Avoiding 40% tax in SIPP drawdown

MallyGirl

NoMore said:

saucer said:

PropertyGuru_Wannabe said:

Getting to your point means that you are going to be financially secure so congratulations on that. Once you breach the 40% tax threshold on retirement income and reached the maximum lump sum allowance, there is no reason why you should put more funds into your pension. 

I don’t agree with this. I’m also likely to be paying higher rate tax on a lot of my SIPP and yet continue to contribute to it. Why? Any contribution now is to avoid 40% tax, and this will be then accessible subject to 25% tax free, if the rules don’t change. It is also protected from inheritance tax on the same basis. That and the fact that I can’t see a better alternative whatever way I model it. ISAs maybe but they’re only helpful after I’ve already been taxed out of income. 

As others have suggested, I’d relax and count yourself as very fortunate (as I do). 

The point PropreryGuru was making is that above the Lump Sum Allowance you don't get the 25% tax free anymore so that's a reason to not contribute more once you hit the amount to provide the LSA (just over a million in pension). You are advocating still contributing while LSA still available, which nobody is arguing with. Also Pensions are going to be no longer exempt from IHT soon.

Effectively without the 25% tax free, you are neutral if you draw at the same rate you contribute at. Without IHT protection and no LSA available, pensions have little advantage (at >£1 million) anymore if you are withdrawing at the same rate you contribute at.

OH will likely hit this point before he agrees to retire. He will then drop the contributions down a lot but not stop. He would still get the free 10% from his employer as long as he put in his 5%, plus they pass on their full employer NI saving (is it still 13.8%?) for salary sacrifice so although his contribution would be neutral the other stuff would still be worthwhile having 

Simes122

I find myself in a similar fortunate position.  My DB income makes me a marginal 42% taxpayer (I live in Scotland), but even if in England, I'd use up the £50k band.   My Forces pension lump sum, combined with my recent second pension lump sums will consume my Lump Sum Allowance in full, meaning I'll be tax neutral on removing the last parts of my DC pot.  On the one hand that hurts - that was taxable income regardless, that I didn't enjoy when I could have (and I now have a health issue).  But on the other, you've won vs the Taxman.  If you are paying HR tax in retirement, and possibly have consumed your LSA, you've won the tax game.  Ring the bell and enjoy a comfortable retirement!!!!

Bostonerimus1

I've thought about this question of "40% tax" in planning for a potential return to the UK from the US. I plan to defer both US social security and UK state pension to give me as many years as possible to move money from my tax deferred US DC pension accounts to the UK and US tax free ROTH DC pension accounts. Of course I must pay tax on the money that I transfer as it is counted as income, but by spreading it out over as many years as possible i can use the tax brackets efficiently. Then I should only have to pay UK tax on my UK state pension and US Social security, I'll have to work out US and UK tax on general investment account dividends, interest and capital gains, my Massachusetts state pension will be only taxable in the US and should be able to make tax free ROTH DC withdrawals.

The similarity with the situation in the UK is using tax bands efficiently and having a mix of taxable and tax free accounts to provide income. There are of course things like VCTs as well, but I'd use them carefully, particularly in retirement. If you have regular income sources like DB pensions and state pensions that put you into a higher tax bracket than you'd like you can always give to charity. Of course you'd be financially better off to keep the money yourself and just pay the tax, but giving to charity shouldn't be just about the bottomline.

fizio

Is there merit in entering the 40% tax bracket via drawdown in order to put the money into the same S&S but in an ISA instead - especially if you have no other funds to keep the ISA going? The money is not needed for day to day but am thinking its easier to manage spending/gifting/etc the mony from an ISA and avoiding all the potenti
issues with a pension such as tax/regulation changes etc? 

kinger101

fizio said:

Is there merit in entering the 40% tax bracket via drawdown in order to put the money into the same S&S but in an ISA instead - especially if you have no other funds to keep the ISA going? The money is not needed for day to day but am thinking its easier to manage spending/gifting/etc the mony from an ISA and avoiding all the potenti
issues with a pension such as tax/regulation changes etc? 

Depending on the size of the pension pot, there is a point at which you could just be cutting of your own nose to spite your face by not accessing some of it at the higher rate of tax.  Some pots originally set up to allow withdrawals at basic rate will inevitably grow to a point where higher amounts could be safely withdrawn due to a good sequence of returns at the start of retirement.

I wouldn't let the tax tail wag the lifestyle dog.  If I end up in that territory, it is because of good luck.

There a scenarios which could be constructed to support withdrawing at 40% an putting into an ISA.

e.g., (a) future income tax rates increasing beyond 40%
        (b) pot increasing to extent that withdrawal at 60% marginal rate would be sustainable.
        (c) inheritance of pension pot/benefits could also push sustainable withdrawal rate into a higher tax band of of the beneficiary.

I think realistically, I'd only consider it if I was pretty sure I'd be a higher-rate taxpayer for the remainder of my retirement.

feetupgininhand

Bostonerimus1 said:

I've thought about this question of "40% tax" in planning for a potential return to the UK from the US. I plan to defer both US social security and UK state pension to give me as many years as possible to move money from my tax deferred US DC pension accounts to the UK and US tax free ROTH DC pension accounts. Of course I must pay tax on the money that I transfer as it is counted as income, but by spreading it out over as many years as possible i can use the tax brackets efficiently. Then I should only have to pay UK tax on my UK state pension and US Social security, I'll have to work out US and UK tax on general investment account dividends, interest and capital gains, my Massachusetts state pension will be only taxable in the US and should be able to make tax free ROTH DC withdrawals.

The similarity with the situation in the UK is using tax bands efficiently and having a mix of taxable and tax free accounts to provide income. There are of course things like VCTs as well, but I'd use them carefully, particularly in retirement. If you have regular income sources like DB pensions and state pensions that put you into a higher tax bracket than you'd like you can always give to charity. Of course you'd be financially better off to keep the money yourself and just pay the tax, but giving to charity shouldn't be just about the bottomline.

I've considered deferring taking UK state pension so that I can drawdown in absence of 40% tax threshold for longer. But the number of years needed to do this and the amount of state pension lost doesn't seem to make sense. How many years of taking an increased state pension do you think are needed to make deferral "break even"?

I like the thinking of tax breaks given on VCTs to compensate for tax liability in drawdown, but probably a bit high risk for my pension pot. Anything similar to this with slightly lower risk profile?

I do give to charity, and that may increase further over time, but it isn't quite the same thing as reducing tax liability on income I would have available to me or mine

feetupgininhand

I guess the other option is, if possible, don't do anything drastic now that would preclude taking advantages in changes to e.g IHT, SIPP or income tax arrangements  in the future. Hard to imagine rules swinging to my advantage in the short term, but perhaps medium to long term.....

feetupgininhand

fizio said:

Is there merit in entering the 40% tax bracket via drawdown in order to put the money into the same S&S but in an ISA instead - especially if you have no other funds to keep the ISA going? The money is not needed for day to day but am thinking its easier to manage spending/gifting/etc the mony from an ISA and avoiding all the potenti
issues with a pension such as tax/regulation changes etc? 

Wouldn't there be an initial 40% hit on this? Unsure how long a typical investment would take to recover this loss

DRS1

feetupgininhand said:

I like the thinking of tax breaks given on VCTs to compensate for tax liability in drawdown, but probably a bit high risk for my pension pot. Anything similar to this with slightly lower risk profile?

No.  There is also EIS and SEIS but the risk profile there is higher (substantially so).

Bostonerimus1

feetupgininhand said:

Bostonerimus1 said:

I've thought about this question of "40% tax" in planning for a potential return to the UK from the US. I plan to defer both US social security and UK state pension to give me as many years as possible to move money from my tax deferred US DC pension accounts to the UK and US tax free ROTH DC pension accounts. Of course I must pay tax on the money that I transfer as it is counted as income, but by spreading it out over as many years as possible i can use the tax brackets efficiently. Then I should only have to pay UK tax on my UK state pension and US Social security, I'll have to work out US and UK tax on general investment account dividends, interest and capital gains, my Massachusetts state pension will be only taxable in the US and should be able to make tax free ROTH DC withdrawals.

The similarity with the situation in the UK is using tax bands efficiently and having a mix of taxable and tax free accounts to provide income. There are of course things like VCTs as well, but I'd use them carefully, particularly in retirement. If you have regular income sources like DB pensions and state pensions that put you into a higher tax bracket than you'd like you can always give to charity. Of course you'd be financially better off to keep the money yourself and just pay the tax, but giving to charity shouldn't be just about the bottomline.

I've considered deferring taking UK state pension so that I can drawdown in absence of 40% tax threshold for longer. But the number of years needed to do this and the amount of state pension lost doesn't seem to make sense. How many years of taking an increased state pension do you think are needed to make deferral "break even"?

I like the thinking of tax breaks given on VCTs to compensate for tax liability in drawdown, but probably a bit high risk for my pension pot. Anything similar to this with slightly lower risk profile?

I do give to charity, and that may increase further over time, but it isn't quite the same thing as reducing tax liability on income I would have available to me or mine

The crossover point when you defer something like a DB or state pension is generally around the average life expectancy for when you decide to take the pension. As with all such payments the longer you live the better you do. If you can afford to defer, the generous increase in payment amounts rapidly improves the total life time income once you live longer than average over taking the pension sooner and it might give you some tax planning opportunities. So do you feel lucky, or maybe healthy?