Part of my SIPP is in capped drawdown. I have accessed the pension by withdrawing my 25% tax-free allowance and have also taken some taxable income over the years. I am now considering adding some further cash to my SIPP so what do I need to consider before I do this? Would a new contribution allow me to withdraw 25% tax-free?

Paul

Tom Selby, AJ Bell Head of Retirement Policy, says:

First, let’s tackle the main bit of jargon in your question – what exactly is ‘capped drawdown’?

Shares readers are probably familiar with the term ‘drawdown’, where you keep your retirement pot invested and take a flexible income to suit your needs. When you commit funds to drawdown, you are able to take up to 25% of your pot tax-free.

For example, someone with a £100,000 pension who commits £30,000 to drawdown could also take £10,000 tax-free.

Capped drawdown was a version of drawdown that existed before the ‘pension freedoms’ were introduced in April 2015. Under capped drawdown, you can invest in exactly the same way as drawdown, but your annual withdrawals are limited to 150% of the ‘Government Actuary’s Department’, or GAD, annuity rate.

The GAD rate is designed to reflect the healthy annuity rate available in the market at different ages. The rates are updated monthly.

There are people who entered capped drawdown pre-April 2015 who are still in capped drawdown today. The maximum income someone in capped drawdown can take is reviewed every three years before age 75, and annually post-75.

Provided you have an existing capped drawdown arrangement, you can make extra contributions to this plan. New contributions will generate a fresh entitlement to tax-free cash, as long as you have sufficient lifetime allowance available.

However, if you exceed your maximum income cap (i.e. 150% of the GAD annuity rate) your capped drawdown plan will automatically become a flexi-access drawdown plan. The main change is that your annual income will not be limited. The £4,000 money purchase annual allowance or MPAA will also be triggered.

Capped drawdown is no longer available for anyone accessing their benefits for the first time, and once you switch out of capped drawdown you can’t go back.

One reason to stay in capped drawdown is that taking an income this way doesn’t count as flexibly accessing your pension, so provided you stay within your income limit, it doesn’t trigger the MPAA and you can retain a £40,000 annual allowance. In flexi-access drawdown, taking even £1 of taxable income will trigger the MPAA.

DO YOU HAVE A QUESTION ON RETIREMENT ISSUES?

Send an email to asktom@sharesmagazine.co.uk with the words ‘Retirement question’ in the subject line. We’ll do our best to respond in a future edition of Shares.

Please note, we only provide information and we do not provide financial advice. If you’re unsure please consult a suitably qualified financial adviser. We cannot comment on individual investment portfolios.

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