Should I attempt to drain my DC pension pot before reaching state pension age?

NickBFS

I am currently retired with a USS DB pension of approximately 36.5K/year. I also have a USS DC pension pot (the so-called USS "investment builder") of approx. 45K and a SIPP pot of about 18K. I also have in the region of 2K to 3K/year of taxable interest and/or dividends from non-tax sheltered investments. I will reach state pension age in 4 years time and will receive the new state pension at the full rate (currently approx. 12.5K).

It has dawned on me that, once I start receiving the state pension, my DB pension with the state pension will almost certainly bring me within the higher rate income tax band (or extremely close to it) and consistently so for the future. This would mean that any withdrawal I would make from my pension pots would, beyond the 25% tax-free element, be taxed at 40%, so in effect a tax burden of 30% on drawdowns.

Given this, it seems to me that it would be sensible for me to:

1. stop making the 2.88K annual contributions to the SIPP (allowed as someone with no qualifying earnings) until I reach state pension age, as these would attract 20% tax relief on the way in but be taxed at 30% as drawdowns on the way out. Once I reach state pension age, I could resume such contributions as they would now attract 40% tax relief on the way in.
2. in the 4 years I have left before reaching state pension age, drawdown as much as I can from my USS pension pot and SIPP while remaining within the 20% basic rate band. I have no immediate use for that money so it would be invested, albeit outside any tax wrapper. But paying tax on the income generated would, it seems to me, be financially better than ultimately paying 30% tax on the drawdowns.

Does this make sense or am I completely misunderstanding or missing something?

af1963

If you're not in Scotland, you have about £14k available in the basic rate band to take out per year, especially if you can get some or all of the investments shifted into ISAs.

Taking out £14k taxable from the DC/SIPP, plus the TFC associated, would get about £18k per year out. For 4 years that comes to £72k that you could take out. Your DC and SIPP are only £63k so far, so there's still room to add two or three more annual SIPP contributions along the way and still get it all withdrawn at 20% tax rate.

bjorn_toby_wilde

To respond to the title of your post….Yes. Why wouldn’t you?

I’m removing as much as possible up to the HR threshold and adding it to S&S ISAs in broadly the same investments.

Smudgeismydog

Yes, this is what I plan to do

ali_bear

I'm not sure if you get tax relief at 40% in your £2880 pension contributions after retirement? I think you only get the 20% on the way in.

Dazed_and_C0nfused

https://forums.moneysavingexpert.com/discussion/comment/81985273#Comment_81985273

The gross contribution would still extend your basic rate band.

So additional relief could still be due, over and above the basic rate relief the pension company adds.

kempiejon

Another way of avoiding paying higher rate of income tax once SP is in payment, if that is key here, if of course to delay claiming the state pension for another year or two gaining a 5% uplift.

kermchem

The short answer to the OP's question is Yes, do it.

There are posters on here who believe that if you have to pay tax at 40% then you just should. The OP probably spent half their career receiving only basic rate tax relief on pension contributions, so why pay higher rate on some of it when you take the money out. Don't let the tax tail wag the dog, but be efficient.

If OP is paying tax on interest and dividends, then get those inside a tax shelter (ISA).

Where is the £45K left in the DC investment builder invested? USS has a number of options, but which one. Getting money out of the DC is not exactly simple, although the USS website talks about "flexible access to your savings". USS does not inself offer drawdown and when I looked at the paperwork for UFPLS it was non-trivial. You might want to consider moving the DC to your SIPP to facilitate drawdown, but watch the fees difference.

For context, I took voluntary severance and retired from a University last week; my USS DB is a little less than OP, I took a lump sum from DB, VS and I emptied the DC pot. I have a larger SIPP. Yes, plan is to empty SIPP before SP age.

Thanks for the suggestion of deferring SP. If close to the HR threshold this might work if you believe that thresholds might rise signficantly in future, but for now you have to plan with the known numbers.

NickBFS

Thanks everyone. It was somewhat counter-intuitive to me that leaving investments inside a pension tax wrapper could be counter-productive in certain circumstances, hence why I wanted confirmation that I had not completely missed the plot on this. Good to hear that I did not.

https://forums.moneysavingexpert.com/discussion/comment/81985143#Comment_81985143

I think that it will be a little less than 14K due to income from unsheltered investments and savings but I get the principle of what you are saying. Thanks!

https://forums.moneysavingexpert.com/discussion/comment/81985273#Comment_81985273

Well, if my income is above the HR threshold, presumably contributions will get 40% relief? Let us say that my income from pensions plus savings and investments is £54,000. If I contribute £2880 to my SIPP, my SIPP provider will add £720 to my pension on behalf of HMRC. Can I not claim another £720 tax relief from HMRC via my tax return?

https://forums.moneysavingexpert.com/discussion/comment/81985350#Comment_81985350

Interesting suggestion. Thanks. I will have to give it a thought if I have not exhausted my pension pots in time.

https://forums.moneysavingexpert.com/discussion/comment/81985536#Comment_81985536

Re tax-sheltering, other than adventurous investments (VCTs, etc...) and premium bonds, neither of which are especially attractive to me, this leaves primarily ISAs and I already max out on my ISA allowance every year and will continue to do so for a while as I gradually decant my existing tax-unsheltered savings and investments into ISAs so this will unfortunately not be an option for me, at least in the short to medium term.

Thanks for the heads up on USS UFPLs. I was indeed planning to gradually empty my DC investment builder through UFPLSs and had not realised that it might be a bit of a pain in the proverbial to do so. I will have to look into this more closely.

af1963

On tax sheltering investments ( or not): a less "adventurous" way to get a similar effect is by buying and holding low coupon gilts. Although the regular coupon payments are taxed as income, these are small, as low coupon gilts make most of their return from capital gains, which are exempt from tax. And if you buy and hold to maturity, you get a guaranteed return.

Dazed_and_C0nfused

"Well, if my income is above the HR threshold, presumably contributions will get 40% relief? Let us say that my income from pensions plus savings and investments is £54,000. If I contribute £2880 to my SIPP, my SIPP provider will add £720 to my pension on behalf of HMRC. Can I not claim another £720 tax relief from HMRC via my tax return?"

No, there is no specific amount of extra tax relief. Your basic rate band will be increased by £3,600 and your overall liability calculated using that increased basic rate band.

Which might save you an extra £720. Or more. Or less. All depends on the facts of your particular mix of income types.