OK not to take lump sum?

Albermarle

Pat38493 said:

Albermarle said:

To put it another way - the LTA is not calculated based on the ongoing SIPP balance, but the amount that you have drawn out crystallised in total (stated as a % at the time of withdrawal). If you choose not to crystallise all of it, the remainder will be effectively crystallised for you at 75 or when you die.

OP - As the post above explains well ( just needed one correction as above ) you have misunderstood how LTA works .You need to read through these posts, and research uncrystallised and crystallised pensions. Specifically for LTA, Benefit crystallisation events ( BCE's) etc

You also have to take into account that, if you are likely to be liable for IHT when you die, anything still in the pension is not included in the IHT calculation.

Although not usually quite so black and white, it can be a case of 40% IHT or 40% LTA.

So can you remind me - if there is uncrystallised funds in your pension at 75, are those taxed at 55% or 25%?  I guess you are saying it's 25% but you will end up at 40% when you pay income tax if you draw it out? (but I thought there was no tax free cash on funds in excess of LTA so wouldn't it then become 45% if you are on 20% marginal?).

If you take a lump sum , then the LTA charge is 55%
If you take income , it is 25% + your rate of income tax.
If you are a 20% taxpayer then you effectively pay 40% ( £100 minus 25% = £75 minus 20%= £60) 
If you are a 40% taxpayer then you effectively pay 55% ( same as with a lump sum)

There are various allowances for savings, capital gains etc beyond just ISA allowances - the first x amount is zero tax and then there is an allowance beyond that I think.  I haven't looked at it in detail recently but I think you can invest a reasonable amount in unsheltered assets and funds without paying any tax.  I think there is a starting rate for savings, then an allowance and then your capital gains tax allowance so if you use the right investments outside the pension you will be able to make a safe return on £250K for a few years without paying any tax and even then the CGT is 10% I guess if you are not earning

I think probably you are being a bit overoptimistic saying you could get away with paying no tax on £250K, but it not easy to calculate as you say . As a rule of thumb it has been said on the forum that you could have £100K /£125K invested outside an ISA /pension, and not pay any tax with careful management. However CGT and dividend allowances are being cut significantly , so I guess this figure will significantly reduce. Yes you can use ISA's , savings allowances etc, but only to a point.
Also note the phrase in bold. Managing an investment account/tax outside an ISA/pension would not be everyone's cup of tea and certainly needs more attention/time tax wise, than investments in a pension or ISA.

Pat38493

Albermarle said:

If you take income , it is 25% + your rate of income tax.
If you are a 20% taxpayer then you effectively pay 40% ( £100 minus 25% = £75 minus 20%= £60) 
If you are a 40% taxpayer then you effectively pay 55% ( same as with a lump sum)

I was actually meaning - what happens if you are 75 and the LTA forced assessment takes place if you have uncrystallised funds that are above the LTA?  I assume you have to immediately pay the tax in that tax year on that amount, even if you don't crystallise it?  Is it treated as a lump sum or income during that age 75 assessement?

EdSwippet

Pat38493 said:

Albermarle said:

If you take income , it is 25% + your rate of income tax.
If you are a 20% taxpayer then you effectively pay 40% ( £100 minus 25% = £75 minus 20%= £60) 
If you are a 40% taxpayer then you effectively pay 55% ( same as with a lump sum)

I was actually meaning - what happens if you are 75 and the LTA forced assessment takes place if you have uncrystallised funds that are above the LTA?  I assume you have to immediately pay the tax in that tax year on that amount, even if you don't crystallise it?  Is it treated as a lump sum or income during that age 75 assessement?

Neither. At age 75 you immediately pay the 25% LTA penalty. You then pay income tax at your marginal rate, 20%, 40% or whatever, when you later withdraw from the remaining 75%. In that sense then, the forced LTA test at age 75 is equivalent to your having crystallised the remaining uncrystallised part of your pension yourself, but left the balance undrawn.

(Although you only asked above about the uncrystallised amounts, remember that the really nasty part is where you have nominal growth in a previously crystallised drawdown pot. The excess here is also hit by a 25% LTA penalty.)

EdSwippet

Albermarle said:
Although not usually quite so black and white, it can be a case of 40% IHT or 40% LTA.

Worth noting though that inheritance tax can be mitigated by gifting and/or charitable donations. The same is not true of the LTA penalty.

Pat38493

EdSwippet said:Neither. At age 75 you immediately pay the 25% LTA penalty. You then pay income tax at your marginal rate, 20%, 40% or whatever, when you later withdraw from the remaining 75%. In that sense then, the forced LTA test at age 75 is equivalent to your having crystallised the remaining uncrystallised part of your pension yourself, but left the balance undrawn.

(Although you only asked above about the uncrystallised amounts, remember that the really nasty part is where you have nominal growth in a previously crystallised drawdown pot. The excess here is also hit by a 25% LTA penalty.)

OK understood but this is pretty much what I meant in the first part (I think).

But you are saying that oafter the age 75 25% LTA penalty is levied, you then are still entitled to the 25% tax free cash on crystallization and therefore the effective tax rate ends up 40% (assuming you are normally a 20% taxpayer)?  I had it in my head that tax free cash is only available on amounts up to the LTA threshold, but as usual it's probably more complicated than that.

Brenster

gravlax said:

OK thanks all. I will look at the points about crystallising and the LTA. But apart from the fact I'd hoped the SIPP would provide an annual income at 3/4 my marginal rate of tax - I can't see what to do with large amounts in excess of our modest needs for income if we are filling ISAs from other income and have no debts. What to do once it's taken out? 

I think many people in your healthy financial situation realise (too late alot of the time), that they could have retired earlier, and gained little benefit in working those final few years.
Good luck with whatever you decide.

EdSwippet

Pat38493 said:
But you are saying that after the age 75 25% LTA penalty is levied, you then are still entitled to the 25% tax free cash on crystallization and therefore the effective tax rate ends up 40% (assuming you are normally a 20% taxpayer)?  I had it in my head that tax free cash is only available on amounts up to the LTA threshold, but as usual it's probably more complicated than that.

I don't see how you reach that conclusion.

Let's say you have used 100% of your LTA and have £100k still uncrystallised. At age 75, the government instantly relieves you of £25k in LTA penalty. That leaves you £75k. Any withdrawals you later take from that £75k are then taxed at your marginal rate, 20% or 40%, (or 45%, or even 60%) for a net effective 40% or 55% (or 58.75%, or even 70%) overall rate.

And yes, once you reach the LTA you have no further tax-free cash. Viewed differently: below the LTA you get 25% tax-free and you pay tax on the rest; above the LTA, the government instead takes that entire 25% for itself and you still pay tax on the rest.

Pat38493

EdSwippet said:

Pat38493 said:
But you are saying that after the age 75 25% LTA penalty is levied, you then are still entitled to the 25% tax free cash on crystallization and therefore the effective tax rate ends up 40% (assuming you are normally a 20% taxpayer)?  I had it in my head that tax free cash is only available on amounts up to the LTA threshold, but as usual it's probably more complicated than that.

I don't see how you reach that conclusion.

Let's say you have used 100% of your LTA and have £100k still uncrystallised. At age 75, the government instantly relieves you of £25k in LTA penalty. That leaves you £75k. Any withdrawals you later take from that £75k are then taxed at your marginal rate, 20% or 40%, (or 45%, or even 60%) for a net effective 40% or 55% (or 58.75%, or even 70%) overall rate.

And yes, once you reach the LTA you have no further tax-free cash. Viewed differently: below the LTA you get 25% tax-free and you pay tax on the rest; above the LTA, the government instead takes that entire 25% for itself and you still pay tax on the rest.

OK yes now I’ve got it - I was just being dim.

EdSwippet

Pat38493 said:
The tipping point where this would work out better than just leaving it in the pension is a bit of a complicated question and probably requires deeper analysis or IFA advice.

For what it's worth, I did some modelling of this with a spreadsheet. I compared two cases: leaving money above the LTA untouched to compound tax-deferred, with a presumed 55% tax rate on eventual withdrawals: and taking the maximum PCLS and investing outside the pension, paying higher rate tax on dividends and capital gains (and excluding the separate allowances, so 32.5% on every dividend and 20% on all capital gain, both annually). Moderate annual investment growth, 7% nominal annually.

Even under those assumptions, it seemed that it would take me until around age 95 to 97 for the tax-deferred compounding in the SIPP to give the better result. And that's being conservative. In practice, I won't be paying 20% in capital gains tax every year, or perhaps even at all, since I hold passive tracker funds that I don't plan to sell any time soon (and certainly do not churn into the next hot thing, whatever that is!). I might still be around at age 95, but beating the LTA at that age would be a somewhat hollow victory.

Based on this, I took the decision to extract the full PCLS at the LTA, and reinvest the PCLS money into pretty much the exact same funds as it came out of from the SIPP. No regrets so far, though the increase in dividend tax since I did this is a bit of a blow. Fortunately, it doesn't shift the needle significantly.

The biggest planning bear with all of this is the government's continual, repeated, annual -- if not even more frequent than that -- and sometimes retroactive shifting of pension and investment goalposts.

Albermarle

with a presumed 55% tax rate on eventual withdrawals

So would it be correct that if a 40% rate was presumed, then the argument for taking out the PCLS would be weaker? Especially now with the reduction in CGT and Dividend allowances?

Also I presume it depends on how far over the LTA one is likely to be, would that also influence any decision ?