Pension commutation rate when taking higher lump sum from DB pension

Marcon

Pat38493 said:

DavidT67 said:

Pat38493 said:

Neilb1969 said:

DavidT67 said:

FYI, a commutation rate of 16 isn't that generous.  I have schemes offering between 28 and 22, dependent on how much earlier than the scheme normal retirement age the PCLS is taken. 

Typically does the commutation rate fall the nearer you get to a schemes normal retirement age? My wife has been offered a commutation rate of 31 times if taking her pension at 55. Is it a certainty that this rate will fall as she gets closer to the NRA of 60? Many thanks

There is another thread running at the 'mo where I was discussing a pension estimate I received in 2021 for retirement at age 57 in 2026 and at 65 in 2034.  The estimates they sent has a lump sum commutation rate of 40:1 for retirement at 57 and 28:1 at 65.   I was actually questioning these numbers because this seemed "too good to be true" but I never got a clear answer from Mercer at the time so I will just request another estimate soon and see what happens.  If that's really true, I can only imagine there must be something in the pension deeds of my scheme that forces them to provide this rate, but it's not mentioned in the current pension fact sheet.

I do not know if it's normal for the commutation rate to get worse for later retirement dates, and I can't really intuitively see why this would be the case although I haven't really put much thought to it.

If the actuaries have done their calculations fairly and correctly then the commutation rate on PCLS and reduction factor on early retirement annuity ensure that you receive the same overall amount between pension commencement and expected date of death, whether you retire early or at normal date and whether you take a PCLS or not.
At least this is true for my final salary and defined benefit schhemes.

I agree that it is their duty to attempt to ensure this.  However there seems to be a lot of subjectivity in the judgements involved there because if you peruse these boards you can see a wide range of early retirement factors mentioned with reductions per year from 4% to 6% per year or more, and a wide range of commutation factors ranging from 12 to about 40 mentioned.  

Indeed, but there are reasons for the variance other than 'subjectivity'. Without knowing full details of each scheme's benefit structure, you can't make valid comparisons. 

For example, commutation factors mentioned don't give full details of what is being given up - especially the increases to pensions in payment, which could be anything from the statutory minimum to a guarantee of well over the minimum. In the latter case, the 'value' of the pension exchanged for a lump sum is much higher than the former case, so the commutation factor would be considerably higher to reflect this.

Age is also important - factors can and often are age related. Normally when people quote what their scheme is offering, there's no mention of how old they are.

You also need to take into account the fact that some deeds have factors enshrined in them, rather than being reviewable - and factors which might have looked reasonable at the time an elderly deed was written might now be well out of line. If employer consent is needed to change the deed, they might not be too keen, given that they are the scheme's paymaster and will be footing the bill - and, as many an exasperated Finance Director has pointed out, members don't have to ask for early retirement, or commute part of their pension. Both are (normally) member options, and if the member doesn't think much of what's on offer, they don't have to take it.

Simes122

phynix_uk said:

As Macron correctly states, the commutation factor is set by the trustees based on actuarial calculations, it's designed to provide an element of flexibility to how you draw the benefit from the pension. Some people need a higher income, some a higher lump sum.

Unfortunately, whilst there are some extremely knowledgeable posters on this site, there appears to be a significant blind spot that I see missed time and time again.

Most people seem to believe that giving up the income means you'll lose out over the longer term due to inflationary increases BUT, they fail to calculate this fairly or take into account all aspects.

Both the drawn pension and deferred pension benefit from inflationary increases so the 'gap' over time is there but not on the level most calculate. In addition to this factor people forget to consider the increased lump sum. If you want to be fair then look at ALL aspects. 

In your example above, if you took the lower income, and stuck the additional lump sum of £7,558 into a savings account earning 4% it would also be increasing by £302.32 per year. 

Agreed.  The other factor is entirely dependent on the individuals marginal tax rate.  Annual pension being subject to tax, PCLS being tax free.  For a retired HR taxpayer in Scotland, tax is 42%, which is a big hit taking pension annually, but even a BR taxpayer in England is taking 80p net per pound vs 100p x their commutation rate tax free vis PCLS.  That alone gives the commuted to PCLS option a boost.

Marcon

Neilb1969 said:

DavidT67 said:

FYI, a commutation rate of 16 isn't that generous.  I have schemes offering between 28 and 22, dependent on how much earlier than the scheme normal retirement age the PCLS is taken. 

Typically does the commutation rate fall the nearer you get to a schemes normal retirement age? My wife has been offered a commutation rate of 31 times if taking her pension at 55. Is it a certainty that this rate will fall as she gets closer to the NRA of 60? Many thanks

You need to ask the scheme. Age related commutation rates are common but not a 'given'. 

Marcon

Pat38493 said:

Neilb1969 said:

DavidT67 said:

FYI, a commutation rate of 16 isn't that generous.  I have schemes offering between 28 and 22, dependent on how much earlier than the scheme normal retirement age the PCLS is taken. 

Typically does the commutation rate fall the nearer you get to a schemes normal retirement age? My wife has been offered a commutation rate of 31 times if taking her pension at 55. Is it a certainty that this rate will fall as she gets closer to the NRA of 60? Many thanks

There is another thread running at the 'mo where I was discussing a pension estimate I received in 2021 for retirement at age 57 in 2026 and at 65 in 2034.  The estimates they sent has a lump sum commutation rate of 40:1 for retirement at 57 and 28:1 at 65.   I was actually questioning these numbers because this seemed "too good to be true" but I never got a clear answer from Mercer at the time so I will just request another estimate soon and see what happens.  If that's really true, I can only imagine there must be something in the pension deeds of my scheme that forces them to provide this rate, but it's not mentioned in the current pension fact sheet.

I do not know if it's normal for the commutation rate to get worse for later retirement dates, and I can't really intuitively see why this would be the case although I haven't really put much thought to it.

Because the older you get, the fewer years of future pension income you are giving up when you commute i.e. the future value of what you're commuting reduces as you get older, so commutation factors typically reduce to reflect this.

RogerPensionGuy

dbs said:

Quote of one of my DB pensions is ;
Max lump sum £56,458 yearly pension £8,468
Min lump sum £48,900 yearly pension £8,938
I am gaining £7558 lump sum but losing £470 yearly pension so after 16 years I will be worse off (470 x 16 = £7,520) but will be less due to missing out of inflation increases.
Is this the correct method of working out the commutation rate would the rate would be 16:1

Just a quick reference and disregard any future pension PA increases due inflation possibly limited to maybe 5%

If paying 40% income tax on that £470 in year one, net cash that year is less than £300 PA

If say you plonked 7.5K in an ISA at 4% that's £300 PA.

Only time will tell best option, for a 20% income tax payers it looks a bit better.

Pension may have payments for spouse after death of pension member.

Marcon

RogerPensionGuy said:

dbs said:

Quote of one of my DB pensions is ;
Max lump sum £56,458 yearly pension £8,468
Min lump sum £48,900 yearly pension £8,938
I am gaining £7558 lump sum but losing £470 yearly pension so after 16 years I will be worse off (470 x 16 = £7,520) but will be less due to missing out of inflation increases.
Is this the correct method of working out the commutation rate would the rate would be 16:1

Just a quick reference and disregard any future pension PA increases due inflation possibly limited to maybe 5%

If paying 40% income tax on that £470 in year one, net cash that year is less than £300 PA

If say you plonked 7.5K in an ISA at 4% that's £300 PA.

Only time will tell best option, for a 20% income tax payers it looks a bit better.

Pension may have payments for spouse after death of pension member.

It's only the member's own pension which is commuted - any survivor pensions are calculated as if the member hadn't commuted any of their pension (unless the whole lot is commuted on grounds of triviality - sorry for the jargon!).

Andy_L

Marcon said:

RogerPensionGuy said:

dbs said:

Quote of one of my DB pensions is ;
Max lump sum £56,458 yearly pension £8,468
Min lump sum £48,900 yearly pension £8,938
I am gaining £7558 lump sum but losing £470 yearly pension so after 16 years I will be worse off (470 x 16 = £7,520) but will be less due to missing out of inflation increases.
Is this the correct method of working out the commutation rate would the rate would be 16:1

Just a quick reference and disregard any future pension PA increases due inflation possibly limited to maybe 5%

If paying 40% income tax on that £470 in year one, net cash that year is less than £300 PA

If say you plonked 7.5K in an ISA at 4% that's £300 PA.

Only time will tell best option, for a 20% income tax payers it looks a bit better.

Pension may have payments for spouse after death of pension member.

It's only the member's own pension which is commuted - any survivor pensions are calculated as if the member hadn't commuted any of their pension (unless the whole lot is commuted on grounds of triviality - sorry for the jargon!).

Is that scheme rule specific or overarching legislation?

Marcon

Andy_L said:

Marcon said:

RogerPensionGuy said:

dbs said:

Quote of one of my DB pensions is ;
Max lump sum £56,458 yearly pension £8,468
Min lump sum £48,900 yearly pension £8,938
I am gaining £7558 lump sum but losing £470 yearly pension so after 16 years I will be worse off (470 x 16 = £7,520) but will be less due to missing out of inflation increases.
Is this the correct method of working out the commutation rate would the rate would be 16:1

Just a quick reference and disregard any future pension PA increases due inflation possibly limited to maybe 5%

If paying 40% income tax on that £470 in year one, net cash that year is less than £300 PA

If say you plonked 7.5K in an ISA at 4% that's £300 PA.

Only time will tell best option, for a 20% income tax payers it looks a bit better.

Pension may have payments for spouse after death of pension member.

It's only the member's own pension which is commuted - any survivor pensions are calculated as if the member hadn't commuted any of their pension (unless the whole lot is commuted on grounds of triviality - sorry for the jargon!).

Is that scheme rule specific or overarching legislation?

Legislative requirement.

dbs

dbs said:

Quote of one of my DB pensions is ;
Max lump sum £56,458 yearly pension £8,468
Min lump sum £48,900 yearly pension £8,938
I am gaining £7558 lump sum but losing £470 yearly pension so after 16 years I will be worse off (470 x 16 = £7,520) but will be less due to missing out of inflation increases.
Is this the correct method of working out the commutation rate would the rate would be 16:1

Thanks for all the replies.

Made a mistake on above this is my min lump sum BRASS contributions £48,900. I have seen in another thread that the RPS is a 12:1 commutation which is not very good rate so will check in the morning with my provider.

My other pension provider Saint Gobain commutation rate for my age at 61 years old is pension accrued up to April 1997 is 28.91 and April 1997 to 2012 (Deferred since 2007 when I was made redundant) is 29.53 so both these rate are good.

hyubh

RogerPensionGuy said:

dbs said:

Quote of one of my DB pensions is ;
Max lump sum £56,458 yearly pension £8,468
Min lump sum £48,900 yearly pension £8,938
I am gaining £7558 lump sum but losing £470 yearly pension so after 16 years I will be worse off (470 x 16 = £7,520) but will be less due to missing out of inflation increases.
Is this the correct method of working out the commutation rate would the rate would be 16:1

Just a quick reference and disregard any future pension PA increases due inflation possibly limited to maybe 5%

If paying 40% income tax on that £470 in year one, net cash that year is less than £300 PA

If say you plonked 7.5K in an ISA at 4% that's £300 PA.

The present context is the RPS though? So pension increases that are uncapped CPI. Especially in that context, ignoring inflation proofing on the forgone pension but allowing for 4% (after inflation?) on the taken lump sum seems... a little distorted.