SIPP cash buffer calculation

[vrdiver]

Mrs VRD has a SIPP which she will be able to start taking money from next year.

She plans (OK, I plan, on her behalf) to set up a regular monthly payment from the SIPP that will, over a 12 month period, equal the forecast dividends due in the same period.

My cash buffer calculation is worked out by noting what % of its dividend each equity in the SIPP pays in any month (e.g. Centrica (CNA) pays 70% of its annual dividend in June and 30% in November). I use this information to calculate the expected inflows to the SIPP for each month and then calculate the cumulative balance of money in and money out each month.

The buffer is set so that the "worst" cumulative month will still have 2x the (end of month) monthly payment. My logic is that this should be able to run with minimal interference. If there is a significant change (down) to forecast dividends, then adjustments may be needed, but otherwise, it will be on autopilot with an annual review.

Is this what others do, or is there a better alternative?

VRD

[TUK020]

Hi VRD,
Instinctively I would be a bit more cautious (my personal biases coming out here).
Having a minimum 'low tide' marker of 2 months 'pension payments' cover does not give much leeway in the event of an economic shock impacting divis - and will result in a pension income reduction (could be painful?)

My suggestion would be to set things to grow the buffer level, perhaps only take 90% of the forecast annual level of divis, until the buffer low water mark is 6 months, and then allow the 'pension' to rise, grow the buffer to 9 months, and so on.

If you look at TJH's data for divi income drop through the 2008 financial crash, it took quite a while for the divi payments to recover. I think I would want a minimum of 1 years cash buffer in reserve, but understand that trying to provision this at the outset might be quite demanding.
tuk020

[Alaric]

I think I would want a minimum of 1 years cash buffer in reserve, but understand that trying to provision this at the outset might be quite demanding.

With a little forethought, that might be straightforward. If there aren't any portfolio changes when drawdown commences, all you do is stop reinvesting dividends one year before retirement. That will accumulate twelve months worth of dividends. Whatever that amounts to, divide it by 12 and set that up as the required monthly income.

[vrdiver]

Hi VRD,
Instinctively I would be a bit more cautious (my personal biases coming out here).
Having a minimum 'low tide' marker of 2 months 'pension payments' cover does not give much leeway in the event of an economic shock impacting divis - and will result in a pension income reduction (could be painful?)

Hi TUK,

Thanks for the response. Yes, I agree totally re needing a larger cash buffer!
As per the classic HYP safety net we have a cash buffer (held in interest bearing accounts and premium bonds) for use when the divi stream is inadequate. We also have a 20% margin in the total divi stream (i.e. 20% of dividends are not spent, but reinvested). My current disaster plan allows for a 50% cut in dividends, taking 6 years to recover (at 10% recovery per year). Whilst that specific scenario is unlikely, we'd also take a long hard look at discretionary spending long before depleting our reserves!

The reason for wanting to maximise SIPP withdrawals is simply to utilise the tax allowance on income now, by diverting the excess dividends (the 20% not going to be spent) into an ISA, as Mrs. VRD's tax band will change once she starts to receive her second pension in a few years time (yes, nice problem to have!) Once that problem hits it won't matter where the excess dividends are reinvested, but in the meantime I can avoid (not evade...) her having to pay additional future tax by ensuring the funds are moved to an ISA shelter before her total income pushes her into the next tax band.

If there were to be an economic shock or a series of unfortunate company shocks, then I'd try to reflect those events in the withdrawal rate. My use of HYPTUSS forecast* dividends and payment months should give me warning of any month looking like breaching the cash requirements, so I could at that point vary the withdrawal rate quite severely if required.

Perhaps this isn't going to be quite as "hands off" as I'd first thought? I guess that's the trade-off for my attempt to maximise transfers from the SIPP to her ISA, at least until the tax band opportunity becomes irrelevant.

VRD


*I do override DigitalLook's HYPTUSS forecasts on occasion! Currently I have Carillion, Interserve and Cobham all manually set to zero. Last I looked COB was about 0.5%, IRV 0 and CLLN around 10% IIRC. It seems the consensus forecasts can take quite a while to update.

[Alaric]

The reason for wanting to maximise SIPP withdrawals is simply to utilise the tax allowance on income now, by diverting the excess dividends (the 20% not going to be spent) into an ISA

If you are in essence transferring assets from a SIPP to an ISA, you could justify selling in the SIPP to raise cash on the premise that you will repurchase in the ISA.

[swill453]

I take my drawdown in monthly amounts and have a cash buffer of about 4 month's payment. It's actually building up slowly, as I keep my annual drawdown to exactly the personal allowance and my SIPP generates slightly more than this.

This works pretty well, albeit I have to adjust the payment every year to keep up with the personal allowance increases.

However I'm considering changing this and taking a single payment once per year of the whole amount in March. For me this will reduce charges as my provider charges less for one-off payments. I can manage my cash flow with other means, cash ISAs etc.

Scott.

[TUK020]

The reason for wanting to maximise SIPP withdrawals is simply to utilise the tax allowance on income now, by diverting the excess dividends (the 20% not going to be spent) into an ISA

If you are in essence transferring assets from a SIPP to an ISA, you could justify selling in the SIPP to raise cash on the premise that you will repurchase in the ISA.

VRD,
I agree with Alaric.
If the purpose is to gradually shift from SIPP to ISA in a tax efficient manner, and you separately have a cash buffer, then I suggest you set the withdrawal amount purely from a tax boundary perspective, and possibly do this just once a year in March, when you have a clear view of available income tax headroom before the next 'rate trigger' and also how much ISA allowance is there. If this means you gradually run down the SIPP that makes sense. The main reason to keep stuff in the SIPP longer term is if tax rates clobber you, or if you intend to leave it to offspring (you can bequeath pensions directly and not through your estate)
TUK020

[vrdiver]

I take my drawdown in monthly amounts and have a cash buffer of about 4 month's payment. It's actually building up slowly, as I keep my annual drawdown to exactly the personal allowance and my SIPP generates slightly more than this.

This works pretty well, albeit I have to adjust the payment every year to keep up with the personal allowance increases.

However I'm considering changing this and taking a single payment once per year of the whole amount in March. For me this will reduce charges as my provider charges less for one-off payments. I can manage my cash flow with other means, cash ISAs etc.

Scott.

I looked at the once-off annual option, as my provider also charges less for this than for monthly payments. It was, in fact, my original model. The issue (for me) was that the savings in the fee come with an x months (10, if my current scenario holds water) lag where the cash is accruing at 0% interest, whereas I could take that 10 months of divis and re-invest it as it becomes feasible to do so, which would earn more than the additional fee!

In reality, I'm playing at the margins. It's good to hear what other people do, especially as I'll need a process I'm comfortable with as other "pots" come on line and I can automate payments properly.

VRD