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When to stop paying into pension to avoid hitting LTA?

Including Financial Independence and Retiring Early (FIRE)
IsuzuIse
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When to stop paying into pension to avoid hitting LTA?

#335994

Postby IsuzuIse » August 26th, 2020, 9:21 am

I am 48 years old and currently have c£700k in my DC occupational pension fund. I've been maxing out my AA at £40k for the past few years through salary sacrifice. My employer generously adds the 13.8% employer NI contribution they would otherwise pay and I get 40% tax relief. So it seems like a good deal.

I also have c£400k in non-pension investments (ISA and pending sufficient ISA allowance to move into ISA). This is not earmarked for anything other than retirement. I have no debts, mortgage, dependents or other liabilities.

Assuming 4% average pension fund growth, I'm on track to exceed the lifetime allowance (currently £1,073,100) in 2025. With my non-pension assets I won't need to access my pension fund for some years after I stop working (although doing so could make sense).

It seems to me that I should stop paying quite so much into my pension at some point to avoid the punitive taxes that result from exceeding the Lifetime Allowance. I'd be interested in any thoughts people can offer on:
- How to form a judgement on when to reduce my pension payments; and
- How wary I should be of the punitive taxes. For example, maybe they are worth paying given the tax relief and NI uplift?

xxd09
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Re: When to stop paying into pension to avoid hitting LTA?

#336001

Postby xxd09 » August 26th, 2020, 9:50 am

You are right to be wary-looks like you are heading for LTA territory
Could switch investments in pension fund to more bonds-grow at a slower rate
Start filling ISAs with shares\funds if you have extra monies
You do not want to lose the employer’s contribution to your pension fund
No easy answers or remedies
xxd09

Howard
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Re: When to stop paying into pension to avoid hitting LTA?

#336019

Postby Howard » August 26th, 2020, 10:37 am

It's probably worth talking to a wealth manager or two. I say this as someone who has not employed a wealth manager and who manages his own investments. However, you can't predict the future and from my experience a couple of conversations are really worthwhile.

I chose to speak to senior figures in two smaller but successful managers. They were very prepared to have an initial conversation, relevant to my personal circumstances, on the basis that at some time in the future I might use their services. Recently one of them asked their financial planners to give me an idea of how close I would be to the pension limit at age 75. It was invaluable and free analysis. I have chosen to keep managing my own investments because I enjoy it. However, I have written a note to my children (who are less financially aware) recommending one of the managers in the case of my unexpected demise.

Over the years I've also spoken to the professionals at stockbrokers I use. Their advice on pensions was invaluable as well and led to my being in the nice position of having headroom worries. Of course, in your situation it is probably not worth talking to an adviser from a major financial organisation as they will probably come up with a formulaic solution which will have little value (apart from to their own organisation!)

Hope this is helpful advice.

regards

Howard

hiriskpaul
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Re: When to stop paying into pension to avoid hitting LTA?

#336036

Postby hiriskpaul » August 26th, 2020, 11:34 am

IsuzuIse wrote:- How wary I should be of the punitive taxes. For example, maybe they are worth paying given the tax relief and NI uplift?

Yes in your situation it may well be better to continue contributing and pay the "punitive taxes". You have a good sized portfolio outside your SIPP, so no real need to increase that. The LTA charge frightens a lot of people, especially when discussed in terms of a 55% charge, but for most people the alternative option of a 25% charge plus normal income tax on withdrawals is the better route and not really punitive. At basic rate charge+tax amounts to a 40% overall tax on the amount subject to the charge, so that wipes out your 40% tax relief, but you still gain from the NI.

After you retire you might have around £800k after taking the tax free lump sum. Drawing down say 40k per year amounts to a 5% drawdown rate, so you are unlikely to be paying higher rate tax, unless you have other income.

ursaminortaur
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Re: When to stop paying into pension to avoid hitting LTA?

#336052

Postby ursaminortaur » August 26th, 2020, 12:12 pm

hiriskpaul wrote:
IsuzuIse wrote:- How wary I should be of the punitive taxes. For example, maybe they are worth paying given the tax relief and NI uplift?

Yes in your situation it may well be better to continue contributing and pay the "punitive taxes". You have a good sized portfolio outside your SIPP, so no real need to increase that. The LTA charge frightens a lot of people, especially when discussed in terms of a 55% charge, but for most people the alternative option of a 25% charge plus normal income tax on withdrawals is the better route and not really punitive. At basic rate charge+tax amounts to a 40% overall tax on the amount subject to the charge, so that wipes out your 40% tax relief, but you still gain from the NI.

After you retire you might have around £800k after taking the tax free lump sum. Drawing down say 40k per year amounts to a 5% drawdown rate, so you are unlikely to be paying higher rate tax, unless you have other income.


There are a couple of points to consider if using drawdown and likely to be close to or exceed the LTA limit.
1) Don't use UFPLS as there will be an LTA test on each amount withdrawn plus a final test at age 75 for anything left uncrystallised hence all the growth up until age 75 will be captured increasing the amount you exceed the LTA limit.
2) If when using flexible drawdown your pot already exceeds the LTA limit then the maximum tax free lump sum you will be able to get is 25% of that LTA limit NOT 25% of your pot.
3) With flexible drawdown there is an additional test at age 75 which covers any growth which occurs between when the pot is crystallised and age 75 which is still in the pot at that time ie (amount in pension pot at age 75) - (amount in pot when crystallised - the tax free lump sum).
Withdrawals after crystallisation though are not tested against the LTA so that growth can be taken out, just subject to your marginal tax rate, and won't be tested against the LTA. This means that as far as the LTA test is concerned it is better to crystallised as early as possible after age 55 (though if as in your case you are getting large employer contribututions it is probably better to delay that until those stop when you eventually leave that employment even though that will increase your LTA excess charge).

dealtn
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Re: When to stop paying into pension to avoid hitting LTA?

#336066

Postby dealtn » August 26th, 2020, 12:53 pm

IsuzuIse wrote: I'd be interested in any thoughts people can offer on:
- How to form a judgement on when to reduce my pension payments; and


This isn't meant to be flippant, but an easy way to reduce your payments, and the potential future tax, is to stop working, and enjoy retirement and the fruits of your labours.

At some point (and it maybe for you it is beyond the point that the tax issue you perceive kicks in) you have enough to stop playing the game and enjoy what is left of the years ahead of you. For most people a c.£1m pension pot, plus potentially other assets, is a good place to be and not worry about £s coming in anymore.

I no longer pay into my pension, although it was redundancy, that I didn't want, that forced that issue. I now see myself as retired, though I could work. So I was either blind to taking early retirement, or not brave enough, but the boss that did see it and created my current position I now have a lot to thank him for!

hiriskpaul
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Re: When to stop paying into pension to avoid hitting LTA?

#336074

Postby hiriskpaul » August 26th, 2020, 1:24 pm

ursaminortaur wrote:
hiriskpaul wrote:
IsuzuIse wrote:- How wary I should be of the punitive taxes. For example, maybe they are worth paying given the tax relief and NI uplift?

Yes in your situation it may well be better to continue contributing and pay the "punitive taxes". You have a good sized portfolio outside your SIPP, so no real need to increase that. The LTA charge frightens a lot of people, especially when discussed in terms of a 55% charge, but for most people the alternative option of a 25% charge plus normal income tax on withdrawals is the better route and not really punitive. At basic rate charge+tax amounts to a 40% overall tax on the amount subject to the charge, so that wipes out your 40% tax relief, but you still gain from the NI.

After you retire you might have around £800k after taking the tax free lump sum. Drawing down say 40k per year amounts to a 5% drawdown rate, so you are unlikely to be paying higher rate tax, unless you have other income.


There are a couple of points to consider if using drawdown and likely to be close to or exceed the LTA limit.
1) Don't use UFPLS as there will be an LTA test on each amount withdrawn plus a final test at age 75 for anything left uncrystallised hence all the growth up until age 75 will be captured increasing the amount you exceed the LTA limit.
2) If when using flexible drawdown your pot already exceeds the LTA limit then the maximum tax free lump sum you will be able to get is 25% of that LTA limit NOT 25% of your pot.
3) With flexible drawdown there is an additional test at age 75 which covers any growth which occurs between when the pot is crystallised and age 75 which is still in the pot at that time ie (amount in pension pot at age 75) - (amount in pot when crystallised - the tax free lump sum).
Withdrawals after crystallisation though are not tested against the LTA so that growth can be taken out, just subject to your marginal tax rate, and won't be tested against the LTA. This means that as far as the LTA test is concerned it is better to crystallised as early as possible after age 55 (though if as in your case you are getting large employer contribututions it is probably better to delay that until those stop when you eventually leave that employment even though that will increase your LTA excess charge).

Good points. We crystallised our SIPPs as soon as we were able in order to mitigate against the PCLS cap and reduce growth to minimise the LTA charge at age 75. It might be worth considering crystallising 100% of the LTA as soon as the pot is big enough. Provided only the PCLS is drawn, pension contributions remain unrestricted. The disadvantage is that will dump over £250k onto the OP, which he/she might prefer not to have while he/she is a higher rate taxpayer due to extra income tax liability when it is invested. This partial crystallisation might not be allowed of course under the scheme rules, so a partial transfer out, again if allowed, to a SIPP would be required.

The only advantage in not crystallising the whole pension and paying the LTA charge on the excess is the possibility of a rule change which reduces or eliminates the LTA charge (yes I know, pigs might fly).

In this case, as the OP has no dependents and so presumably no IHT concerns, the best strategy once retired might be to draw down the pension as fast as possible, whilst staying within basic rate tax, in order to mitigate the risk of a LTA charge at age 75.

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Re: When to stop paying into pension to avoid hitting LTA?

#336120

Postby Joe45 » August 26th, 2020, 3:51 pm

I am faced with a similar conundrum, albeit I'm expecting to retire in the next few months and access my SIPP at the start of the next financial year.

My plan is to draw a fixed monthly amount of £16,667 which should give me 25% tax free and also allow me to use all of my £12,500 annual income tax allowance. The remainder of my annual living expenses will come from ISAs and taxable trading accounts.

My concern is that by paying no income tax now, my SIPP will grow and may within 10 years exceed the LTA. I can't really stuff my SIPP with bonds as I need to maintain my chosen asset allocation (67% equities) in this account to allow for rebalancing.

I should also try to use funds from my (and my wife's) taxable accounts first.

I could take a big chunk from the SIPP on day one and perhaps give it to the wife to ensure she makes full use of her annual allowances. I could also perhaps bite the bullet and take more from my SIPP and pay some income tax at 20%.

I guess I'll have to get started on a spread sheet and see where I go. I have several months to figure things out, but grateful for any thoughts.

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Re: When to stop paying into pension to avoid hitting LTA?

#336127

Postby hiriskpaul » August 26th, 2020, 4:31 pm

@Joe, issues around pension withdrawals depend so much on individual circumstances. For some people the IHT saving benefits are substantial and it may be well worth drawing as little as possible, even if that does mean paying an increased LTA charge. I started a thread discussing this here viewtopic.php?f=17&t=23765. For others, like the OP without IHT considerations it may make financial sense to crystallise, take a lump sum PCLS and rapidly drawdown to mitigate LTA charges. You might want to consider fully crystallising, taking a PCLS, as then you only have growth by age 75 to worry about. As noted above this may mean being landed with a large amount of cash that once invested outside your SIPP generates taxable income and gains, so you need to take that into account with your spreadsheet.

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Re: When to stop paying into pension to avoid hitting LTA?

#336135

Postby TUK020 » August 26th, 2020, 5:08 pm

IsuzuIse wrote:I am 48 years old and currently have c£700k in my DC occupational pension fund. I've been maxing out my AA at £40k for the past few years through salary sacrifice. My employer generously adds the 13.8% employer NI contribution they would otherwise pay and I get 40% tax relief. So it seems like a good deal.

I also have c£400k in non-pension investments (ISA and pending sufficient ISA allowance to move into ISA). This is not earmarked for anything other than retirement. I have no debts, mortgage, dependents or other liabilities.

Assuming 4% average pension fund growth, I'm on track to exceed the lifetime allowance (currently £1,073,100) in 2025. With my non-pension assets I won't need to access my pension fund for some years after I stop working (although doing so could make sense).

It seems to me that I should stop paying quite so much into my pension at some point to avoid the punitive taxes that result from exceeding the Lifetime Allowance. I'd be interested in any thoughts people can offer on:
- How to form a judgement on when to reduce my pension payments; and
- How wary I should be of the punitive taxes. For example, maybe they are worth paying given the tax relief and NI uplift?


Assessment against LTA is done when you "crystallize" your pension pot. After this point, the value of the pot can still grow, but you are more limited in what you can then add. This is not necessarily the point at which you start drawing benefits from the pension.

A scenario that you should investigate is:
Keep working and maxing contributions to your pension until it hits the LTA.
At this point crystallize your pension. Stop contributing, but leave it invested.
If removing your salary sacrifice puts you into stupid marginal tax rates (i.e personal allowance taper from 100k), then negotiate working fewer days, until you are ready to stop.
At that point hoover max out of pension that is tax efficient (stay in basic rate + 25% tax free). Stuff any surplus into you gaga fund, sorry, your ISA,
start working out how to spend it

ursaminortaur
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Re: When to stop paying into pension to avoid hitting LTA?

#336209

Postby ursaminortaur » August 26th, 2020, 10:24 pm

TUK020 wrote:
IsuzuIse wrote:I am 48 years old and currently have c£700k in my DC occupational pension fund. I've been maxing out my AA at £40k for the past few years through salary sacrifice. My employer generously adds the 13.8% employer NI contribution they would otherwise pay and I get 40% tax relief. So it seems like a good deal.

I also have c£400k in non-pension investments (ISA and pending sufficient ISA allowance to move into ISA). This is not earmarked for anything other than retirement. I have no debts, mortgage, dependents or other liabilities.

Assuming 4% average pension fund growth, I'm on track to exceed the lifetime allowance (currently £1,073,100) in 2025. With my non-pension assets I won't need to access my pension fund for some years after I stop working (although doing so could make sense).

It seems to me that I should stop paying quite so much into my pension at some point to avoid the punitive taxes that result from exceeding the Lifetime Allowance. I'd be interested in any thoughts people can offer on:
- How to form a judgement on when to reduce my pension payments; and
- How wary I should be of the punitive taxes. For example, maybe they are worth paying given the tax relief and NI uplift?


Assessment against LTA is done when you "crystallize" your pension pot. After this point, the value of the pot can still grow, but you are more limited in what you can then add. This is not necessarily the point at which you start drawing benefits from the pension.

A scenario that you should investigate is:
Keep working and maxing contributions to your pension until it hits the LTA.
At this point crystallize your pension. Stop contributing, but leave it invested.
If removing your salary sacrifice puts you into stupid marginal tax rates (i.e personal allowance taper from 100k), then negotiate working fewer days, until you are ready to stop.
At that point hoover max out of pension that is tax efficient (stay in basic rate + 25% tax free). Stuff any surplus into you gaga fund, sorry, your ISA,
start working out how to spend it


The basic-rate + 25% tax free only applies if you are using UFPLS which isn't recommended if you are getting close to the LTA.
Much better to fully crystallise after which withdrawals via drawdown will not be tested against the LTA. When you fully crystallise you then get the full tax free lump sum at that point. Withdrawals via drawdown will then be fully chargable at your marginal rate.
Last edited by ursaminortaur on August 26th, 2020, 10:37 pm, edited 1 time in total.

IsuzuIse
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Re: When to stop paying into pension to avoid hitting LTA?

#336212

Postby IsuzuIse » August 26th, 2020, 10:36 pm

Many thanks all for the very helpful comments. It is indeed the case that I don't have any IHT concerns.

There is plenty for me to think about here. In particular, I clearly need to improve my understanding of pension access options. Can anyone recommend some books that cover the subject?

hiriskpaul
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Re: When to stop paying into pension to avoid hitting LTA?

#336216

Postby hiriskpaul » August 26th, 2020, 10:50 pm

I don't know of any books, but pensionwise is a good starting point https://www.pensionwise.gov.uk/en.

Your company pension provider should be able to provide you with the specific rules and benefits of your scheme.

jonesa1
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Re: When to stop paying into pension to avoid hitting LTA?

#336272

Postby jonesa1 » August 27th, 2020, 9:28 am

IsuzuIse wrote:Many thanks all for the very helpful comments. It is indeed the case that I don't have any IHT concerns.

There is plenty for me to think about here. In particular, I clearly need to improve my understanding of pension access options. Can anyone recommend some books that cover the subject?


Books on this subject risk being out of date before they even reach the printers. You could consider speaking to an IFA, if you can find one that will provide advice and a plan for a fixed fee that you're happy to pay (rather than a percentage cut).

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Re: When to stop paying into pension to avoid hitting LTA?

#336289

Postby Joe45 » August 27th, 2020, 10:54 am

hiriskpaul wrote:@Joe, issues around pension withdrawals depend so much on individual circumstances. For some people the IHT saving benefits are substantial and it may be well worth drawing as little as possible, even if that does mean paying an increased LTA charge. I started a thread discussing this here viewtopic.php?f=17&t=23765. For others, like the OP without IHT considerations it may make financial sense to crystallise, take a lump sum PCLS and rapidly drawdown to mitigate LTA charges. You might want to consider fully crystallising, taking a PCLS, as then you only have growth by age 75 to worry about. As noted above this may mean being landed with a large amount of cash that once invested outside your SIPP generates taxable income and gains, so you need to take that into account with your spreadsheet.

Many thanks for the input. I spent a happy couple of hours working up a spreadsheet to give me an idea of how my SIPP might grow and whether it is likely to test the LTA. There are of course so many unknowns here, not least the Government tinkering with the rules, but I have concluded that I will probably still have headroom up to the point when I need to draw substantial sums.


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