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    • wookie6
    • By wookie6 6th Feb 18, 10:34 PM
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    wookie6
    Converting pension to lump sum - Considerations?
    • #1
    • 6th Feb 18, 10:34 PM
    Converting pension to lump sum - Considerations? 6th Feb 18 at 10:34 PM
    Hi,

    If your pension scheme allows you to convert some of your pension to a cash lump sum what factors should you consider to determine whether this is the correct thing to do?

    Thus far I have come up with the following:

    1) How old you currently are and how long you perceive you may live based on any existing conditions / family history.

    2) The conversion rate of the annual pension to cash lump sum.

    3) Annual savings on tax above the tax free threshold on the figure of annual pension you can bring down through conversion to a cash lump sum.

    4) Whether you have a specific need / use for the money that you would take as a cash lump sum?

    5) The figure of annual pension your partner would receive were you to die.

    6) What earnings you may be able to achieve on a cash lump sum that could offset some of the loses of the annual pension amount used to receive the cash lump sum.

    7) Yearly increases in annual pension. I'm not sure exactly what this figure is today?

    Are there any other factors that should be considered?

    I have read other posts that say if you are younger (say 55) then taking the pension in full is generally the best choice, however is there any general rule for an age and / or conversion rate at when it generally makes more sense to take some / all of the percentage of annual pension allowable as a cash lump sum?

    Thanks in advance!
Page 1
    • kidmugsy
    • By kidmugsy 6th Feb 18, 11:19 PM
    • 10,574 Posts
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    kidmugsy
    • #2
    • 6th Feb 18, 11:19 PM
    • #2
    • 6th Feb 18, 11:19 PM
    If your pension scheme allows you to convert some of your pension to a cash lump sum what factors should you consider to determine whether this is the correct thing to do?

    1) How old you currently are and how long you perceive you may live based on any existing conditions / family history.
    Originally posted by wookie6
    OK, but many people who post asking for help on this forum underestimate - often by quite a lot - their (average) life expectancy. They also seem often to have a complete mental block about one crucial attraction of a monthly pension - the reduction of longevity risk. It doesn't matter a hoot if you worry that you might die at 75 - the pension will trundle on until you actually die, even at 110. Helps you sleep soundly.


    2) The conversion rate of the annual pension to cash lump sum.
    Originally posted by wookie6
    12:1 would usually be reckoned rotten; 18 - 20:1 OK; greater than 20:1 desirable. Comments, anyone?


    3) Annual savings on tax above the tax free threshold on the figure of annual pension you can bring down through conversion to a cash lump sum.
    Originally posted by wookie6
    Yeah, though of course it requires you to guess at future tax rates.


    4) Whether you have a specific need / use for the money that you would take as a cash lump sum?
    Originally posted by wookie6
    KEY! Why take a bigger lump sum if you don't know what to do with it? Clearing expensive debt is often a good purpose, or clearing debts of honour within a family. Some people will even clear a mortgage, however cheap it may be. Friends of ours went for max lump sum: it was the only time in their lives that they had had a large capital sum at their disposal. They bought a country cottage.


    5) The figure of annual pension your partner would receive were you to die.
    Originally posted by wookie6
    Check whether your taking a bigger lump sum will reduce your widow's pension. In many schemes it won't.


    6) What earnings you may be able to achieve on a cash lump sum that could offset some of the loses of the annual pension amount used to receive the cash lump sum.
    Originally posted by wookie6
    Wild guess, often, unless you have some particular scheme in mind. What could go wrong in investing in a caravan park in the Maldives?


    7) Yearly increases in annual pension. I'm not sure exactly what this figure is today?
    Originally posted by wookie6
    Depends on the scheme. CPI with an upper limit of, say, 5% may be common. Or upper limit of 2.5% (mean, that!). Or RPI with no upper limit. You just have to check.


    ... is there any general rule for a ... conversion rate at when it generally makes more sense to take some / all of the percentage of annual pension allowable as a cash lump sum?
    Originally posted by wookie6
    See answer to (2) above.
    Last edited by kidmugsy; 06-02-2018 at 11:23 PM.
    Free the dunston one next time too.
    • marlot
    • By marlot 7th Feb 18, 8:51 AM
    • 3,428 Posts
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    marlot
    • #3
    • 7th Feb 18, 8:51 AM
    • #3
    • 7th Feb 18, 8:51 AM
    >> 5) The figure of annual pension your partner would receive were you to die.
    On my main pension, the spouses pension is unaffected by commutation. Yours may be different.

    >> 2) The conversion rate of the annual pension to cash lump sum.
    This may change by age. I've been offered 17:1 at 55, 15:1 at 60 or 14:1 at 65.
    • wookie6
    • By wookie6 7th Feb 18, 7:19 PM
    • 217 Posts
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    wookie6
    • #4
    • 7th Feb 18, 7:19 PM
    • #4
    • 7th Feb 18, 7:19 PM
    Thanks for the responses thus far....

    Quote:
    Originally Posted by wookie6 View Post
    If your pension scheme allows you to convert some of your pension to a cash lump sum what factors should you consider to determine whether this is the correct thing to do?

    1) How old you currently are and how long you perceive you may live based on any existing conditions / family history.
    OK, but many people who post asking for help on this forum underestimate - often by quite a lot - their (average) life expectancy. They also seem often to have a complete mental block about one crucial attraction of a monthly pension - the reduction of longevity risk. It doesn't matter a hoot if you worry that you might die at 75 - the pension will trundle on until you actually die, even at 110. Helps you sleep soundly.
    For me this is the million dollar question... Sure, you may go on to live until 110, however there is a case to be made that the longer you live, generally the less money you will need. If you take part of your pension as a cash lump sum then its not as if you won't have any annual pension after that.

    Perhaps after a period equivalent to your conversion rate 12 years (12:1), 18 years (18:1) etc you may be quite happy with say 20% less of your pension to live off, whilst you have the knowledge that if you were to die before this time partner would we left with the lump sum along with your widows pension.
    • Zanderman
    • By Zanderman 7th Feb 18, 7:31 PM
    • 1,525 Posts
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    Zanderman
    • #5
    • 7th Feb 18, 7:31 PM
    • #5
    • 7th Feb 18, 7:31 PM
    .... Sure, you may go on to live until 110, however there is a case to be made that the longer you live, generally the less money you will need....
    Originally posted by wookie6
    I'm not sure I see that case! You may be less 'active' the older you are but that doesn't necessarily mean you need less income.

    The one thing you can be sure of as you get older is that you'll need more help and care - especially if you become very infirm. And care is very expensive.

    The way things are at the moment you might get such care free if you have little money - though even now you might prefer a higher standard of care than that.

    But the way things are going you may find that 'free' care gets scarcer, so you may need every penny.
    • Silvertabby
    • By Silvertabby 7th Feb 18, 9:54 PM
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    Silvertabby
    • #6
    • 7th Feb 18, 9:54 PM
    • #6
    • 7th Feb 18, 9:54 PM
    !!!8220; 2) The conversion rate of the annual pension to cash lump sum.
    Originally posted by wookie6 !!!8221;
    12:1 would usually be reckoned rotten; 18 - 20:1 OK; greater than 20:1 desirable. Comments, anyone?

    Posted by kidsmugsy
    wookie is LGPS, and so is looking at 1:12

    !!!8220; 7) Yearly increases in annual pension. I'm not sure exactly what this figure is today?
    Originally posted by wookie6 !!!8221;
    Depends on the scheme. CPI with an upper limit of, say, 5% may be common. Or upper limit of 2.5% (mean, that!). Or RPI with no upper limit. You just have to check. Posted by kidmugsy
    LGPS is CPI uncapped.
    • LHW99
    • By LHW99 7th Feb 18, 10:00 PM
    • 1,285 Posts
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    LHW99
    • #7
    • 7th Feb 18, 10:00 PM
    • #7
    • 7th Feb 18, 10:00 PM
    Just wondering - does the LTA reflect in any way on a decision to take an enhanced lump sum?
    • The_Doc
    • By The_Doc 7th Feb 18, 10:04 PM
    • 80 Posts
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    The_Doc
    • #8
    • 7th Feb 18, 10:04 PM
    • #8
    • 7th Feb 18, 10:04 PM
    The lump sum becomes part of your estate and so potentially subject to IHT. Just something to consider. If you take the PCLS, best spend it!
    • ianthy
    • By ianthy 8th Feb 18, 7:21 AM
    • 115 Posts
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    ianthy
    • #9
    • 8th Feb 18, 7:21 AM
    • #9
    • 8th Feb 18, 7:21 AM
    I took the max PCLS as it helped to diversify my investments/income. I added another BTL property which more than replaced the income lost as pension.
    • chucknorris
    • By chucknorris 8th Feb 18, 7:55 AM
    • 9,567 Posts
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    chucknorris
    I took the max PCLS as it helped to diversify my investments/income. I added another BTL property which more than replaced the income lost as pension.
    Originally posted by ianthy
    Would you happy being a landlord when you are in your late 70's/80's? I know I wouldn't, I'm 60 now and last year I sold one property, leaving me with 3.5 investment properties. My outline plan is to sell another 2 sometime in the next 5-6 years, and sell the last 1.5 proprieties when I am in my early 70's, simply to keep some diversity in my portfolio. I've been a landlord for 27 years, so I'm a bit fed up with it, and I want my retirement to be freer of the hassle than it has been earlier. Also I want to leave plenty time to avoid selling in a recession, and time to spend the equity before death (we don't have children).

    Back on topic, my computation for taking a lump sum is 12:1, although when tax is taken into account that becomes 20:1, but that is still 5%, so I would rather keep the pension than take a lump sum. It also retains diversity to my portfolio as my pension (both DB and state) is only going to be about 23% of my portfolio, so I would rather keep it at that level, rather than see it reduced.
    Chuck Norris can kill two stones with one bird
    The only time Chuck Norris was wrong was when he thought he had made a mistake
    Chuck Norris puts the "laughter" in "manslaughter".
    After running injuries I now mostly hike, gym classes and weight training (also a bit of cycling and swimming), less impact on my joints.
    • Malchester
    • By Malchester 8th Feb 18, 8:00 AM
    • 100 Posts
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    Malchester
    I have considered this issue as I receive a deferred LGPS pension later this year (at 60 as that is what the scheme says I have to do and it would be silly to delay it even if I could). The TFLS I can choose has quite a wide range. With a conversion factor of only 12:1 it is a no brainer to take the minimum lump sum and largest pension especially as I am still working, don't need the money and will probably live another 20 years or more (but who can say)
    • crv1963
    • By crv1963 8th Feb 18, 8:36 AM
    • 287 Posts
    • 694 Thanks
    crv1963
    2) For us it is 12:1, not a great rate.


    4) Specifically as it does not affect survivors pension in our case taking larger lump sum and clearing mortgage is more peace of mind than smaller lump sum and same survivors pension.


    I think that there's more to it than straight forward spread sheets and working out/ guessing mortality. I'd rather have the house paid off and know Mrs CRV is assured a roof over her head than a larger income and worrying about getting the mortgage paid off.


    Even though interest rates are low now, they can and do go up eventually, I remember the early 90s and how it all went wrong very fast- so I'd rather have peace of mind, even if this means doing some kind of paid work a bit longer.
    CRV1963- Light bulb moment Sept 15- Planning the great escape- aka retirement!
    • hugheskevi
    • By hugheskevi 8th Feb 18, 10:46 AM
    • 1,984 Posts
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    hugheskevi
    12:1 would usually be reckoned rotten; 18 - 20:1 OK; greater than 20:1 desirable. Comments, anyone?
    I think that is about right. Playing around with spreadsheets, I find that for the following assumptions:
    • Inflation of 2% (assume pension gets full CPI increases)
    • Returns of 4% (ie cautious investing)
    • Taking pension at age 60
    • Death at age 89
    • Income tax at 20% on all of pension
    • Lump sum is invested, compared to a scenario where the surplus from a higher pension is set aside and invested (ie a simple which is better scenario where money is not needed)
    Then a commutation rate of 18:1 is about neutral.

    If returns are reduced to 2%, consistent with cash deposits which roughly get inflation returns in history, then the neutral rate is 24:1. If returns are increased to 6% then a commutation rate of 14-15 is neutral.

    If pension age is increased to 65, with a 4% return a commutation rate of 16:1 is neutral and with a 2% return 20:1 is neutral.

    Push pension age higher to 68, and with a 4% return a commutation rate of about 14-15 is neutral with 4% returns, and 18:1 with 2% return.

    A scenario where 12:1 is worth considering is where individuals are over the Lifetime Allowance. In that case, they will be paying 40%+ income tax, and taking a 12:1 commutation rate will reduce their Lifetime Allowance charge. Even then, I wouldn't say it is clear-cut (especially if they are mitigating the breach by commencing pension early)
    • chucknorris
    • By chucknorris 8th Feb 18, 10:55 AM
    • 9,567 Posts
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    chucknorris
    I think that is about right. Playing around with spreadsheets, I find that for the following assumptions:
    • Inflation of 2% (assume pension gets full CPI increases)
    • Returns of 4% (ie cautious investing)
    • Taking pension at age 60
    • Death at age 89
    • Income tax at 20% on all of pension
    • Lump sum is invested, compared to a scenario where the surplus from a higher pension is set aside and invested (ie a simple which is better scenario where money is not needed)
    Then a commutation rate of 18:1 is about neutral.

    If returns are reduced to 2%, consistent with cash deposits which roughly get inflation returns in history, then the neutral rate is 24:1. If returns are increased to 6% then a commutation rate of 14-15 is neutral.

    If pension age is increased to 65, with a 4% return a commutation rate of 16:1 is neutral and with a 2% return 20:1 is neutral.

    Push pension age higher to 68, and with a 4% return a commutation rate of about 14-15 is neutral with 4% returns, and 18:1 with 2% return.

    A scenario where 12:1 is worth considering is where individuals are over the Lifetime Allowance. In that case, they will be paying 40%+ income tax, and taking a 12:1 commutation rate will reduce their Lifetime Allowance charge. Even then, I wouldn't say it is clear-cut (especially if they are mitigating the breach by commencing pension early)
    Originally posted by hugheskevi
    Interesting, I will be paying 40% tax on all my pension (but I am nowhere near the LTA), so the net computation rate for me would be 20:1. But I still think that I am better off taking 100% pension rather than a lump sum. There probably isn't that much in it, but the pension does give me additional portfolio diversification. By taking all pension my eventual retirement portfolio is probably going to look something like this:

    34% equities
    30% bonds/cash (mainly bonds)
    23% fixed pension
    13% investment property

    But I am open to suggestions, nothing is cast in stone.
    Last edited by chucknorris; 10-02-2018 at 2:47 PM.
    Chuck Norris can kill two stones with one bird
    The only time Chuck Norris was wrong was when he thought he had made a mistake
    Chuck Norris puts the "laughter" in "manslaughter".
    After running injuries I now mostly hike, gym classes and weight training (also a bit of cycling and swimming), less impact on my joints.
    • marlot
    • By marlot 8th Feb 18, 11:13 AM
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    marlot
    Just wondering - does the LTA reflect in any way on a decision to take an enhanced lump sum?
    Originally posted by LHW99
    Given that a DB pension is valued at 20x the starting annual amount, any commutation factor below 20:1 could help slip below the LTA.

    Arguably, the 12:1 I get on my pension makes it a good choice. In practice, taking a reduced pension a year or two early seems a better option to me.

    As with everything, that's just based on my personal circumstances. If I wanted to keep working, or I had a mountain of expensive debt then commutation might be the better option.
    Last edited by marlot; 08-02-2018 at 11:19 AM.
    • ianthy
    • By ianthy 8th Feb 18, 11:15 AM
    • 115 Posts
    • 66 Thanks
    ianthy
    [QUOTE=chucknorris;73848409]Would you happy being a landlord when you are in your late 70's/80's? I know I wouldn't, I'm 60 now and last year I sold one property, leaving me with 3.5 investment properties. My outline plan is to sell another 2 sometime in the next 5-6 years, and sell the last 1.5 proprieties when I am in my early 70's, simply to keep some diversity in my portfolio. I've been a landlord for 27 years, so I'm a bit fed up with it, and I want my retirement to be freer of the hassle than it has been earlier. Also I want to leave plenty time to avoid selling in a recession, and time to spend the equity before death (we don't have children).

    QUOTE]

    At this point in time we are both aged 55 and we have been landlords for more than 20 years. I don't see it as being particularly troublesome, I estimate I spend 5-6 hours a month on average. We have 3 long term rental properties in London and SE UK with the longest tenant in situ 10 years and shortest 4 years and 2 short term lets outside the UK. I look on it as Effort V Reward and yes I know some landlords can have very difficult tenants/properties but to date we have been fine.

    Our plan is to restructure one of the short term lets - it's a villa in Italy with land, pool etc and replace it with an apartment in our 'golden years'. What is left can be dealt with by our estate, we have no kids but plenty of interested parties.
    • chucknorris
    • By chucknorris 8th Feb 18, 11:43 AM
    • 9,567 Posts
    • 14,351 Thanks
    chucknorris
    [QUOTE=ianthy;73849398]
    Would you happy being a landlord when you are in your late 70's/80's? I know I wouldn't, I'm 60 now and last year I sold one property, leaving me with 3.5 investment properties. My outline plan is to sell another 2 sometime in the next 5-6 years, and sell the last 1.5 proprieties when I am in my early 70's, simply to keep some diversity in my portfolio. I've been a landlord for 27 years, so I'm a bit fed up with it, and I want my retirement to be freer of the hassle than it has been earlier. Also I want to leave plenty time to avoid selling in a recession, and time to spend the equity before death (we don't have children).

    QUOTE]

    At this point in time we are both aged 55 and we have been landlords for more than 20 years. I don't see it as being particularly troublesome, I estimate I spend 5-6 hours a month on average. We have 3 long term rental properties in London and SE UK with the longest tenant in situ 10 years and shortest 4 years and 2 short term lets outside the UK. I look on it as Effort V Reward and yes I know some landlords can have very difficult tenants/properties but to date we have been fine.

    Our plan is to restructure one of the short term lets - it's a villa in Italy with land, pool etc and replace it with an apartment in our 'golden years'. What is left can be dealt with by our estate, we have no kids but plenty of interested parties.
    Originally posted by chucknorris
    We are in a similar position, many tenants stay on for years, longest ever was about 12 years, and current longest is about 6 years. I think the route of the problem is that we want to spend the winters in Spain and/or the Algarve, but another major issue is that we still have 3m equity to take out and spend. This is despite releasing 1.3m equity last year, which obviously still needs to be spent. If we had planned to keep over 4m equity tied up until our 80's, there would be no chance of spending it, especially as our stock market investments are quite large too. Not to mention running the risk of having no time to avoid selling in a downturn.
    Last edited by chucknorris; 08-02-2018 at 11:51 AM.
    Chuck Norris can kill two stones with one bird
    The only time Chuck Norris was wrong was when he thought he had made a mistake
    Chuck Norris puts the "laughter" in "manslaughter".
    After running injuries I now mostly hike, gym classes and weight training (also a bit of cycling and swimming), less impact on my joints.
    • Triumph13
    • By Triumph13 8th Feb 18, 12:24 PM
    • 1,180 Posts
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    Triumph13
    Two key, and generally interrelated, factors:
    1. Your appetite and capacity for risk. If you are massively risk averse and would keep the lump sum in cash, then unless the commutation rate is excellent you'd generally be better off with the pension. If you're comfortable with 100% equities then you have good odds of coming out on top at a much lower commutation rate.
    2. The relative utility of the pension foregone and the lump sum received. If the remaining pension still more than covers your expected spending, then a lump sum to get your kids on the property ladder or buy a holiday home may well be a better option even at low rates. If the pension only just covers your needs then it becomes much less attractive!
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