method would result in less tax relief than RAS if taxable income ends up value Personal Allowance.

gtat

dunstonh said:

AVCs are largely obsolete nowadays unless you have a scheme where the employer matches the contribution to the AVC (very rare now) or where the AVC can be used by the main scheme for payment of the PCLS (not very common but happens often enough that you should check it)

Hi, could someone explain what this means and how it works? Thanks

Dazed_and_C0nfused

gtat said:

dunstonh said:

AVCs are largely obsolete nowadays unless you have a scheme where the employer matches the contribution to the AVC (very rare now) or where the AVC can be used by the main scheme for payment of the PCLS (not very common but happens often enough that you should check it)

Hi, could someone explain what this means and how it works? Thanks

I think it's what LGPS offer.  See tax free cash bit here,

https://www.lgpsmember.org/your-pension/planning/paying-extra/additional-voluntary-contributions/