AJ Bell pensions expert Tom Selby explains the rules
Thursday 23 May 2019 Author: Tom Selby

I’m 56 and have a defined benefit pension which will pay approximately £32,000 per year at age 60 and I also have a SIPP (present value around £200,000).

I’m interested in the lifetime allowance calculation; particularly the test at age 75. Is the defined benefit pension (which increases at 5% per year) recalculated for the lifetime allowance test at age 75?

And what of my SIPP? If this is uncrystallised is it taken into account at 60 or indeed even at 75?

Michael


Ton Selby, AJ Bell Senior Analyst says:

Because defined benefit (DB) pensions provide a guaranteed income for life (rather than being a pot of money like SIPPs) the Government has a formula to work out how much they are worth in relation to the lifetime allowance (which currently stands at £1,055,000).

To estimate how much lifetime allowance your DB pension might use up, multiply the income to which you are entitled at the scheme’s normal pension age (in this case 60) by 20. In your case that’s £640,000.

Note that if you are entitled to a lump sum as part of your DB arrangement this is included in your lifetime allowance calculation. Where a scheme has guaranteed increases above 5% a higher factor than 20 could be used in valuing your benefits, but this shouldn’t affect you.

If you take your DB pension at age 60 the test will be applied in relation to the lifetime allowance at that point in time (the allowance rises in line with CPI inflation each year).

Let’s says the lifetime allowance rose to £1,150,000, as an example, by that point (roughly in line with 2% inflation) your DB pension would have used up about 56% of this amount. This would not be tested against the lifetime allowance again.

Your SIPP, on the other hand, will be tested against the lifetime allowance when you ‘crystallise’ it – meaning you pick a retirement income route, usually either by entering drawdown or buying an annuity.

The timing of this test is based solely on the decisions you make regarding your SIPP, so isn’t linked to the point at which you are entitled to receive benefits from your DB scheme.

If you leave any of your fund untouched (‘uncrystallised’ in the jargon) then a lifetime allowance test will be applied on this money at age 75 to determine how much you have used up.

This will then be added to the lifetime allowance used up by your DB pension (and any other pensions) to work out if a tax charge should apply on any excess.

Any investment growth you enjoy on funds that have been crystallised in drawdown but not yet taken as an income will also be tested against the lifetime allowance.

Finally, caveat time: the above is correct in relation to the tax rules now but the Government has an annoying habit of tinkering with these, particularly at Budget time.

And as always, this is guidance rather than advice. If any of
this is unclear you should consider speaking to a regulated financial adviser.


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