State Pension and Working

Steve_666_

I'm approaching eligibility for the state pension, for easy of calculation say £200 per week. Currently I do pay some tax in the 40% band, and have reduced this by significant additional pension contributions, but I'm not near the 40K limit.  I'm trying to figure out whether it is worth taking the state pension and increasing my gross voluntary pension contributions, by a similar amount.  The alternative is to defer for a few years and get the 1/9th of 1% increase, I can't see that its is worth taking the pension and paying 40% on it.

Steve_666_

For clarity, " 1/9th of 1% increase" is per week of deferment.

NedS

To clarify, you plan working past state pension age and your annual salary will make you a high rate tax payer. Your choices are:

1. Take state pension and pay 40% tax on it

2. Defer taking state pension in exchange for getting a higher state pension once retired

3. Take the state pension now and use it to increase pension contributions to avoid the 40% tax.

Number (1) seems like a non-starter and totally non-sensical.

By deferring (no 2), you'll be getting an extra 5.8% per year you defer, so you are effectively increasing your guaranteed index-linked income.

By taking it now and paying it into your current DC pension (no 3), you are essentially moving guaranteed index-linked income into variable non-guaranteed pension income with associated market investment risks (and rewards). Do you think you can achieve or beat a 5.8% index-linked return by investing it in your pension?

xylophone

By taking it now and paying it into your current DC pension (no 3), you are essentially moving guaranteed index-linked income into variable non-guaranteed pension income with associated market investment risks (and rewards). Do you think you can achieve or beat a 5.8% index-linked return by investing it in your pension?

But he will gain tax relief on his contributions - let's suppose he didn't invest it but chose to leave it in cash and regarded the tax relief as quasi interest - that's some return!

And if he chooses to invest, he's taking no more risk than he is currently taking on his existing DC pension contributions/investments?

And when he draws his DC pension, he has the option of the PCLS.

And if he has a spouse/other beneficiaries, there is the possibility of inheritance.

I think that if I had this choice (and especially if I were not to be a higher rate tax payer in retirement, I'd go for option 3.

Audaxer

Steve_666_ said:

I'm approaching eligibility for the state pension, for easy of calculation say £200 per week. Currently I do pay some tax in the 40% band, and have reduced this by significant additional pension contributions, but I'm not near the 40K limit.  I'm trying to figure out whether it is worth taking the state pension and increasing my gross voluntary pension contributions, by a similar amount.  The alternative is to defer for a few years and get the 1/9th of 1% increase, I can't see that its is worth taking the pension and paying 40% on it.

If you defer it, you get an extra 5.8% each year for deferral. For those that don't need to take the State Pension immediately I think deferral for a year or two at the most is a good deal if you want extra guaranteed inflation linked income. If I was going to be liable to pay 40% tax on it, I'd definitely consider deferring. 

Albermarle

xylophone said:

By taking it now and paying it into your current DC pension (no 3), you are essentially moving guaranteed index-linked income into variable non-guaranteed pension income with associated market investment risks (and rewards). Do you think you can achieve or beat a 5.8% index-linked return by investing it in your pension?

But he will gain tax relief on his contributions - let's suppose he didn't invest it but chose to leave it in cash and regarded the tax relief as quasi interest - that's some return!

And if he chooses to invest, he's taking no more risk than he is currently taking on his existing DC pension contributions/investments?

And when he draws his DC pension, he has the option of the PCLS.

And if he has a spouse/other beneficiaries, there is the possibility of inheritance.

I think that if I had this choice (and especially if I were not to be a higher rate tax payer in retirement, I'd go for option 3.

If the OP has a large DC pension pot, subject to the vagaries of the market, and no DB/final salary pension, then having more guaranteed , triple locked  guaranteed state pension may not be such a bad idea.
However as you say there are a number of factors at play.

Alice_Holt

Albermarle said:

xylophone said:

By taking it now and paying it into your current DC pension (no 3), you are essentially moving guaranteed index-linked income into variable non-guaranteed pension income with associated market investment risks (and rewards). Do you think you can achieve or beat a 5.8% index-linked return by investing it in your pension?

But he will gain tax relief on his contributions - let's suppose he didn't invest it but chose to leave it in cash and regarded the tax relief as quasi interest - that's some return!

And if he chooses to invest, he's taking no more risk than he is currently taking on his existing DC pension contributions/investments?

And when he draws his DC pension, he has the option of the PCLS.

And if he has a spouse/other beneficiaries, there is the possibility of inheritance.

I think that if I had this choice (and especially if I were not to be a higher rate tax payer in retirement, I'd go for option 3.

If the OP has a large DC pension pot, subject to the vagaries of the market, and no DB/final salary pension, then having more guaranteed , triple locked  guaranteed state pension may not be such a bad idea.
However as you say there are a number of factors at play.

     I think the 5.8% deferral element of SP doesn't come under the triple lock guarantee. It's uprated at CPI (currently, of course, beneficial).

     When I looked at deferment - payback time for a 20% taxpayer was c.17 years.  For a 40% taxpayer (but basic rate when drawing the deferred SP) it was more like c.12 years.   

https://www.which.co.uk/money/pensions-and-retirement/state-pension/deferring-your-state-pension-ahr9w8p0f87w

Steve_666_

Hi Ned its not really  a straight comparison as in "can I beat 5.8% index-linked". If I take the pension (say 200 pw), for 2 years and sacrifice the same amount into my pension, then I will have increased my pot by 104x200, £20400. The deferment will give me an uplift of 10.5% per week, £22, a bit over a 1k a year. There are so many unanswered questions, will the govt honor the triple lock, what rate of inflation should we used, what rate of return should I use on the pot. Tried to model this with excel, using 4% returns, 2% inflation, putting 25% into an ISA to avoid tax. What I'm seeing is that the point where the pot runs out when paying the same net using drawdown as the pension is beyond 20 years when inflation is low. Soon as I increase inflation that point moves quick lower, show the benefit of the index link.

Dazed_and_C0nfused

If I take the pension (say 200 pw), for 2 years and sacrifice the same amount into my pension, then I will have increased my pot by 104x200, £20400.

Don't forget you will receive £200/week from DWP but your other taxable income is likely to drop by £80/week to account for the tax due on the State Pension. 

And contributing to a pension will mitigate the tax impact but you will still lose 10% in tax even after the tax relief due in the extra pension contributions (assuming you pay the effective net State Pension amount into a relief at source pension).

Steve_666_

HI Dazed, the idea was to contribute an additional 200 pw gross to the pension (120 will come from the salary and 80 from the tax), reducing my taxable income by the same. In effect, getting 200 from the govt gross, paying the £80 tax due on the pension from my salary. My take home goes down £200 and the pension replaces it. 

Dazed_and_C0nfused

Steve_666_ said:

HI Dazed, the idea was to contribute an additional 200 pw gross to the pension (120 will come from the salary and 80 from the tax), reducing my taxable income by the same. In effect, getting 200 from the govt gross, paying the £80 tax due on the pension from my salary. My take home goes down £200 and the pension replaces it. 

If you contribute £120 using relief at source then the pension company will add £30 in basic rate tax relief, nothing more than that.

And relief at source contributions do not reduce you're taxable income.  Your basic rate tax band will be increased by £150 (the gross contribution) which could mean you pay £30 less personal income tax (assuming you were paying sufficient higher rate tax).

So the £200 from DWP has become £180 (£150 in pension + £30 less income tax you pay)