Which platform for separate crystallised and uncrystallised pots?

Pat38493

TheTelltaleChart said:

michaels said:

TheTelltaleChart said:

michaels said:

TheTelltaleChart said:

michaels said:

But with separate pots you might have high growth assets in the uncrystallised pot so the amount that can be taken tax free in future is increasing and safer assets in the crystallised pot so the amount that will be subject to IT does not grow as much.

I do agree with the general idea that there may be an advantage in investing crystallised and uncrystallised pots differently.

However, this isn't a good argument for the idea. If you really knew that the "high growth" assets would outperform the "safer" assets, then you'd invest 100% of both pots in the "high growth" assets. In reality, there is always a risk that they will underperform. You need an argument for why you'd want to take more risk with a tax-free pot than with a taxable pot.

For me the 'low risk' crystallised pot is for spending in the bridge period between retirement and state pension age so with a shortish time horizon is better in a less volatile and therefore lower average return investments whereas the uncrystallised is for longer term higher volatility and hopefully higher growth.  Of course no one can guarantee returns but historical experience is that equities outperform over longer time horizons.

OK, it makes perfect sense to use less volatile assets for the shorter time horizon, and more volatile but hopefully higher return assets for the longer horizon. But what I still don't see is why you're using the crystallised pot for the short term and uncrystallised for the long term. Since you could equally well make short term withdrawals from the uncrystallised pot (via UFPLS).

You would think so - but then student finance rears its ugly head, TFLS does not count as income for student finance parental household income calcs (nor therefore uni bursaries) whereas UFPLS (including the tax free component) does

Ah, I didn't know that. That's a reason to avoid UFPLS. I agree that this would make separate crystallised/uncrystallised pots better for you, though the difference is probably marginal, at least if you use short cycles (of partially crystallising (taking the TFLS), gradually drawing all the crystallised pot as income, and repeating).

Pat38493 said:

Also the tax free element of the withdrawal means that you get slightly more advantage of investment growth over the long term.

All other things equal, the priority order for keeping your highest growth assets
1) ISA
2) Uncrystallized pension
3) Crystallized pension
4) GIA

However as mentioned above this goes both ways - you are more harmed by a bad sequence of returns than if you were in a notional split.  Also - following point 1 can be risky if you don't have much in ISAs to cover your medium term needs, so this assumes that you can manage your drawdown to avoid tax spikes due to bad sequence of return.  I suspect the real world impact on most people is minimal

I disagree. Other things being equal, all of 1)-3) are exactly equivalent. None of them incur any taxes on investment income/gains; only 4) does, which is why it's lower priority.

Why do say there are no taxes on income/gains in a pension? Suppose you have £100k in a crystallised pension, and it doubles (due to investment income/gains) to £200k. Won't you pay more tax when you withdraw it? In a sense, yes. But if your tax rate on withdrawals is 20%, then the £100k pot was really only worth £80k to you. The other £20k is the UK Treasury's money, which you are (bizarrely enough) investing on their behalf. The £200k pot is, net of 20% tax, worth £160k to you (and £40k to the Treasury), so you have doubled your capital, i.e. you're got 100% of the investment return, with no losses to tax. (The fact that you're also doubled the Treasury's capital is irrelevant.)

Things that can make 1)-3) unequal include:

a) differences in applicable tax rates. E.g. will you be in different tax bands in different tax years? That can affect how, when and how much it is best to draw from pensions. michaels's example of student finance assessing parental income in a surprising way is in effect a case of a different tax rate applying.

b) if you will want to buy an annuity with some capital eventually, you may be better off leaving it inside a pension in the meantime (where better annuity rates are available).

I posted a thread about this a while back with a worked example showing that if you get a better growth on your high growth pot, you are better off having it in a crytallised pot because in the notional split pot, the percentage of your pot which is non crystallised is a fixed number (until you take money out) - therefore when you made a large gain on your high growth assets, the benefit of that gain is spread out over your crystallised and non crystallised pension, and consequently your tax free cash available is less than it would have been if the uncrystallised money and equities are in a dedicated account.

On the other hand, if equites plunged by 40%, your available TFC available amount doesn't go down by 40% if the split is notional even if you theoretically have your uncrystallised money in 100% equities.

I will try to find the thread later.  Someone pointed out at the time that the other solution to this is to take out the tax free cash immediately and put it in an ISA.

MK62

True, but if your platform uses a notional split, then perhaps it's best to not think in terms of crystallised and uncrystallised "pots".......even if it is more natural to do that.

Another consideration is that in the two separate pots scenario, if you needed some cash, you are either forced to sell your high growth assets from the uncrystallised pot, if you want it tax free, or else sell from the crystallised pot and pay tax.......in the notional split you can sell either asset (or both) and take tax free cash (assuming you still split your assets the same way.....the notional split means there's not really the same motivation to do so)

So in the end there are pros and cons with both approaches.......and you can make cases in support of either.

TheTelltaleChart

Pat38493 said:

I posted a thread about this a while back with a worked example showing that if you get a better growth on your high growth pot, you are better off having it in a crytallised pot because in the notional split pot, the percentage of your pot which is non crystallised is a fixed number (until you take money out) - therefore when you made a large gain on your high growth assets, the benefit of that gain is spread out over your crystallised and non crystallised pension, and consequently your tax free cash available is less than it would have been if the uncrystallised money and equities are in a dedicated account.

On the other hand, if equites plunged by 40%, your available TFC available amount doesn't go down by 40% if the split is notional even if you theoretically have your uncrystallised money in 100% equities.

Sorry, but this is just wrong. What matters is not how much tax free cash you get, but your net return after all taxes. Looking at the latter, there is no difference between having higher return from the crystallised or from the non-crystallised pot.

E.g. suppose you will pay 20% tax on all taxable withdrawals (i.e. everything except the tax free cash).

Suppose you have a £170k crystallised pot and a £160k uncrystallised pot. I picked those numbers because these 2 pots have the same net value, viz. £136k each (because you will pay £34k tax at 20% on the crystallised pot; and from the uncrystallised pot, you'll take £40k tax free and pay £24k tax at 20% on the remaining £120k).

You can either:

1) invest the crystallised pot in higher return assets, uncrystallised in lower return.

To keep it simple, suppose the higher return assets double in value, and the lower return assets just retain their value.

The crystallised pot is now worth £340k before tax, the uncrystallised is still £160k. The net values of the pots are now: crystallised £272k (after paying £68k tax at 20%), uncrystallised £136k (unchanged). Total net value is £408k.

or:

2) invest the crystallised pot in lower return assets, uncrystallised in higher return.

Again, suppose the higher return assets double in value.

The crystallised pot in still worth £170k before tax, the uncrystallised is up to £320k. The net values of the pots are now: crystallised £136k (unchanged), uncrystallised £272k (after taking £80k tax free, you pay £48k tax at 20% on the remaining £240k). Total net value is £408k.

So there is indeed more tax free cash in option 2) than in option 1), but that's irrelevant, because your net return after all taxes in identical in both cases.

ian16527

Vanguard have split accounts if you are a user of Vanguard funds.

Pat38493

TheTelltaleChart said:

Pat38493 said:

I posted a thread about this a while back with a worked example showing that if you get a better growth on your high growth pot, you are better off having it in a crytallised pot because in the notional split pot, the percentage of your pot which is non crystallised is a fixed number (until you take money out) - therefore when you made a large gain on your high growth assets, the benefit of that gain is spread out over your crystallised and non crystallised pension, and consequently your tax free cash available is less than it would have been if the uncrystallised money and equities are in a dedicated account.

On the other hand, if equites plunged by 40%, your available TFC available amount doesn't go down by 40% if the split is notional even if you theoretically have your uncrystallised money in 100% equities.

Sorry, but this is just wrong. What matters is not how much tax free cash you get, but your net return after all taxes. Looking at the latter, there is no difference between having higher return from the crystallised or from the non-crystallised pot.

E.g. suppose you will pay 20% tax on all taxable withdrawals (i.e. everything except the tax free cash).

Suppose you have a £170k crystallised pot and a £160k uncrystallised pot. I picked those numbers because these 2 pots have the same net value, viz. £136k each (because you will pay £34k tax at 20% on the crystallised pot; and from the uncrystallised pot, you'll take £40k tax free and pay £24k tax at 20% on the remaining £120k).

You can either:

1) invest the crystallised pot in higher return assets, uncrystallised in lower return.

To keep it simple, suppose the higher return assets double in value, and the lower return assets just retain their value.

The crystallised pot is now worth £340k before tax, the uncrystallised is still £160k. The net values of the pots are now: crystallised £272k (after paying £68k tax at 20%), uncrystallised £136k (unchanged). Total net value is £408k.

or:

2) invest the crystallised pot in lower return assets, uncrystallised in higher return.

Again, suppose the higher return assets double in value.

The crystallised pot in still worth £170k before tax, the uncrystallised is up to £320k. The net values of the pots are now: crystallised £136k (unchanged), uncrystallised £272k (after taking £80k tax free, you pay £48k tax at 20% on the remaining £240k). Total net value is £408k.

So there is indeed more tax free cash in option 2) than in option 1), but that's irrelevant, because your net return after all taxes in identical in both cases.

This is the original discussion
https://forums.moneysavingexpert.com/discussion/6578314/considering-partial-transfer-of-uncrystalised-employer-pension-to-interactive-investor/p1

Your example is comparing which type of assets you invest in which pot.  I am discussing whether the split between the 2 pots is real or notional.

You need to run an example 3 where the split between the pots is based on a constant % number rather than an amount in pounds - this is how Interactive Investor calculates the values.  You have 48.484848% uncrystallised.  Then apply the growth figures and recalculate the 48.484848% across the entire pension.  

You end up with more money in an non taxable situation (if the growth of the uncrystallised is a lot higher) when the pots are tracked separately.  

Another way to see this is that per definition, uncrystallised pensions are worth more to you than crystallised ones in total.  Interactive Investor are effectievely applying your average growth rate across both parts.

As I said in my first comment though - the real world difference to most people is likely to be minimal.

TheTelltaleChart

Pat38493 said:

Your example is comparing which type of assets you invest in which pot.  I am discussing whether the split between the 2 pots is real or notional.

You need to run an example 3 where the split between the pots is based on a constant % number rather than an amount in pounds - this is how Interactive Investor calculates the values.  You have 48.484848% uncrystallised.  Then apply the growth figures and recalculate the 48.484848% across the entire pension.

OK, let's try that:

3) £330k pot, of which 52.52525252% is crystallised, 48.48484848% is uncrystallised.

We invest 50% of the mixed pot in high return assets, 50% in low return assets; i.e. £165k in each.

The high return assets double in value (to £330k), the low return assets just retain their value. Total pot is now £495k.

At those constant percentages, we now have £255k crystallised and £240k uncrystallised.

The £255k crystallised pot is worth £204k net (after paying £51k tax at 20%). The £240k uncrystallised pot is worth £204k net (after taking £60k tax free, and paying £36k tax at 20% on the remaining £180k). Total net value is £408k.

That's exactly the same net value in 3) as in 1) and in 2). Three identical results.

Pat38493 said:

This is the original discussion
https://forums.moneysavingexpert.com/discussion/6578314/considering-partial-transfer-of-uncrystalised-employer-pension-to-interactive-investor/p1

Thanks. Hopefully this is the relevant calculation:

Let’s take an example.

Aegon pension 100% equities started at 100K and grows by 20%
II pension in drawdown £100K invested is in cash and earns zero interest (to hopefully make the maths easy).

TFC available grows from 25K to £30K.

On the other hand, if I had merged the Aegon pension into II,  the total amount is the same - £220K, but my TFC available only went up to £27500 (50% of £220K x 25%).

The difference here is because you're not investing in the same way in the real and nominal split cases. £100k crystallised and £100k uncrystallised are not worth the same amount. The uncrystallised pot is worth more, because less tax will be payable on it.

In the nominal split case, you're investing 50% in each of the higher and lower return assets. In the real split case, you're investing more than 50% in the higher return assets, because the uncrystallised pot is bigger (allowing for tax) than the crystallised pot. You've only got a higher return by taking more risk.

How much bigger the uncrystallised pot is than the crystallised pot depends on your tax rate. E.g. if you pay tax at 20%, then a £100k crystallised pot has a net value of £80k, but an uncrystallised £100k pot has a net value of £85k, so you have 51.51515151% uncrystallised, and in the real split case you are investing 51.51515151% (not 50%) in higher return assets.

Other tax rates will give different figures, but the effect is similar.

Pat38493

TheTelltaleChart said:

Pat38493 said:

Your example is comparing which type of assets you invest in which pot.  I am discussing whether the split between the 2 pots is real or notional.

You need to run an example 3 where the split between the pots is based on a constant % number rather than an amount in pounds - this is how Interactive Investor calculates the values.  You have 48.484848% uncrystallised.  Then apply the growth figures and recalculate the 48.484848% across the entire pension.

OK, let's try that:

3) £330k pot, of which 52.52525252% is crystallised, 48.48484848% is uncrystallised.

We invest 50% of the mixed pot in high return assets, 50% in low return assets; i.e. £165k in each.

The high return assets double in value (to £330k), the low return assets just retain their value. Total pot is now £495k.

At those constant percentages, we now have £255k crystallised and £240k uncrystallised.

The £255k crystallised pot is worth £204k net (after paying £51k tax at 20%). The £240k uncrystallised pot is worth £204k net (after taking £60k tax free, and paying £36k tax at 20% on the remaining £180k). Total net value is £408k.

That's exactly the same net value in 3) as in 1) and in 2). Three identical results.

Pat38493 said:

This is the original discussion
https://forums.moneysavingexpert.com/discussion/6578314/considering-partial-transfer-of-uncrystalised-employer-pension-to-interactive-investor/p1

Thanks. Hopefully this is the relevant calculation:

Let’s take an example.

Aegon pension 100% equities started at 100K and grows by 20%
II pension in drawdown £100K invested is in cash and earns zero interest (to hopefully make the maths easy).

TFC available grows from 25K to £30K.

On the other hand, if I had merged the Aegon pension into II,  the total amount is the same - £220K, but my TFC available only went up to £27500 (50% of £220K x 25%).

The difference here is because you're not investing in the same way in the real and nominal split cases. £100k crystallised and £100k uncrystallised are not worth the same amount. The uncrystallised pot is worth more, because less tax will be payable on it.

In the nominal split case, you're investing 50% in each of the higher and lower return assets. In the real split case, you're investing more than 50% in the higher return assets, because the uncrystallised pot is bigger (allowing for tax) than the crystallised pot. You've only got a higher return by taking more risk.

How much bigger the uncrystallised pot is than the crystallised pot depends on your tax rate. E.g. if you pay tax at 20%, then a £100k crystallised pot has a net value of £80k, but an uncrystallised £100k pot has a net value of £85k, so you have 51.51515151% uncrystallised, and in the real split case you are investing 51.51515151% (not 50%) in higher return assets.

Other tax rates will give different figures, but the effect is similar.

But I didn't change the risk - I made no adjustment to the investment mix.  I took no action other than transferring the pots from separate ones into an notional split provider.

In both cases, at the start of the sequence of events, I had the same risk level in the same type of taxability situation.

Let's look at it different and step by step.

I have a Hargreaves Lansdown pension pot of £160K in Vanguard global all cap, and an Aviva drawdown pot of 170K in money market fund.

I opened an Interactive Investor account and launched in specie transfers to transfer the pots into II.

Luckily they all arrived the same day.  I now have on the II interface:
160K Vanguard Global all cap
170K in Money market.
Total 330K 48.48% uncrystallised.
Nothing has changed so far.

After applying the growth, according to II you experienced overall growth of 48.4848% (coincidentally because of the exact numbers you chose but it would not be the same in real scenarios), but this growth is applied equally to the crystallised and uncrystallised portions.

However according to you, at the point I do the transfer, I must now sell 5K of Vangurd and invest it in Money market?  II will certainly not do this automatically.  Therefore we appear to be in agreement that given the exact same non notional starting pots the risk profile of what is happening changed slightly because a notional split now exists instead of a specifically tracked quantitative value per pot.

I suspect it is also not helping to force scenarios that give equal net results as this can be dangerous and give misleading conclusions that might not be the same if the numbers were more random.

Also - from what I can gather, according to your logic and conclusions, the comment by Triumph13 in the prior linked thread that you can avoid this by taking the TFC immediately and putting it in an ISA, is also incorrect because according to your conclusions, you must then change the investments in the ISA to force the same assumed net final result?

Edit - forcing the investment mix to achieve the same net result in the II account is a one trick pony.  What happens if your results in your examples 2 and 3 is the end of year 1.  Now try calculating year 2, where the low growth items still maintained the same nominal value and the high growth ones doubled again?  I think you will now find that the results diverge unless you are going to tell me I now have to adjust the invesment mix again at the end of year one differently in each of the two cases.

TheTelltaleChart

Pat38493 said:

But I didn't change the risk - I made no adjustment to the investment mix.  I took no action other than transferring the pots from separate ones into an notional split provider.

In both cases, at the start of the sequence of events, I had the same risk level in the same type of taxability situation.

Let's look at it different and step by step.

I have a Hargreaves Lansdown pension pot of £160K in Vanguard global all cap, and an Aviva drawdown pot of 170K in money market fund.

I opened an Interactive Investor account and launched in specie transfers to transfer the pots into II.

Luckily they all arrived the same day.  I now have on the II interface:
160K Vanguard Global all cap
170K in Money market.
Total 330K 48.48% uncrystallised.
Nothing has changed so far.

After applying the growth, according to II you experienced overall growth of 48.4848% (coincidentally because of the exact numbers you chose but it would not be the same in real scenarios), but this growth is applied equally to the crystallised and uncrystallised portions.

However according to you, at the point I do the transfer, I must now sell 5K of Vangurd and invest it in Money market?  II will certainly not do this automatically.  Therefore we appear to be in agreement that given the exact same non notional starting pots the risk profile of what is happening changed slightly because a notional split now exists instead of a specifically tracked quantitative value per pot.

Yes, it looks odd, to say that you have to make a change in order to stand still, doesn't it? But what else can we say? If you accept that, given the applicable tax rates, a £160k pension pot has the same net value to you as a £170k drawdown pot, then you have a portfolio split 50:50 between global equities and money market fund before the transfers. So how can you maintiain this split after the transfers, except by making this £5k switch?

We agree that there is a difference between ISA, uncrystallised pension, crystallised pension, and pension with a virtual percentage crystrallised. My claim is that the difference is entirely a question of how many pence of each £ in the pot is really yours. An ISA is 100p yours. Assuming 20% tax rate: an uncrystallised pension is 85p yours (the other 15p belonging to the UK Treasury), a crystallised pension is 80p yours (and 20p for the Treasury). A 48.4848% uncrystallised + 51.5151% crystallised pension is 48.4848% * 85p + 51.5151% * 80p = 82.4242p yours.

So when you are setting an overall asset allocation, you need to allow for how much of each pot is really yours. But there is no more suitable asset type for one pot type than another. If you don't allow for this, you may think you're getting better results by putting high growth assets in ISAs, lower in pensions, when what your really doing is increasing the percentage of high growth assets, becuase you are overstating the size of the pensions (only 80p, or whatever it is) in the £ of which is actually yours.

All this is assuming that a single tax rate applies to pension withdrawals. If growth in pension assets might raise the marginal rate (e.g. from 0% to 20%, or from 20% to 40%), then that would be a reason to put higher growth assets in ISAs, lower growth in pensions.

I suspect it is also not helping to force scenarios that give equal net results as this can be dangerous and give misleading conclusions that might not be the same if the numbers were more random.

I don't believe that's an issue.

Also - from what I can gather, according to your logic and conclusions, the comment by Triumph13 in the prior linked thread that you can avoid this by taking the TFC immediately and putting it in an ISA, is also incorrect because according to your conclusions, you must then change the investments in the ISA to force the same assumed net final result?

Yes. If you fully crystallise, you can at least stop thinking about the values of uncrystallised or part-crystallised pots. But you still have to reckon that £ in a crystallised pot is worth 80p, versus £ in an ISA being worth 100p.

Edit - forcing the investment mix to achieve the same net result in the II account is a one trick pony.  What happens if your results in your examples 2 and 3 is the end of year 1.  Now try calculating year 2, where the low growth items still maintained the same nominal value and the high growth ones doubled again?  I think you will now find that the results diverge unless you are going to tell me I now have to adjust the invesment mix again at the end of year one differently in each of the two cases.

No, you don't need to adjust. You started with 50% high growth and 50% low growth assets (based on the net values of each pot). After year 1, you have 66.67% high growth assets and 33.33% low growth assets (on the same basis). That is true in each of my examples 1)-3). If the high growth assets double again, you'll then thave 80% high growth and 20% low growth assets, in each of 1)-3).

Investment returns will not require any of these (admittedly odd-looking) adjustments. It's only events such as merging pots or crystallisations that will.

Pat38493

Telltale - the flaw in your method is that in order to proceed with your method in real life, you need to explain how you will calculate the adjustment from £170K/£160K to £165K/165K in your scenario 3 in a real world scenario with unknown future returns.

We have to keep in mind that the merge of providers happens first.  The returns of 100% and 0% are your assumed returns - in real life we don't know at this moment what the returns will be.

At the point where you change the provider from a real split to notional, the net value of your investments in a notional provider is identical no matter what asset mix you pick, so you cannot use the current split to calculate this proposed one off £5K adjustment.

As far as I can tell, the only way to calculate this adjustment is to have perfect knowledge of future investment returns.  In this case, it would be mad to reduce your equity exposure - you would simply increase it to 100% in all cases as you now have zero risk.

What happens if your assumed returns of 100% on equities and zero on cash, doesn't materialise and the actual return on equities is minus 50%?

Any changes to the risk that are created by moving the pot from real to notional are not under my control - they are triggered by the methodology that II uses to track the split which is what I have been saying all along.

I don't have an issue with this - I have a bulk of my pensions with II at the moment and these factors can work either for or against you and the effect will be pretty small unless your pots are huge.

Of course all assuming that crystallised pots have a more beneficial tax treatment in your particular case in all scenarios.

TheTelltaleChart

Pat38493 said:

Telltale - the flaw in your method is that in order to proceed with your method in real life, you need to explain how you will calculate the adjustment from £170K/£160K to £165K/165K in your scenario 3 in a real world scenario with unknown future returns.

I've obviously explained it very badly. Forget about future returns. My method has nothing to do with them. It's purely about saying: I want this asset allocation, I have these pots, how do I achieve it?

E.g. suppose I want 25% equities, 25% bonds, 25% cash, 25% gold (I don't, BTW). Suppose I have £100k in an ISA, £100k in a crystallised pot, £100k in an uncrystallised pot, and £100k in a 40%-crystallised pot.

That's £400k total, and I want 25%, which comes to £100k, in each asset class, so I could just hold a different asset class in each of the 4 accounts, job done, right?

My point is: no, that won't give me my desired asset allocation. Net of expected tax, the size of each pot is (assuming a 20% rate on taxable pension withdrawals):

ISA: £100k

crystallised pot: £80k

uncrystllised pot £85k

40%-crystallised pot: (40% of 80% + 60% of 85%) of £100k = £83k

So I have £348k total net portfolio size. The ISA is 28.74% of the portfolio, the crystallised pot is 22.99%, uncrystallised is 24.42%, and part-crystllised is 23.85%. If I put a different asset class in each pot, those are the percentages I effectively have in each asset class, not 25% in each.

To achieve 25% in each asset class, I need 25% of £348k = £87k net value in each. Lots of ways to do that.

E.g. suppose I put £87k of the ISA in equities (so that's all the equities) and the other £13k in bonds.

I want another £74k of bonds, so let's say the crystallised pot could hold that, plus (since this pot's net size is £80k) £6k of cash. To hold a net £74k bonds + £6k cash inside the pot, when this pot has a net value of £80k but a gross value of £100k, the gross holdings (i.e. what you can see in the account) need to be 100/80 * £74k = £92.5k and 100/80 * £6k = £7.5k respectively.

Now I want another £81k of cash, so let's put that in the uncrystallised pot, along with (since this pot's net size is £85k) £4k of gold. Those are the net figures. The gross figures (what you can see in the account) are 100/85 * £81k = £95,294 and 100/85 * £4k = £4,706 respectively.

Finally, I want another £83k of gold, which goes in the part-crystallised pot (where it looks like £100k inside the account).

Of course, if that was too much effort, you could just replicate your desired asset allocation inside each of the 4 accounts. I.e. each account holds 25% equities, 25% bonds, 25% cash and 25% gold. This also has the advantage that you don't need to know your future tax rate on pension withdrawals.