Pension LTA

[98elise]

I'm fast approaching 55 and I'm some way from the LTA, however I'm in danger of hitting it in the future so I need to understand it now to do a bit of planning.

To keep things simple I'll use made up rounded figures. Let's say a SIPP fund of £800k, LTA for Year 1 £1m, and planning to take a lump sum of 200k (25%) as a lump sum in the first year,.

There would be two options:

Option 1: Take the 200k tax-free, and all subsequent withdrawals are taxed at your normal income tax rates.

Option 2: Take 50k tax free, and 150k taxed, and all subsequent withdrawals would be taxed the same way.

As I understand it taking 200k in the first year would represent 20% of your LTA (i.e. 200k from 1m LTA).

Now let's say in the next year the LTA has increased 50k (so now £1.05m). What's the impact on the LTA available to you in the second year for both options?

Another related question. If you're no longer contributing to the pension, and it's all investment gains that put you over the LTA then is it a bad thing to exceed it? Surely a smaller % of the gain is better than no gain at all?

I want to try and model this is a spreadsheet but I don't have enough knowledge yet!

[grahamm]

I think you need to crystallise the full £800k to take 200k tax free cash. This would mean you have used 80% of your LTA of £1m, and have £600k to draw down as taxable income. If the LTA increases in future years and you have made further contributions you have 20% of the LTA at point of crystalisation.

[ellroy]

Why be overly worried?

The tax charge is only on the excess and if you nominate to income, drawdown for example, would be only a 25% tax charge. With the fund remains essentially free of all taxes going forward I’d be quite content to bust on through.

[98elise]

grahamm said:

I think you need to crystallise the full £800k to take 200k tax free cash. This would mean you have used 80% of your LTA of £1m, and have £600k to draw down as taxable income. If the LTA increases in future years and you have made further contributions you have 20% of the LTA at point of crystalisation.

Is that right? I'll have to do some more reading!

[98elise]

ellroy said:

Why be overly worried?

The tax charge is only on the excess and if you nominate to income, drawdown for example, would be only a 25% tax charge. With the fund remains essentially free of all taxes going forward I’d be quite content to bust on through.

That's why I question if it should bother me at all. Lots or articles seem to be implying that you want to avoid the charge, but it seems more like becoming a high rate tax payer. You're still better off, you just see less of each additional £.

[Stay in Bed Instead]

grahamm said:

I think you need to crystallise the full £800k to take 200k tax free cash. This would mean you have used 80% of your LTA of £1m, and have £600k to draw down as taxable income. If the LTA increases in future years and you have made further contributions you have 20% of the LTA at point of crystalisation.

This is correct.

Regarding your investment increase query. There is a further LTA check at age 75. if the drawdown fund is worth more then than at crystallisation then the increase is tested against any remaining unused LTA - 20% in your example. If it's exceeded then the excess is subject to a 25% tax charge. This is designed to encourage people to drawdown taxable pension rather then leave it in the pension scheme as an IHT avoidance arrangement.

[LeoSayer]

rockin said:

To my mind the big question about LTA is this.

Is it better to stay “risk on” with a view to big investment returns, albeit eventually paying some extra tax if it all goes to plan? Or,

Is it better to adopt a “low risk” approach - probably reducing returns, almost certainly reducing the tax and pocketing some peace of mind?


I guess the answer may depend upon individual circumstances.

There's no logic to de-risking solely because you might lose a portion in tax.

However, if you are de-risking for the purpose of drawing income then it might make sense to de-risk the pension before the ISA.

[Zigster]

The logic in derisking is that the risk is not symmetrical once you are at the LTA - you get 100% of the downside risk but only 45% of the upside risk.

If it was a gamble and the odds had halved, you might then decide a different horse looked a better bet (or not bet at all).

[LeoSayer]

Zigster said:

The logic in derisking is that the risk is not symmetrical once you are at the LTA - you get 100% of the downside risk but only 45% of the upside risk.

If it was a gamble and the odds had halved, you might then decide a different horse looked a better bet (or not bet at all).

For assets above the LTA, the upside and downside risk is shared with the HMRC.

In any case, the LTA is 33% at most - 55% on the lump sum (25%) and 25% on the rest.

[98elise]

grahamm said:

I think you need to crystallise the full £800k to take 200k tax free cash. This would mean you have used 80% of your LTA of £1m, and have £600k to draw down as taxable income. If the LTA increases in future years and you have made further contributions you have 20% of the LTA at point of crystalisation.

Having now done some more reading you're right of course.

Using the simple figures I used the 800k would be crystallised, so using 80% of the LTA.

Now let's say the remaining £600k remains invested, and grows to 800k before any more money is drawn down. For simplicity the LTA remains the same so there is 20% left.

What happens when say 100k is withdrawn?

Ignore the personal tax implications (this is not a real scenario) I just want to understand the LTA calculations at each crystallisation event.

[LeoSayer]

98elise said:

grahamm said:

I think you need to crystallise the full £800k to take 200k tax free cash. This would mean you have used 80% of your LTA of £1m, and have £600k to draw down as taxable income. If the LTA increases in future years and you have made further contributions you have 20% of the LTA at point of crystalisation.

Having now done some more reading you're right of course.

Using the simple figures I used the 800k would be crystallised, so using 80% of the LTA.

Now let's say the remaining £600k remains invested, and grows to 800k before any more money is drawn down. For simplicity the LTA remains the same so there is 20% left.

What happens when say 100k is withdrawn?

Ignore the personal tax implications (this is not a real scenario) I just want to understand the LTA calculations at each crystallisation event.

See the post from Stay in Bed Instead above.

[98elise]

LeoSayer said:

98elise said:

grahamm said:

I think you need to crystallise the full £800k to take 200k tax free cash. This would mean you have used 80% of your LTA of £1m, and have £600k to draw down as taxable income. If the LTA increases in future years and you have made further contributions you have 20% of the LTA at point of crystalisation.

Having now done some more reading you're right of course.

Using the simple figures I used the 800k would be crystallised, so using 80% of the LTA.

Now let's say the remaining £600k remains invested, and grows to 800k before any more money is drawn down. For simplicity the LTA remains the same so there is 20% left.

What happens when say 100k is withdrawn?

Ignore the personal tax implications (this is not a real scenario) I just want to understand the LTA calculations at each crystallisation event.

See the post from Stay in Bed Instead above.

So at the point 100k was withdrawn the 200k further gains would tested and not attract a charge, but would use up the remaining 20% LTA?

I'm normally pretty good at this sort of stuff but understanding LTA seems beyond me!

[Stay in Bed Instead]

98elise said:

So at the point 100k was withdrawn the 200k further gains would tested and not attract a charge, but would use up the remaining 20% LTA?

I'm normally pretty good at this sort of stuff but understanding LTA seems beyond me!

The investment growth is part of your crystallised fund. Drawing down on the crystallised fund is not a Benefit Crystallisation Event so no LTA check.

In your example, because there are no remaining uncrystallised funds the next LTA check would be at age 75 or earlier death.

[98elise]

Stay in Bed Instead said:

98elise said:

So at the point 100k was withdrawn the 200k further gains would tested and not attract a charge, but would use up the remaining 20% LTA?

I'm normally pretty good at this sort of stuff but understanding LTA seems beyond me!

The investment growth is part of your crystallised fund. Drawing down on the crystallised fund is not a Benefit Crystallisation Event so no LTA check.

In your example, because there are no remaining uncrystallised funds the next LTA check would be at age 75 or earlier death.

Understood

So far 200k was initially taken tax free (@55) crystalising the 800k pot (LTA 80%) and a further 100k (taxed) later from the crystalised funds.

At age 75 let's say no other funds have been drawn down and LTA is still 1m (for simplicity), and the pot has now grown to say 1.2m, what would the LTA calculation be?

[LeoSayer]

98elise said:

Understood

So far 200k was initially taken tax free (@55) crystalising the 800k pot (LTA 80%) and a further 100k (taxed) later from the crystalised funds.

At age 75 let's say no other funds have been drawn down and LTA is still 1m (for simplicity), and the pot has now grown to say 1.2m, what would the LTA calculation be?

By my understanding, the calculation at age 75 will be £1200k (amount remaining in drawdown) less £600k (original amount that went into drawdown after tax free cash) resulting in £600k being crystallised and tested against the LTA (60%).

Therefore 140% of the LTA has been used, so 40% (£400k) will attract a tax of 25% ie £100k.

[grahamm]

With a crystallised fund which has used all or nearly all of the LTA would it make sense to draw income to use basic rate income tax band in order to avoid fund growing and therefore avoid or minimise 25% charge to fund at age 75, probably paying net proceeds into ISA?

[JulianPH]

98elise said:

Having now done some more reading you're right of course.

Using the simple figures I used the 800k would be crystallised, so using 80% of the LTA.

Now let's say the remaining £600k remains invested, and grows to 800k before any more money is drawn down. For simplicity the LTA remains the same so there is 20% left.

What happens when say 100k is withdrawn?

Ignore the personal tax implications (this is not a real scenario) I just want to understand the LTA calculations at each crystallisation event.

If your (combined) pensions are beneath the LTA it is not anything you need to worry about.

So using your figures there is no aditional tax to pay whatsoever.

If you withdraw £100k after taking your tax free cash it will be taxed at your marginal rates like any other income.

For amounts over the LTA, HMRC treat these as being your first withdrawals and apply a 55% tax charge on any "tax free" cash and a further surcharge of 25% (on top of your marginal income tax rate) on any income.

Once you are back into your LTA these additional tax charges go away.

The LTA is calculated on each withdrawal (of any kind) over the LTA limit and then automatically at age 75 (regardless of whether you have made withdrawals or not) and again upon death.

Put technically, it is a bd tax on prudent saving and successful investing. A tax of envy created by Labour and made worse by the Consertives.

[Stay in Bed Instead]

There is no LTA check on death after age 75.

[98elise]

grahamm said:

With a crystallised fund which has used all or nearly all of the LTA would it make sense to draw income to use basic rate income tax band in order to avoid fund growing and therefore avoid or minimise 25% charge to fund at age 75, probably paying net proceeds into ISA?

That's was my plan. I have some property income which pays my bills, so I was going to take the 25% tax free, then every year draw down additional money into the high rate tax band.

[98elise]

JulianPH said:

98elise said:

Having now done some more reading you're right of course.

Using the simple figures I used the 800k would be crystallised, so using 80% of the LTA.

Now let's say the remaining £600k remains invested, and grows to 800k before any more money is drawn down. For simplicity the LTA remains the same so there is 20% left.

What happens when say 100k is withdrawn?

Ignore the personal tax implications (this is not a real scenario) I just want to understand the LTA calculations at each crystallisation event.

If your (combined) pensions are beneath the LTA it is not anything you need to worry about.

So using your figures there is no aditional tax to pay whatsoever.

If you withdraw £100k after taking your tax free cash it will be taxed at your marginal rates like any other income.

For amounts over the LTA, HMRC treat these as being your first withdrawals and apply a 55% tax charge on any "tax free" cash and a further surcharge of 25% (on top of your marginal income tax rate) on any income.

Once you are back into your LTA these additional tax charges go away.

The LTA is calculated on each withdrawal (of any kind) over the LTA limit and then automatically at age 75 (regardless of whether you have made withdrawals or not) and again upon death.

Put technically, it is a bd tax on prudent saving and successful investing. A tax of envy created by Labour and made worse by the Consertives.

Can you clarify what you mean by "withdrawal (of any kind) over the LTA"

In my example of crystalising the whole pot by taking the 25%, then the pot growing again. The entire pot would be over LTA. At what point would that attract a tax charge?