Poor commutation rate, but does that matter?

SMcGill

Hello folks

I’ve just had my pension forecast from USS and they offer an option to maximise my pension income by commuting my TFLS to pension. The thing is, it’s at a poor rate of just over 40. The other thing is, I don’t actually need the cash.  So I find myself tempted by the security of a higher guaranteed income but put off by the fact that it’s such poor value.

My DB+SP pensions all together will meet my basic living costs, and I have around £500k in cash and personal pensions. Maximising my USS income would mean an extra £700 per year but I’d lose the £28k TFLS. So I don’t see a definitely better option and wanted to ask you good people for your views?

Dazed_and_C0nfused

SMcGill said:

Hello folks

I’ve just had my pension forecast from USS and they offer an option to maximise my pension income by commuting my TFLS to pension. The thing is, it’s at a poor rate of just over 40. The other thing is, I don’t actually need the cash.  So I find myself tempted by the security of a higher guaranteed income but put off by the fact that it’s such poor value.

My DB+SP pensions all together will meet my basic living costs, and I have around £500k in cash and personal pensions. Maximising my USS income would mean an extra £700 per year but I’d lose the £28k TFLS. So I don’t see a definitely better option and wanted to ask you good people for your views?

Appreciate it's not a direct comparison and presumably the £700 will have an element of inflation protection but £28k simply stuck into a fixed rate ISA would return nearly double that in the short term.

And you retain your capital.

NedS

What sort of annuity rates could you get if you took the lump sum and purchased an annuity with comparable inflation linking? Would it be better than the commutation rate?

SMcGill

presumably the £700 will have an element of inflation protection

Yes, CPI up to 5% then half of CPI up to 10% so if I live through another couple of periods like this year I might appreciate the extra income.

@NedS thanks, that hadn’t crossed my mind! I have no idea what sort of annuity rate I might get at age 60 but as it would be a single life and for a smoker it might be worth looking into.

Marcon

SMcGill said:

presumably the £700 will have an element of inflation protection

Yes, CPI up to 5% then half of CPI up to 10% so if I live through another couple of periods like this year I might appreciate the extra income.

@NedS thanks, that hadn’t crossed my mind! I have no idea what sort of annuity rate I might get at age 60 but as it would be a single life and for a smoker it might be worth looking into.

If you take tax free cash from your scheme, it then becomes 'your' money and you purchase a (non-pension) annuity. The tax treatment of such an annuity is advantageous because part of it is treated as a return of capital. You can also specify whether you want it to be a lifetime annuity, or an annuity for a shorter, fixed period - so much more flexibility.

Audaxer

SMcGill said:

Hello folks

I’ve just had my pension forecast from USS and they offer an option to maximise my pension income by commuting my TFLS to pension. The thing is, it’s at a poor rate of just over 40. The other thing is, I don’t actually need the cash.  So I find myself tempted by the security of a higher guaranteed income but put off by the fact that it’s such poor value.

My DB+SP pensions all together will meet my basic living costs, and I have around £500k in cash and personal pensions. Maximising my USS income would mean an extra £700 per year but I’d lose the £28k TFLS. So I don’t see a definitely better option and wanted to ask you good people for your views?

If considering a lump sum, a commutation factor of 40 is fantastic, as usually anything over 20 is considered pretty good. I would definitely have taken the lump sum in that case unless I thought there was a really good chance of me having over a 40-year retirement!

EDIT: I would also add that when your DB and SPs use up your personal allowance, the extra £700 per year will be subject to tax, so in my opinion that would be more reason to take the lump sum.

Albermarle

If considering a lump sum, a commutation factor of 40 is fantastic, as usually anything over 20 is considered pretty good

It is so much higher than normally seen, you have to think there is maybe a mistake somewhere.

OP - Best to double check all the figures as 40 seems very high.

SMcGill

Perhaps I didn’t explain it well, the factor of 40 is to convert TFLS to pension, so £40 tax free buys £1 taxable pension. That’s dreadful surely, not good??

Audaxer

SMcGill said:

Perhaps I didn’t explain it well, the factor of 40 is to convert TFLS to pension, so £40 tax free buys £1 taxable pension. That’s dreadful surely, not good??

I agree that it's a poor deal if you want to take the full pension rather than a lower pension and lump sum. If the commutation figure of 40 is correct, it seems a no-brainer to take the lump sum. One way to look at it is would you buy an annuity for £28k that only gave you an income of £700 (2.5%) per year?  I can understand you wanting a higher pension, but you could take £700 plus inflation from the lump sum each year. Even if you kept the lump sum in savings, it would probably last throughout a long retirement.

However, it looks like you are well covered by DB, SP and £500k in other pensions and savings, so it will probably be okay whatever option you take.

NedS

SMcGill said:

Perhaps I didn’t explain it well, the factor of 40 is to convert TFLS to pension, so £40 tax free buys £1 taxable pension. That’s dreadful surely, not good??

It is not good, and has been deteriorating for a while. Looking back in my records, In Feb 2021 it was 29.7 and in Aug 2019 it was 17.6.

QrizB

SMcGill said:

Perhaps I didn’t explain it well, the factor of 40 is to convert TFLS to pension, so £40 tax free buys £1 taxable pension. That’s dreadful surely, not good??

Commutation factors are expressed in terms of how much lump sum you can exchange a pension for.

40:1 is good, 12:1 is poor.

The reason it seems like a poor deal to you is that you're doing *reverse* commutation, where you want the poorest factor you can get.