Tempted by an annuity - comments please

Mutton_Geoff

I'm fortunate to have just retired at 65 with a DB pension, SP about to be paid next month and a crystallised SIPP worth £1m. I've extracted all my TFC and leveraged that on property developments meaning I now live in a house with no mortgage.

My SIPP is self invested with medium to high risk tolerance since I have the stability of index linked DB (RPI capped 5%) and SP pensions as a backdrop. My intention was to drawdown the SIPP at a higher rate in the early years and slow down later in life and then exhaust the pot by a 1/n drawdown where n is 20 years 65-85 years old.

The DB & SP take me into the higher rate tax bracket so all SIPP drawdown is taxed at 40% or higher. My plan next year onwards is to cap regular income at £100k to avoid loss of personal tax code (ie 60%) then 45% tax.

As I'm eligible for an enhanced annuity, I have a range of quotes and am tempted by the level rate offer since this will fit my plan of higher income in the early years rather than everything escalating into the twilight of my life. Inflation can then deplete it's value for me.

Although I'm happy watching my SIPP, I am very tempted to derisk 60% of my SIPP investment by buying an annuity. Since tax rates are not scheduled to change until at least 2028, working forward inflation on my DB & SP, I could buy an level annuity at 7.5% paying £44k which means a gross guaranteed income of £90k now, £100k in 2028 and leaving £400k in my SIPP to be used as and when albeit with a high rate of income tax on any drawdown.

The question is whether to buy that annuity and lock in 7.5% and guaranteed income up to the loss of tax code/additional rate bands. The only downside I can see is massive growth in the SIPP (which would then lose almost 50% to tax in any case). I don't have any need to leave a legacy.

Plan A £100k income - keep SIPP & assume 5% inflation
DB £35k (2028 = £42k)
SP £11k (2028 = £14k)
SIPP £54k (5.4%) (2028 = £44k - unknown %)

Plan B £100k income - via £600k annuity
DB £35k (2028 = £42k)
SP £11k (2028 = £14k)
ANNUITY £44k (2028 = £44k)
SIPP £10k (2.5% drawdown) (2028 = £0k - unknown SIPP value)

I'm sorely tempted by buying some stability since any downside on a SIPP cost me money, the upside is skewed (ie taxed) by around 50%.

By comparison, the annuity quote offered 4.8% RPI linked but for reasons above, tempted by high ("jam today") level rate.

I really appreciate thoughts from the experts here.

Marcon

Mutton_Geoff said:

I'm fortunate to have just retired at 65 with a DB pension, SP about to be paid next month and a crystallised SIPP worth £1m. I've extracted all my TFC and leveraged that on property developments meaning I now live in a house with no mortgage.

My SIPP is self invested with medium to high risk tolerance since I have the stability of index linked DB (RPI capped 5%) and SP pensions as a backdrop. My intention was to drawdown the SIPP at a higher rate in the early years and slow down later in life and then exhaust the pot by a 1/n drawdown where n is 20 years 65-85 years old.

The DB & SP take me into the higher rate tax bracket so all SIPP drawdown is taxed at 40% or higher. My plan next year onwards is to cap regular income at £100k to avoid loss of personal tax code (ie 60%) then 45% tax.

As I'm eligible for an enhanced annuity, I have a range of quotes and am tempted by the level rate offer since this will fit my plan of higher income in the early years rather than everything escalating into the twilight of my life. Inflation can then deplete it's value for me.

Although I'm happy watching my SIPP, I am very tempted to derisk 60% of my SIPP investment by buying an annuity. Since tax rates are not scheduled to change until at least 2028, working forward inflation on my DB & SP, I could buy an level annuity at 7.5% paying £44k which means a gross guaranteed income of £90k now, £100k in 2028 and leaving £400k in my SIPP to be used as and when albeit with a high rate of income tax on any drawdown.

The question is whether to buy that annuity and lock in 7.5% and guaranteed income up to the loss of tax code/additional rate bands. The only downside I can see is massive growth in the SIPP (which would then lose almost 50% to tax in any case). I don't have any need to leave a legacy.

Plan A £100k income - keep SIPP & assume 5% inflation
DB £35k (2028 = £42k)
SP £11k (2028 = £14k)
SIPP £54k (5.4%) (2028 = £44k - unknown %)

Plan B £100k income - via £600k annuity
DB £35k (2028 = £42k)
SP £11k (2028 = £14k)
ANNUITY £44k (2028 = £44k)
SIPP £10k (2.5% drawdown) (2028 = £0k - unknown SIPP value)

I'm sorely tempted by buying some stability since any downside on a SIPP cost me money, the upside is skewed (ie taxed) by around 50%.

By comparison, the annuity quote offered 4.8% RPI linked but for reasons above, tempted by high ("jam today") level rate.

I really appreciate thoughts from the experts here.

With so much cash available, it's not expertise you need. It's deciding what matters to you most in terms of stability and security of income v volatily and the possibility of a huge hike in your SIPP value. But if you aren't worried about leaving a legacy and already have plenty of readily accessible funds, how much would such a hike really add to your happiness?

Mutton_Geoff

Thank you Marcon, hike in SIPP values would add nothing to happiness, I obtain that elsewhere (as they say money can't buy it). I enjoy avoiding tax (which is why my pensions worked out so well) and want to continue that into retirement, it's almost a sport with HMRC especially as they removed the LTA just before I pushed the button on first drawdown, I feel I entered retirement ahead on goals ;-)

Linton

Mutton_Geoff said:

Thank you Marcon, hike in SIPP values would add nothing to happiness, I obtain that elsewhere (as they say money can't buy it). I enjoy avoiding tax (which is why my pensions worked out so well) and want to continue that into retirement, it's almost a sport with HMRC especially as they removed the LTA just before I pushed the button on first drawdown, I feel I entered retirement ahead on goals ;-)

You can avoid more tax if you simply leave the money in your SIPP.  as well as avoiding income tax you, or your beneficaries, may also avoid IHT.

El_Torro

Looks like you're in a great position financially. Personally I think it makes a lot of sense to buy an annuity in your position, on top of your DB pension. How much to spend on your annuity is the tricky part.

Since your DB pension is capped at 5% increase and your annuity would be capped at 4.8% you're not protected if inflation is higher than this for a prolonged period of time. Unlikely to cause you much pain though I would keep at least a few hundred thousand in your SIPP to help protect from high inflation. Since you're not planning to spend more than £600k on your annuity it looks like you've got that covered already. 

I'd probably go with Plan B, just because it makes your life easier. Regardless of what you do it looks like you're not going to run out of money anyway.

Mutton_Geoff

More thinking on the topic, doing the maths, if I want to exchange 60% of my SIPP for a 7.5% level annuity, I can afford to risk doing this myself since 60% of 7.5% is 4.86% which is less than my planned 5% drawdown in the first decade in any case.

Bostonerimus1

With a DB and SP you have guaranteed income so do you really need more guaranteed income from an annuity? With an annuity the risk will be an early death and you not getting "value for money". Of course that's really immaterial to you, but your heirs might be worth considering. What you decide will depend on how much of your living expenses SP and DB cover and what you want to leave to your heirs. 

Qyburn

El_Torro said:

Since your DB pension is capped at 5% increase and your annuity would be capped at 4.8% you're not protected if inflation is higher than this for a prolonged period of time. 

Is the RPI linked annuity capped at 4.8%, or was 4.8% the annuity rate to get an RPI linked annuity?

Mutton_Geoff

Qyburn said:

El_Torro said:

Since your DB pension is capped at 5% increase and your annuity would be capped at 4.8% you're not protected if inflation is higher than this for a prolonged period of time. 

Is the RPI linked annuity capped at 4.8%, or was 4.8% the annuity rate to get an RPI linked annuity?

The annuity is not capped at 4.8%, that is the return on my money in the RPI linked quote for the first year. I didn't look into the detail of the RPI indexing since that isn't a product I am considering for the reasons Boston mentioned, ie my DB and SP are indexed.

My plan was to project those two forward to 2028 (earliest date tax bands will be reviewed) then take an annuity to cover the difference between £100k (loss of personal income/tax rate 60%) and the income from DB & SP. I estimate that to be £44k as the DB & SP currently pay £46k but will rise to c £56k over next 4 years assuming 5% RPI (which is my DB cap in any case).

I've since had more enhanced annuity quotes and looking at one from L&G that pays level 8.7% (ie £43.5k on £500k) with 5 year guarantee.

My alternative is to drain my own SIPP at £43.5k and even with no growth, would last 23 years (age 88) which is probably beyond my life expectancy. I self insure for almost everything else in life so this would be no different, I just enjoy bouncing the idea around the experts here. 

zagfles

Personally I wouldn't even consider a flat annuity. Inflation seems to be the biggest threat to your income, don't live under the illusion your DB pension is "inflation protected", it isn't, even with a 5% cap a decade like the 1970s would more than halve its value, so personally I'd look for something to hedge against that, eg an index linked annuity or buying index linked gilts or maybe a combination, eg a gilt ladder for the early retirement period on top of an IL annuity if you envisage spending more then. 

Using a flat annuity to front load your spend may achieve similar but it's totally random, you don't know what inflation will be over the next 20-30 years, using a flat annuity means your income will drop every year by random unknown amounts. You could win or lose vs index linked, but it's a risk.

We've lived under relatively low inflation over the past few decades so it's easy to dismiss the possibility of high, rampant, or even run away inflation. This isn't some theoretical possibility or one in a million event, it's happening right now in some countries, loads of countries even in Europe have had sky high inflation over the last few decades which has wiped out unprotected cash savings. If you've travelled a lot you'll probably have been to countries where you have to count the zeros on the notes, where 1000 of the currency unit will get you a beer or a meal. Those currencies never started out like that, they usually started with a currency unit similar to the dollar, pound or euro. Now imagine having to pay £1000 for a beer. We're only one numpty govt away from that. How much do you trust politicians?

Mutton_Geoff

I totally agree with the working Zagfles but the front loading is 100% part of my plan. I am 65 and have 10 years (max) of being able to pursue my current most active (and expensive) hobbies, by 75 my knees etc will not perform in the same way so I know my demand for income will fall as the years go by. I am already in an extremely fortunate position to be discussing pension income around £100k and on that basis, I don't think I will ever run out of money but my original question was whether an annuity at current high rates was a contender for a front loaded pension.

Worst case is I have 20 years left and that will consist of two decades of rabid inflation and WW3 but all we can ever plan on is based on the information we have today.