Pension fund from DB to Drawdown - your experiences?
Discussion
I’m looking for people’s experience regarding capped drawdown schemes and whether they find that they have worked successfully for them.
In particular, I’m now in a position to start taking my company pension and intend to start taking a pension whilst I carry on working for at least another 5 years.
If I decide to go down the drawdown route then I will transfer the funds from the company scheme (defined benefit) into a capped drawdown. Capped Drawdown would need to achieve about 4% return after charges to match company pension, but to achieve any sort of index linking I’d need nearer a 6% overall return (after charges).
The pros and cons seem to be as follows:
Company Scheme
No risk at all with the pension income, Income is predominantly index linked, guaranteed income for spouse on my death (approx. 60% of my pension), no charges
Capped Drawdown
Pros
More cash available as lump sum (c 30% more), more flexibility with income taken, spousal and family benefits are exactly the same as mine on my death and any remaining capital is retained for my family.
Cons
There are no guarantees on income and capital growth, I take all investment risk and longevity risk, there are management charges on the investment.
As stated already, I’d particularly like to hear from anyone who has taken this step and how they find things are going.
I’d also appreciate views on whether people feel a 6% return is achievable in the long term.
So is transferring from a DB scheme to capped drawdown sensible or just bats
t crazy?
Over to you……
In particular, I’m now in a position to start taking my company pension and intend to start taking a pension whilst I carry on working for at least another 5 years.
If I decide to go down the drawdown route then I will transfer the funds from the company scheme (defined benefit) into a capped drawdown. Capped Drawdown would need to achieve about 4% return after charges to match company pension, but to achieve any sort of index linking I’d need nearer a 6% overall return (after charges).
The pros and cons seem to be as follows:
Company Scheme
No risk at all with the pension income, Income is predominantly index linked, guaranteed income for spouse on my death (approx. 60% of my pension), no charges
Capped Drawdown
Pros
More cash available as lump sum (c 30% more), more flexibility with income taken, spousal and family benefits are exactly the same as mine on my death and any remaining capital is retained for my family.
Cons
There are no guarantees on income and capital growth, I take all investment risk and longevity risk, there are management charges on the investment.
As stated already, I’d particularly like to hear from anyone who has taken this step and how they find things are going.
I’d also appreciate views on whether people feel a 6% return is achievable in the long term.
So is transferring from a DB scheme to capped drawdown sensible or just bats
t crazy?Over to you……
AS
You might be surprised at the true reduction in yield (RIY) and the true hurdle required to leap over before the DB scheme starts to lose out. Once you factor in various benefits, most of which are unconsidered until you spend a few hours crunching the numbers, the RIY could be as high as double that amount (6%), easily. I'm not saying it is, I'm saying in my experience the number is often underplayed by simply looking at CETV, payments and direct comparisons.
I think too, that 6%, although not unachievable, is starting to look like quite a punchy number to be relying on in drawdown. Once you start relying on that sort of number, sequence of return risk should start playing a factor in your thinking. For instance, let's assume that return is linear and you hit 6% bang on, each and every year.. and you take out say, 5% every year. Then after, say, 30 years, your calcs will give you a figure and an amount which'll go to your beneficiaries.
That's fine, and all well and good. But if you experience a couple of dodgy years at outset, those figures are going to be off beam. It isn't so bad if you have modest aspirations but my initial instinct tells me that if you were running it fine, requiring 6%, you are probably a risk taker. Is moving from DB to DC in retirement the time to be taking risk? Smaller numbers, in the earlier years especially, aren't so vulnerable to variable sequential or linear returns.
I'm not saying that transferring is or isn't a good thing, but I would certainly interrogate those returns properly first and then look at all factors surrounding the returns you're going to need to be hitting (with little short of metronome like efficiency) in the early years especially.
For instance, and let's keep the numbers simple for illustrative purposes, if you start with a pot of £100,000 and lose 10% value in year one and then make 10% in year 2, by the end of year two, your fund stands at £99,000, without even taking into account inflation. If you then made 10% in year three, you'd have a fund of just under £109,000 - or, an annual return of somewhere in the region of +/- 3% with/without inflation.
By comparison, if you hit 10% year on year (linear) because that's what your target was, then after 3 years (and let's assume no costs or withdrawals), you'd have a hypothetical £133,000 (plus/minus change) which is a nice side effect of compounded growth. But if you suffered a 10% loss in year one and made it up in year two, you'd then have to make well in excess of 30% in year three to simply get back on track.
So, I'd really start to look closely at that RIY in the first instance, and secondly, at the hurdle of 6% that you're relying on. With a DB scheme, you have a guarantee of growth. The risk of course, is that the state moves the goalpost and changes the factor by which it benchmarks growth. As it did a few years ago.
You might be surprised at the true reduction in yield (RIY) and the true hurdle required to leap over before the DB scheme starts to lose out. Once you factor in various benefits, most of which are unconsidered until you spend a few hours crunching the numbers, the RIY could be as high as double that amount (6%), easily. I'm not saying it is, I'm saying in my experience the number is often underplayed by simply looking at CETV, payments and direct comparisons.
I think too, that 6%, although not unachievable, is starting to look like quite a punchy number to be relying on in drawdown. Once you start relying on that sort of number, sequence of return risk should start playing a factor in your thinking. For instance, let's assume that return is linear and you hit 6% bang on, each and every year.. and you take out say, 5% every year. Then after, say, 30 years, your calcs will give you a figure and an amount which'll go to your beneficiaries.
That's fine, and all well and good. But if you experience a couple of dodgy years at outset, those figures are going to be off beam. It isn't so bad if you have modest aspirations but my initial instinct tells me that if you were running it fine, requiring 6%, you are probably a risk taker. Is moving from DB to DC in retirement the time to be taking risk? Smaller numbers, in the earlier years especially, aren't so vulnerable to variable sequential or linear returns.
I'm not saying that transferring is or isn't a good thing, but I would certainly interrogate those returns properly first and then look at all factors surrounding the returns you're going to need to be hitting (with little short of metronome like efficiency) in the early years especially.
For instance, and let's keep the numbers simple for illustrative purposes, if you start with a pot of £100,000 and lose 10% value in year one and then make 10% in year 2, by the end of year two, your fund stands at £99,000, without even taking into account inflation. If you then made 10% in year three, you'd have a fund of just under £109,000 - or, an annual return of somewhere in the region of +/- 3% with/without inflation.
By comparison, if you hit 10% year on year (linear) because that's what your target was, then after 3 years (and let's assume no costs or withdrawals), you'd have a hypothetical £133,000 (plus/minus change) which is a nice side effect of compounded growth. But if you suffered a 10% loss in year one and made it up in year two, you'd then have to make well in excess of 30% in year three to simply get back on track.
So, I'd really start to look closely at that RIY in the first instance, and secondly, at the hurdle of 6% that you're relying on. With a DB scheme, you have a guarantee of growth. The risk of course, is that the state moves the goalpost and changes the factor by which it benchmarks growth. As it did a few years ago.
Ginge R said:
Thought provoking comments...
Ginge RMany thanks for these well considered and sobering comments
I guess it's often too easy to get hooked on the positives and view that the downsides probably won't happen when in fact the consequences could be horrific.
A couple of points in case they make any difference to your analysis.
My IFA is suggesting that I would go for a natural income route and generate income from dividends, hence not needing to sell the underlying stock to produce income (3.5% to 4% target). The extra 2% pa growth is to provide inflation increases in income over time. Also, certainly for the first 5 to 7 years I would plan to be undertaking work and therefore could avoid withdrawing funds if the underlying investment has dropped.
I'd appreciate your thoughts
AS
Ginge R said:
You might be surprised at the true reduction in yield (RIY) and the true hurdle required to leap over before the DB scheme starts to lose out. Once you factor in various benefits, most of which are unconsidered until you spend a few hours crunching the numbers, the RIY could be as high as double that amount (6%), easily. I'm not saying it is, I'm saying in my experience the number is often underplayed by simply looking at CETV, payments and direct comparisons.
I'm not clever enough to do the calculations but I can confirm it's very unusual for it to make sense to leave a DB scheme. Claudia Skies said:
I'm not clever enough to do the calculations but I can confirm it's very unusual for it to make sense to leave a DB scheme.
CSI absolutely agree that this would be unusual and my company scheme offers an index linked annual return of about 3.8% (at 55) dropping to 1.8% pa for surviving spouse/ children. So very safe and not to be sniffed at.
There is a lot of inertia once you are in a good scheme and you are certainly put off transferring out by some of the literature which arrives once you request a transfer value. I totally understand that most people wouldn't want to bother moving - far easier and safer to take what is on offer.
So I haven't yet decided what to do but the clock is ticking and I don't have long left to make my decision.
I'm sure that 3.8% should be matchable in the long term but it does very much come down to one's appetite for risk and if you are prepared/able to sit out any stock market fall over a couple of years. As I intend to carry on working for the next 5-7 years this would hopefully be less of a concern for me.
Time to crunch some more numbers I think........
Air Support said:
my company scheme offers an index linked annual return of about 3.8% (at 55)
Time to crunch some more numbers I think........
I find it useful to compare things in terms of "How much cash does it take to buy £1 of pension?". Applying this to your 3.8% figure gives Time to crunch some more numbers I think........
£26 of cash per £1 of pension.
I'm not a numbers guru but I know enough to say that if you are a healthy non-smoker aged 55 looking for an index-linked pension (with a spouse's pension) you are not realistically going to do better on your own. I think it would cost you at least £30 per £1 and probably more than that.
I wouldn't bother to go on looking around unless you have reason to believe your DB pension scheme is under threat of some kind - such as chronically underfunded or at risk of the employer going bust.
Around 15 years ago, I came across someone through my job who had converted his defined benefit scheme into a drawdown scheme. He lost very large chunks of it in investments that dropped dramatically. Under no circumstances would I want to do that myself - but I accept I am pretty risk averse
Claudia Skies said:
I find it useful to compare things in terms of "How much cash does it take to buy £1 of pension?". Applying this to your 3.8% figure gives £26 of cash per £1 of pension.
I interpret that as meaning you have to live for 26 years after you retire to get your money back.oop north said:
Around 15 years ago, I came across someone through my job who had converted his defined benefit scheme into a drawdown scheme. He lost very large chunks of it in investments that dropped dramatically. Under no circumstances would I want to do that myself - but I accept I am pretty risk averse
Thanks.That's the sort of real world experiences I was hoping to hear about
Simpo Two said:
Claudia Skies said:
I find it useful to compare things in terms of "How much cash does it take to buy £1 of pension?". Applying this to your 3.8% figure gives £26 of cash per £1 of pension.
I interpret that as meaning you have to live for 26 years after you retire to get your money back.
or two years 
It's simply a very broad way of looking at how much of something (money/cash/investments) you need to have in order to buy £1 p.a. of something else (namely a pension for life, however long or short that may be). Take for example someone who has "savings/pension investments" of £200,000 and is wondering what their lifestyle might be in retirement. If you divide the £200k by my very rough figure of £25 the answer is an annual income of 200,000 divided by 25 = spending power (in other words, a pension) of £8,000 a year. As you can see, you start out with what looks like a big number but when translated into harsh reality it's not as much as it seems. And just to emphasise; this may seem harsh, but this IS reality.
Annnuities are a problem for one simple reason - life expectancy has increased radically over the last 40 years. You can't work for 40 years saving 5% of salary each year and then expect to live for another 30 years after retirement on a pension of 50% a year. The numbers simply don't work.
oop north said:
Around 15 years ago, I came across someone through my job who had converted his defined benefit scheme into a drawdown scheme. He lost very large chunks of it in investments that dropped dramatically. Under no circumstances would I want to do that myself - but I accept I am pretty risk averse
oop northDo you happen to know how it went wrong for him or was it something like the impact of the telecom bubble which caused the issue?
Thanks
Edited by Air Support on Saturday 7th February 22:16
Air Support said:
oop north
Do you happen to know how it went wrong for him or was it something like the impact of the telecom bubble which caused the issue?
Check out this graph which shows how the FTSE 100 index has moved. You will see that since 1995 there have been huge peaks and troughs. Easy to lose money in that!Do you happen to know how it went wrong for him or was it something like the impact of the telecom bubble which caused the issue?
https://uk.finance.yahoo.com/echarts?s=%5EFTSE#sym...
In contrast, most DB schemes these days will own a big proportion of "fixed interest" investments - government bonds and the like. As an end-user your risk is massively lower on that basis.
People "do their own thing" in the hope that adding risk to their investments will add returns as well. However, the clue is in the word "risk". It could go either way!
For the avoidance of doubt, in 99% of cases it would be utterly bonkers to transfer out of a DB scheme.
Interesting, as discussed above, the impact of sequence of return risk. Funds which generate natural yield and demonstrate low volatility, especially in the early years of retirement.
http://www.bbc.co.uk/news/business-31769063
http://www.bbc.co.uk/news/business-31769063
AS
Most IFAs have seen similar situations from cases where the drawdown was used instead of an annuity, this was pretty much the same scenario where people overstated the potential returns (dd) for a less sexy guarantee (annuity).
It only takes an example like Ginge mentioned with you being reliant on the fund for income and continuing to draw through a negative period for a year or two near the outset and the damage can be difficult to recover from.
The worst I saw was a divorced woman reliant on the income who should have been an annuity case every day of the week, but was talked into drawdown just as the market crashed, she came up to her review and the income available was reduced dramatically.
I find it very hard to justify the gamble you are considering in isolation. If you have substantial alternative assets such as btl or ISAs that you can use if the market 'wobbles' then maybe, but if the need for a spouses pension is high on the agenda I'd probably stay put.
I rather cautiously/pessimistically look at every one of these as a potential complaint in 5-10 years time! Pension freedom has loads of time bombs just waiting to go off.
Most IFAs have seen similar situations from cases where the drawdown was used instead of an annuity, this was pretty much the same scenario where people overstated the potential returns (dd) for a less sexy guarantee (annuity).
It only takes an example like Ginge mentioned with you being reliant on the fund for income and continuing to draw through a negative period for a year or two near the outset and the damage can be difficult to recover from.
The worst I saw was a divorced woman reliant on the income who should have been an annuity case every day of the week, but was talked into drawdown just as the market crashed, she came up to her review and the income available was reduced dramatically.
I find it very hard to justify the gamble you are considering in isolation. If you have substantial alternative assets such as btl or ISAs that you can use if the market 'wobbles' then maybe, but if the need for a spouses pension is high on the agenda I'd probably stay put.
I rather cautiously/pessimistically look at every one of these as a potential complaint in 5-10 years time! Pension freedom has loads of time bombs just waiting to go off.
More worringly, I get the impression that online brokers have a vested interest in 'informing' clients about punchy funds because they're aware of a) churn which generates fees and b) inexperienced investors gravitating towards sex and violence funds which look punchy and sexy because they're the ones which promise to shoot the lights out.
I completely agree, it's a time bomb and the clock starts in a few days when billions gets taken out and put into b2l and other assorted goodies. I don't want any part of it. And just wait for b2l geting pinged in a budget coming sometime soon.
I completely agree, it's a time bomb and the clock starts in a few days when billions gets taken out and put into b2l and other assorted goodies. I don't want any part of it. And just wait for b2l geting pinged in a budget coming sometime soon.
To compare a DB and drawdown one must understand that DB is geared to be exhausted when you are. or when an actuary thinks you are done.(Gonna die)
A drawdown of 4% should in theory continue ad infinitum.
To take a cynical approach, and I hope I'm wrong, but I can't help suspect that this was done not to give people access to their money early, but to allow the trustees of a pension company to dump some of their long term liabilities by offering an nice rosy apple now. Possibly to massage their current underfunding!
A couple of hundred K, may look very tempting, it is intended to, they want you to take it..... you are doing them a favour.
That is the end of my cynical opinion
Perhaps way over the top, but if you take a quant view with money and investments then all inputs must be noted and given a value or whatever
In reality, no two peoples positions are the same, but my general answer would be keep the DB, not because I think most cannot handle large sums of money, but because the offer one will get from the pension company will put you behind the eight ball, and make it extremely difficult to match the monthly income using a drawdown.
1K/month from drawdown requires a 300K mixed port of Bonds and Shares.
A drawdown of 4% should in theory continue ad infinitum.
To take a cynical approach, and I hope I'm wrong, but I can't help suspect that this was done not to give people access to their money early, but to allow the trustees of a pension company to dump some of their long term liabilities by offering an nice rosy apple now. Possibly to massage their current underfunding!
A couple of hundred K, may look very tempting, it is intended to, they want you to take it..... you are doing them a favour.
That is the end of my cynical opinion
Perhaps way over the top, but if you take a quant view with money and investments then all inputs must be noted and given a value or whatever
In reality, no two peoples positions are the same, but my general answer would be keep the DB, not because I think most cannot handle large sums of money, but because the offer one will get from the pension company will put you behind the eight ball, and make it extremely difficult to match the monthly income using a drawdown.
1K/month from drawdown requires a 300K mixed port of Bonds and Shares.
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