Explain the maths please - Bonus in pension vs mortgage
Discussion
Hi,
I’ve done a search but no thread has quite answered my question. Can anyone offer the considerations around salary sacrifice vs net cash paying down mortgage please.
Monthly pension contributions currently maxed out to take advantage of employer matching but have sufficient headroom vs the three year rule to make extra (unmatched) contributions.
Aged 40 with potential plan to retire at 55.
40% tax payer.
Tracker mortgage currently charging 4.85%.
Essentially, for each £100 of bonus I add to my pension pot I could take £58 and pay down my mortgage. Isn’t the pension plan the no brainier ? Take the tax relief and then tap the 25% drawdown at 55 to pay off the mortgage at that point (if I wish).
Yes the current interest rate is pretty high but presumably there is a hedge against the returns I’m making in my pension ?
Are the only factors the risk on breaching lifetime cap (so need to make sub-optimal investment decisions in the future), risk on changes to pension rules so that my 25% at 55 bet changes and an opportunity cost on never being able to access that £100 (eg if we wanted to move) ?
Considering bringing an IFA in to help me with this dilemma plus some other planning aspects but interested in the thoughts of others ?
Cheers,
Chris
I’ve done a search but no thread has quite answered my question. Can anyone offer the considerations around salary sacrifice vs net cash paying down mortgage please.
Monthly pension contributions currently maxed out to take advantage of employer matching but have sufficient headroom vs the three year rule to make extra (unmatched) contributions.
Aged 40 with potential plan to retire at 55.
40% tax payer.
Tracker mortgage currently charging 4.85%.
Essentially, for each £100 of bonus I add to my pension pot I could take £58 and pay down my mortgage. Isn’t the pension plan the no brainier ? Take the tax relief and then tap the 25% drawdown at 55 to pay off the mortgage at that point (if I wish).
Yes the current interest rate is pretty high but presumably there is a hedge against the returns I’m making in my pension ?
Are the only factors the risk on breaching lifetime cap (so need to make sub-optimal investment decisions in the future), risk on changes to pension rules so that my 25% at 55 bet changes and an opportunity cost on never being able to access that £100 (eg if we wanted to move) ?
Considering bringing an IFA in to help me with this dilemma plus some other planning aspects but interested in the thoughts of others ?
Cheers,
Chris
I agree that the pension is the sensible option.
Whilst the interest rate on the mortgage is currently high, I personally don’t think it will stay that way for too long. 18 months max is my guess as the world economy has a prolapse, the gov will likely end up reducing interest rates once again.
It would be interesting to know what your current pot level is as that might change the plan but even then, you’d just cut down paying into the pension in the future if this is the case.
People I know who have busted the lifetime allowance are ok with having that problem - so I personally wouldn’t be too worried about that problem tbh
Whilst the interest rate on the mortgage is currently high, I personally don’t think it will stay that way for too long. 18 months max is my guess as the world economy has a prolapse, the gov will likely end up reducing interest rates once again.
It would be interesting to know what your current pot level is as that might change the plan but even then, you’d just cut down paying into the pension in the future if this is the case.
People I know who have busted the lifetime allowance are ok with having that problem - so I personally wouldn’t be too worried about that problem tbh
fat80b said:
I agree that the pension is the sensible option.
Whilst the interest rate on the mortgage is currently high, I personally don’t think it will stay that way for too long. 18 months max is my guess as the world economy has a prolapse, the gov will likely end up reducing interest rates once again.
It would be interesting to know what your current pot level is as that might change the plan but even then, you’d just cut down paying into the pension in the future if this is the case.
People I know who have busted the lifetime allowance are ok with having that problem - so I personally wouldn’t be too worried about that problem tbh
Thanks for the input - current pot is just under £280k, assuming current contributions, flat 3% annual salary growth and 5% annual pension return I have a bit of headroom under £1m threshold by 55.Whilst the interest rate on the mortgage is currently high, I personally don’t think it will stay that way for too long. 18 months max is my guess as the world economy has a prolapse, the gov will likely end up reducing interest rates once again.
It would be interesting to know what your current pot level is as that might change the plan but even then, you’d just cut down paying into the pension in the future if this is the case.
People I know who have busted the lifetime allowance are ok with having that problem - so I personally wouldn’t be too worried about that problem tbh
This might well leave me with a quality problem where a bigger salary increase or extending employment to 60 might mean I breach the cap / have to pull back contributions and pay more tax but suspect this doesn’t put me in a worse position than doing the same today ?
HammyHamster said:
^^^this. Really good you tube channel on pensions and investing.Imasurv said:
HammyHamster said:
^^^this. Really good you tube channel on pensions and investing.You saving 40% on your contributions into a pension is pretty compelling. You will still pay the NI though as it’ll be as an AVC and not a Smart contribution, but as a higher rate tax payer you’ll already be in the 2% NI band.
HammyHamster said:
Weirdly relevant, cheers !HarryW said:
Imasurv said:
HammyHamster said:
^^^this. Really good you tube channel on pensions and investing.You saving 40% on your contributions into a pension is pretty compelling. You will still pay the NI though as it’ll be as an AVC and not a Smart contribution, but as a higher rate tax payer you’ll already be in the 2% NI band.
Jim
I’ve just watched this video and now feel silly for not really thinking of this up until now.
The one downside I can think of is that taking this approach reduces the ability to upsize etc in the pre-retirement future. You’re choosing to switch equity (usable against future borrowing) for a pension which isn’t usable until you reach 55. Am I right or missing something?
The one downside I can think of is that taking this approach reduces the ability to upsize etc in the pre-retirement future. You’re choosing to switch equity (usable against future borrowing) for a pension which isn’t usable until you reach 55. Am I right or missing something?
SS9 said:
I’ve just watched this video and now feel silly for not really thinking of this up until now.
The one downside I can think of is that taking this approach reduces the ability to upsize etc in the pre-retirement future. You’re choosing to switch equity (usable against future borrowing) for a pension which isn’t usable until you reach 55. Am I right or missing something?
You’re correct (and that is part of my dilemma). As the video shows, you can get round this by introducing an interest-only approach or extend term to give you more firepower but this introduces other risks and considerations.The one downside I can think of is that taking this approach reduces the ability to upsize etc in the pre-retirement future. You’re choosing to switch equity (usable against future borrowing) for a pension which isn’t usable until you reach 55. Am I right or missing something?
Chris, you mention breaching LTA and retirement at 55, with a pot of £280k at 40 you'd need to be sacrificing circa £35k a year to do that.
If that's a good thing or not depends on how much surplus cash you have.
If that's all of it, you may want take a more balanced approach, pay more into the mortgage but also build up funds outside of that.
Access to funds will allow you to retire at 55, even if the age you can access your pot raises to 57.
As part of your planning you should consider how you can maximise things like capital gains tax to reduce your tax bill once you have packed in work and also ISA's
If everything is in your pension pot, you may well end up as a higher rate tax payer in retirement as well.
If that's a good thing or not depends on how much surplus cash you have.
If that's all of it, you may want take a more balanced approach, pay more into the mortgage but also build up funds outside of that.
Access to funds will allow you to retire at 55, even if the age you can access your pot raises to 57.
As part of your planning you should consider how you can maximise things like capital gains tax to reduce your tax bill once you have packed in work and also ISA's
If everything is in your pension pot, you may well end up as a higher rate tax payer in retirement as well.
deja.vu said:
Chris, you mention breaching LTA and retirement at 55, with a pot of £280k at 40 you'd need to be sacrificing circa £35k a year to do that.
If that's a good thing or not depends on how much surplus cash you have.
If that's all of it, you may want take a more balanced approach, pay more into the mortgage but also build up funds outside of that.
Access to funds will allow you to retire at 55, even if the age you can access your pot raises to 57.
As part of your planning you should consider how you can maximise things like capital gains tax to reduce your tax bill once you have packed in work and also ISA's
If everything is in your pension pot, you may well end up as a higher rate tax payer in retirement as well.
Feel free to check my maths but assuming 3% p.a. salary inflation and 4% capital growth means adding £20k per year for the next 15 years would hit the cap from the £280k today (clearly this assumes the LTA remains static so some real fiscal creep embedded).If that's a good thing or not depends on how much surplus cash you have.
If that's all of it, you may want take a more balanced approach, pay more into the mortgage but also build up funds outside of that.
Access to funds will allow you to retire at 55, even if the age you can access your pot raises to 57.
As part of your planning you should consider how you can maximise things like capital gains tax to reduce your tax bill once you have packed in work and also ISA's
If everything is in your pension pot, you may well end up as a higher rate tax payer in retirement as well.
Good shout on the balance portfolio, I have some trackers wrapped up in ISAs plus cash tucked away for the kids university so broadly balanced in the short term.
Feel like I would benefit from a general portfolio MOT, might be time to put my hand in my pocket and bring an IFA in.
Your situation sounds very similar to mine - numbers wise.
I actually opted to switch my mortgage to interest only and divert what would have been the capital repayment - about £1000 a month - into my pension via salary sacrifice. Can’t remember how much that equates to going into the pension; I think it’s about £1660 per month or £20k per year with the 40% relief. That neatly maxes out my annual allowance.
My plan was to then use the 25% tax free at 57 to pay off the remainder of the mortgage. At 2% the numbers worked massively in favour of this, at 4% I suspect they don’t, unless I get huge returns on the pension fund. I need to have a look at it actually but I’ve got another couple of years fixed at 1.8% so I’ll hammer the pension until then. Worst case was sell the house on retirement and downsize.
That being said, my vote would be to pay off the mortgage while you can for peace of mind.
I actually opted to switch my mortgage to interest only and divert what would have been the capital repayment - about £1000 a month - into my pension via salary sacrifice. Can’t remember how much that equates to going into the pension; I think it’s about £1660 per month or £20k per year with the 40% relief. That neatly maxes out my annual allowance.
My plan was to then use the 25% tax free at 57 to pay off the remainder of the mortgage. At 2% the numbers worked massively in favour of this, at 4% I suspect they don’t, unless I get huge returns on the pension fund. I need to have a look at it actually but I’ve got another couple of years fixed at 1.8% so I’ll hammer the pension until then. Worst case was sell the house on retirement and downsize.
That being said, my vote would be to pay off the mortgage while you can for peace of mind.
The pension tax relief is all very nice.
But you are partly just deferring the tax.
Who can tell us how your pension income will be taxed in 25 years' time?
The other thing is, it's tied up until you are old.
The world changes. Your opportunities may change. I know a good few people who have done well by being able to access their capital before pension age, in order to invest in their own business. I know a few who've spaffed it on yachts too, but that may be irrelevant....
But you are partly just deferring the tax.
Who can tell us how your pension income will be taxed in 25 years' time?
The other thing is, it's tied up until you are old.
The world changes. Your opportunities may change. I know a good few people who have done well by being able to access their capital before pension age, in order to invest in their own business. I know a few who've spaffed it on yachts too, but that may be irrelevant....
I am going to say there is a third pot to think of - living, either now or until a pension kicks in.
Totally acknolwedge all this is way easier if you earn a high salary - obvious but it means you can max a pension, overpay mortgage and build a pool of savings.
My life goal is to pass as much wealth to my son as possible - so I max out my pension with a view of living off growth/income/dividends etc. and passing the capital down the line. Preservation of wealth to me does also include not hitting the lifetime allowance (whether likely or not) so contributions may need to taper down or cease at a given point.
On the basis it will be 58 or later until I can touch my pension I see a need for a secondary pot to fund living costs to either allow an earlier partial or full retirement. A 2 day a week consulting / a couple of non-exec roles appears a great plan but no guarantees it will happen. I actually see me working at a wildlife trust (minimum wage) or similar pre full or even into retirement. On that basis I'm working to build an 'ISA' pot to give a pre-58 income pot without having to work, and if I do work that means I can defer taking my pension and better preserve wealth.
If however I was single or had no dependants I'd be very different - then I would be seeking to net zero on death. Obviously there are huge variables here and you can't predict death, but I feel strongly it would be better to not have run out of money and rely on any state contribution. I would therefore aim for a moderate pension pot with more focus on ISA type savings to let me live more.
It's very personal, not one sized fits all. There is being efficient and building wealth and then there is living. I don't do enough of the latter.
For you looking to retire at 55, you will need an income until the pension is available (assume 58 at the earliest). That might be £40k in an ISA if you don't have a mortgage, or £64k if you had a mortgage (numbers plucked out of thin air!).
Edit - just watched the video linked above. Says what I say but better, although it would be down to the viewer to make a view on 'living now'. Those I know who are happiest in life are the ones who ignore the future and live - not for me but I am a weird combination of jealous of them and worried about them.
Totally acknolwedge all this is way easier if you earn a high salary - obvious but it means you can max a pension, overpay mortgage and build a pool of savings.
My life goal is to pass as much wealth to my son as possible - so I max out my pension with a view of living off growth/income/dividends etc. and passing the capital down the line. Preservation of wealth to me does also include not hitting the lifetime allowance (whether likely or not) so contributions may need to taper down or cease at a given point.
On the basis it will be 58 or later until I can touch my pension I see a need for a secondary pot to fund living costs to either allow an earlier partial or full retirement. A 2 day a week consulting / a couple of non-exec roles appears a great plan but no guarantees it will happen. I actually see me working at a wildlife trust (minimum wage) or similar pre full or even into retirement. On that basis I'm working to build an 'ISA' pot to give a pre-58 income pot without having to work, and if I do work that means I can defer taking my pension and better preserve wealth.
If however I was single or had no dependants I'd be very different - then I would be seeking to net zero on death. Obviously there are huge variables here and you can't predict death, but I feel strongly it would be better to not have run out of money and rely on any state contribution. I would therefore aim for a moderate pension pot with more focus on ISA type savings to let me live more.
It's very personal, not one sized fits all. There is being efficient and building wealth and then there is living. I don't do enough of the latter.
For you looking to retire at 55, you will need an income until the pension is available (assume 58 at the earliest). That might be £40k in an ISA if you don't have a mortgage, or £64k if you had a mortgage (numbers plucked out of thin air!).
Edit - just watched the video linked above. Says what I say but better, although it would be down to the viewer to make a view on 'living now'. Those I know who are happiest in life are the ones who ignore the future and live - not for me but I am a weird combination of jealous of them and worried about them.
Edited by boombang on Wednesday 11th January 10:35
Boombang's post is IMHO worth taking note of.
It's good to have an ISA pot or some other non-pension saving.
Even great careers can go bad. All sorts of stuff can happen. Being able to make the best of a year out of work or whatever else comes your way can make a huge difference.
An offset mortgage was good for me, as one prong of the fork. A small stack of cash sat in an account, earning its keep by negating the mortgage interest, but in my hands instantly if I wanted it, no need to justify that to anyone.
It's good to have an ISA pot or some other non-pension saving.
Even great careers can go bad. All sorts of stuff can happen. Being able to make the best of a year out of work or whatever else comes your way can make a huge difference.
An offset mortgage was good for me, as one prong of the fork. A small stack of cash sat in an account, earning its keep by negating the mortgage interest, but in my hands instantly if I wanted it, no need to justify that to anyone.
Crumpet said:
Your situation sounds very similar to mine - numbers wise.
I actually opted to switch my mortgage to interest only and divert what would have been the capital repayment - about £1000 a month - into my pension via salary sacrifice. Can’t remember how much that equates to going into the pension; I think it’s about £1660 per month or £20k per year with the 40% relief. That neatly maxes out my annual allowance.
My plan was to then use the 25% tax free at 57 to pay off the remainder of the mortgage. At 2% the numbers worked massively in favour of this, at 4% I suspect they don’t, unless I get huge returns on the pension fund. I need to have a look at it actually but I’ve got another couple of years fixed at 1.8% so I’ll hammer the pension until then. Worst case was sell the house on retirement and downsize.
That being said, my vote would be to pay off the mortgage while you can for peace of mind.
I take the (unconfirmed) view that the spread between mortgage rates and equity / bond returns will always be constant (or accretive) so don’t see that as a real risk.I actually opted to switch my mortgage to interest only and divert what would have been the capital repayment - about £1000 a month - into my pension via salary sacrifice. Can’t remember how much that equates to going into the pension; I think it’s about £1660 per month or £20k per year with the 40% relief. That neatly maxes out my annual allowance.
My plan was to then use the 25% tax free at 57 to pay off the remainder of the mortgage. At 2% the numbers worked massively in favour of this, at 4% I suspect they don’t, unless I get huge returns on the pension fund. I need to have a look at it actually but I’ve got another couple of years fixed at 1.8% so I’ll hammer the pension until then. Worst case was sell the house on retirement and downsize.
That being said, my vote would be to pay off the mortgage while you can for peace of mind.
I also think it’s interesting you talk to “piece of mind” - interesting how we all place different takes on this. My wife is very much in the camp of “£200k mortgage at retirement is bad” and doesn’t see the value of “having £300k more pension at retirement”.
By no means a criticism, just interesting how a bit of emotion is injected into the rationale of financial decisions (can you tell I’ve been watching a bit of James Shack this morning ?).
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