Is there any merit in this approach?

[RaspberryFool]

I'm approaching that time when I need to consider what to do with the pension pot in my SIPP. It will be used to top up the income from a couple of final salary schemes. I do not believe that using the fund to buy an annuity represents good value, so I have ruled that option out.

The three alternatives I have considered are:-
1) Leave the entire pot invested in the pension and take the natural (taxed) income.
2) Take up to 25% as a tax-free lump sum, invest that in ISAs for my wife and I, then use the (tax-free) income from the ISAs and the (taxed) pension income.
3) Wind down the entire pension fund over a number of years using UFPLS withdrawals, invest the proceeds in ISAs and use the natural (tax-free) income from the ISAs.

I ran some experimental figures through a spreadsheet and, much to my surprise, the third option seems to come out on top. Of course, a lot depends upon the rate of return and the number of years over which one considers the approach. Even though one will pay more on tax on the 75% taxable element of the UFPLS withdrawals, the benefit of receiving tax-free income from the ISAs rather than taxed income from the pension seems to win over the course of time.

Obviously there is the danger of the tax treatment of ISAs changing in the future. The question is does this approach have any merit? Has it been discussed elsewhere? Have I missed anything obvious?

Your thoughts appreciated.

RF

[JohnB]

Have you considered the Inheritance Tax advantages in leaving the money in the pension. My inclination would be put it in ISAs too, as they don't fiddle with the rules for those, but having it excluded from IHT is tempting.

Any chance of you breaking the £1030000 lifetime limit on the combined DC and DB pensions?

[Alaric]

Have I missed anything obvious?

Don't forget the restriction as to how much you can place in an ISA in a single year. That might dictate that you need to use the drip feed approach through UFPLS. Watch out as well for having so much income from the SIPP and your other income that you hit a higher rate threshold.

[RaspberryFool]

(Sadly) there is no chance of me approaching the lifetime allowances or entering into the higher rate tax band. I allowed for phased withdrawals of £40k to move into ISAs.

[Chrysalis]

In option 1, if you 'take the income' from the pension pot then this is effectively UFPLS and 25% of the withdrawals will be tax free. Apologies if you already took this into account.

I agree that the IHT advantages are worth thinking about very carefully.

[RaspberryFool]

Thanks for the pointers to the IHT benefits of pensions over ISAs - something which I had not appreciated and exactly the sort of reason for posting the question.
I hope that the kids appreciate it eventually ...
RF

[GeoffF100]

I'm approaching that time when I need to consider what to do with the pension pot in my SIPP. It will be used to top up the income from a couple of final salary schemes. I do not believe that using the fund to buy an annuity represents good value, so I have ruled that option out.

The three alternatives I have considered are:-
1) Leave the entire pot invested in the pension and take the natural (taxed) income.
2) Take up to 25% as a tax-free lump sum, invest that in ISAs for my wife and I, then use the (tax-free) income from the ISAs and the (taxed) pension income.
3) Wind down the entire pension fund over a number of years using UFPLS withdrawals, invest the proceeds in ISAs and use the natural (tax-free) income from the ISAs.

I ran some experimental figures through a spreadsheet and, much to my surprise, the third option seems to come out on top. Of course, a lot depends upon the rate of return and the number of years over which one considers the approach. Even though one will pay more on tax on the 75% taxable element of the UFPLS withdrawals, the benefit of receiving tax-free income from the ISAs rather than taxed income from the pension seems to win over the course of time.

Obviously there is the danger of the tax treatment of ISAs changing in the future. The question is does this approach have any merit? Has it been discussed elsewhere? Have I missed anything obvious?

Your thoughts appreciated.

RF

Have made a mistake with your spreadsheet? Consider two options:

(1). Take 25% tax free, invest it tax free in an ISA, withdraw it tax free.

(2). Invest the 25% tax free in the SIPP, withdraw it and pay tax on it.

Clearly, (1) is better. If your ISA allowance is not big enough, you will have to use more than one years allowance. You can use two allowances in quick succession at the end of the tax year. Beyond that, you will be paying tax on a few years growth on the 25%, but that may not amount to much, unless you have a large pension pot.