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How pensions will help you reach financial independence quicker than ISAs alone

How pensions will help you reach financial independence quicker than ISAs alone post image

This is part two of a series on how to maximise your ISAs and SIPPs to achieve financial independence. Part One explained why you shouldn’t just target a single Financial Independence ‘number’ when you need to make the most efficient use of multiple tax shelters.

Most people, young and old, should exploit their personal / workplace pension options, from SIPPs to Master Trusts, even if they’re aiming for rapid financial independence.

Before I explain why, a quick reminder:

  • ISA money is taxed before it goes into your account but not when it’s withdrawn.
  • Pension contributions are taxed when withdrawn, but not when they’re put in.

I’m simplifying a little, but essentially that’s the case.

The timeliness of taxation offers no advantage to either ISAs or SIPPs.

An ISA that taxes you at 20% on the way in and 0% on the way out would leave you with exactly the same amount invested as a SIPP that taxes you at 0% on the way in and 20% on the way out.

The maths makes no difference to your investment returns if the tax rates are the same, as The Investor has showed.

But SIPPs beat ISAs and LISAs because the tax rates are not the same.

The comparison below is the simplest way I can think of to illustrate.

Why SIPPs beat ISAs and LISAs for maximizing post-tax returns

In each of the following scenarios, the number in pence is what you have left from £1 gross – once tax is deducted on the way in and/or on the way out.

ISA savings – Basic Rate taxpayer

Each £1 is first taxed at 32% (20% income tax + 12% National Insurance contributions):

£1 x 0.68 (32% tax on way in, 0% tax on way out)

= 68p left

Your ISA leaves you with 68p for every £1 gross you contribute. (Remember, we can ignore investment returns because they will be the same for every account in this comparison, and the timeliness of taxation makes no difference.)

SIPP savings – Basic Rate taxpayer

Each £1 is first taxed at 32% (20% income tax + 12% National Insurance contributions):

£1 x 0.68 (32% tax) = 0.68

But there is tax relief:

0.68 x 1.25 (20% tax relief) = 0.85 (85p is left from £1 gross on way into SIPP)

£0.85 x 0.85 (15% average tax paid on SIPP income after 25% tax-free withdrawal and 20% Basic Rate tax paid on the remaining 75% of income) = 0.7225

= 72p left

So the SIPP leaves you with 72p on the £1, whereas the ISA leaves you with 68p, in a comparison I deliberately skewed against the SIPP.

How skewed?

Well, in reality some of your SIPP income will be withdrawn tax-free using your Personal Allowance (PA). I also haven’t factored in the benefit of salary sacrifice or employer contributions. (I appreciate they’re not available to everybody).

SIPP savings – Basic Rate taxpayer, including Personal Allowance

The SIPP advantage improves dramatically when you account for tax-free Personal Allowance withdrawals of income.

£1 x 0.68 (32% tax) = 0.68

0.68 x 1.25 (20% tax relief) = 0.85

£25,000 income withdrawn from SIPP:

£25,000 x 0.75 (after 25% tax-free withdrawal) = £18,750 taxable income

£18,750 – £12,500 (Personal Allowance) = £6,250 taxable income

£6,250 x 0.2 (20% tax) = £1,250 tax paid

1,250 / 25,000 x 100 = 5% average tax paid on income

£0.85 x 0.95 (0.85 is left from £1 gross on way in, 5% tax average tax paid on way out)

= 80p left

In this scenario, the 80p you get out of a SIPP is worth over 17% more than the 68p dispensed by an ISA. Mileage varies depending on how much you withdraw from your SIPP in any one tax year.

The effect of National Insurance is also interesting here. Tax relief examples generally show 80p being grossed up to £1, or £1 being grossed up to £1.25, to show you how 20% tax relief works. (Just multiply your net figure by 1.25). But much depends on how your pension contributions are deducted.

In a scenario where every £1 gross is down to 68p by the time it hits your bank account, after income tax and National Insurance, then things don’t look quite so good. Put 68p into your pension, multiply by 1.25 and you’ve got 85p. That’s much better than an ISA but salary sacrifice – which enables you to sidestep National Insurance – is a powerful benefit if your workplace offers it, and if your pension contributions would ordinarily be taxed at the Basic Rate or higher.

SIPP savings – Basic Rate taxpayer, including salary sacrifice and PA

Here’s the same scenario again boosted by salary sacrifice:

£1 x 1 (salary sacrifice = no tax on the way in)

£25,000 income taken from SIPP:

£25,000 x 0.75 (after 25% tax-free withdrawal) = £18,750 taxable income.

£18,750 – £12,500 (Personal Allowance) = £6,250 taxable income

£6,250 x 0.2 (20% tax) = £1,250 tax paid

1,250 / 25,000 x 100 = 5% average tax paid

£1 x 0.95 (£1 gross on way in, 5% tax on way out)

= 95p left

Lordy! Now your SIPP funds are worth 40% more than your ISA’s at 95p vs 68p on the £1.

And we still haven’t thrown in employer contributions – in short, just bite their hand off whenever available.

Wealth warning Salary sacrifice can leave low earners out of pocket, and it has wider ramifications for other employment benefits. Check this link for more on salary sacrifice and pension tax relief in general. Salary sacrifice can also be a quagmire for high-earners colliding with the tapered annual allowance. That’s a whole other kettle of articles.

I won’t bore you with all the permutations but here’s another couple of useful examples:

If you took a £50,000 SIPP income in the above scenario, you’d still have 90p on the £1.

Take £50,000 and you’re left at the top of the Basic Rate tax band on £37,500, after deducting your 25% tax-free withdrawal. Deduct another £12,500 for the Personal Allowance and only £25,000 remains taxable at 20%. £5,000 tax divided by £50,000 income means you pay an average tax rate of 10% – leaving you with 90p on the £1.

A Higher Rate taxpayer is left with just 58p on the £1 from an ISA.

What about a Lifetime ISA?

LISA savings – Basic Rate taxpayer

£1 x 0.68 (32% tax on way in)

0.68 x 1.25 (25% gov boost) = 0.85 (0% on way out)

= 85p

LISAs are good for saving for a house but are generally worse than SIPPs as a retirement savings account. You can’t access it until age 60 for retirement without taking a 25% penalty charge, and personal pensions also trump LISAs when you consider inheritance tax, means-testing, and bankruptcy scenarios.

If retiring before the minimum pension age (when you can access your personal pensions) means putting everything you can into your ISAs then forget about your LISA.

If you want to create more tax-free income from age 60 and you’re maxing out your pension’s Annual Allowance, or are worried about hitting your pension Lifetime Allowance then LISAs come into play.

Defined benefit (DB) pensions add another level of complexity, and now is not the time to get bogged down in it. Ultimately DB pensions take pressure off your personal pension, and hopefully the series will give you enough knowledge to see how they fit into your own plan.

There may be some people who discard personal pensions because they aim to retire extremely early, or some other unusual circumstance applies.

But most people will be better off using a personal pension to fund much of their later life from the minimum pension age on.

In the next post in the series, I’ll explain how to work out how much you need to put in your ISA versus your personal pension to hasten financial independence.

Take it steady,

The Accumulator

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{ 141 comments… add one }
  • 101 DumbRadish January 25, 2020, 9:16 am

    I think AVB has it spot on. The flexibility of the ISA is surely worth sacrificing some potential extra return.
    Also I can’t see that anyone has mentioned any implications of tax rates changing. If the basic rate goes up after you retire, surely that makes pension savings vs ISAs less efficient?
    Of course taxes might stay the same, or even go down (I managed to keep a straight face whilst writing this), and yes the ISA rules might be tinkered with (though I struggle to believe the tax free nature of existing savings would be altered).
    Given the uncertainty of a post-Brexit society, with likely populist high spending governments, it seems pragmatic to have a decent pot of tax free money available at any time.

  • 102 The Accumulator January 25, 2020, 9:46 am

    Yes, I really don’t think anybody has advocated you put everything into a pension because it’s tax efficient at the expense of having accessible assets in an ISA. This is afterall, the whole point of the series! I’m glad we all agree on that.

    Regulatory changes to all and any aspect of the system are brought up by all and sundry. Whaddya gonna do? Hedge your bets of course, don’t bank on any one vehicle or institution to make your dreams come true but don’t get paranoid either. The system can and does change for the better sometimes.

  • 103 The Accumulator January 25, 2020, 9:53 am

    @ Naeclue and Aureus – gotcha. Thanks for setting me straight Naeclue. All the same, the slightly lower fee you can score with an ISA account doesn’t wipe out the SIPP advantage even focussing on the component saved after filling the Personal Allowance and ignoring any employer contribs. I’ve had a chance to run the numbers and the SIPP is still ahead after 50 years of compounding using a cost skewed in favour of Aureus’ thesis.

    Also Naeclue – thank you for your sterling contributions to the thread!

  • 104 Richard January 25, 2020, 11:29 am

    This series has really got me thinking about this, so thanks. The main issue is still trying not contribute to the pension more than the minimum required. Lets say you need 500k in pensions to cover from 58 onwards. Do you front load that and invest the max into pensions today. So you will be done saving in a few years and let natural growth get you to the final target by 58? Then switch to ISAs. Big pro is your earning potential could take a downturn in the future and maximising the tax relief now is clearly a winner. But what about future employer pension contributions (aka free money) and what if your growth rate is off? Dont want to be sitting on £1m at 52 and cant stop working as not enough in ISAs…. And how can you predict when you will stop work and so stop employer contributions? Etc.

    I need to spend time modelling different scenarios in excel!

  • 105 Faustus January 25, 2020, 12:14 pm

    I do wonder how much lifespan this (otherwise fascinating and helpful) advice will have, when there is a widespread expectation that tax relief on pensions will be dramatically overhauled in the near future.

    Almost annually now, for several weeks before the budget, we have a slew of articles in the media shouting about how pension tax relief is under threat. An example is in today’s Times which has two pension advisers suggesting that tax relief on pension contributions should either be scrapped entirely or a flat relief offered instead (to the detriment of those above the basic rate threshold). If that does happen it is likely that the opportunities around salary sacrifice will have to be adjusted too.

    Unfortunately, the political narrative has moved towards a position where pension tax relief is painted as a perk for the rich, and given our sclerotic economy, it is likely the Treasury will see this as a low hanging fruit to be plucked in order to juice up their balance sheet. I suspect that due to their nature ISAs are likely to be safer from fiddling than pensions, though it is possible to anticipate one day a limit being imposed on how much one can hold in them – perhaps around £1m to match the pension LTA (which for most of us would not be a serious imposition).

  • 106 Finumus January 25, 2020, 12:30 pm

    @Faustus These pundits always say this because they get paid a fraction of their money under management. They are just try to scare people into topping up now.

  • 107 The Accumulator January 25, 2020, 12:31 pm

    Variants on those articles are published every year around this time – presumably the media find they get a lot of clicks from readers wondering if they need to stuff more into their pensions before financial year end.

  • 108 Aureus January 25, 2020, 2:50 pm

    @TA and Naeclue

    Thanks for your responses.

    The scenario I’m interested in is a basic rate taxpayer who already has in place a work place pension, but wants to save extra for retirement. So the worker I have in mind has already exhausted (a) the personal allowance on their pension income, and (b) any matching employer contributions.

    In pure monetary terms, are they better off paying into an ISA, a LISA or a pension?

    @TA – from your analysis it seems that the worker I have in mind will get quite a lot more bang for their buck by paying into a LISA rather than a SIPP (85p v 72p). But a SIPP will have a small edge over a regular ISA (72p v 68p).

    As you’ve noted, my point was that the already small advantage of a SIPP over a regular ISA could be eroded somewhat by the higher platform fees. But perhaps this would not make a very big difference, provided they choose their platform wisely.

    I was delighted to read your article, because everything else I’ve found online, on the subject of LISA vs. pension, is highly simplistic. In particular, most articles tend to portray the situation as a straight choice between a 20-40% ‘bonus’ for paying into a pension, versus a 25% bonus on a LISA. Completely ignored is the fact that with pension contributions income tax is simply deferred till later, rather than avoided. Your article is also the first thing I’ve read that acknowledges the existence of national insurance. So thanks for the more sophisticated analysis.

  • 109 Sparschwein January 25, 2020, 3:07 pm

    AVB (#98) sums it up very well.
    I’d add that pensions come with “political risks” some of which have been mentioned here (access age, pension taxation/NI) while being a foreign citizen brings additional risks. Which increased with the Brexit mess of course.
    Higher rate tax relief is so valuable that I’m willing to bear the political risk. Below the higher rate threshold I prefer ISAs.
    But when moving abroad, under a foreign tax regime ISAs will probably become fully taxable – another point to consider in “RE” planning.

    If anyone here is in a similar situation, how do you handle this?
    (DC pension vs. ISA; LTA no concern.)

  • 110 The Accumulator January 25, 2020, 3:40 pm

    @ Aureus – I really appreciate your comment as I take a break from wrestling with some of the later episodes in the series. Like you I was frustrated by the lack of depth out there. You make an excellent point about LISA versus SIPP contribs that don’t benefit from salary sacrifice, P.A. or employer contrib uplift. My later case studies generally need to max out the full £20K in the ISA to cover the gap years between FI and minimum pension age, but that’s moot if you’re not going for FIRE.

  • 111 Al Cam January 25, 2020, 5:34 pm

    “An ISA that taxes you at 20% on the way in and 0% on the way out would leave you with exactly the same amount invested as a SIPP that taxes you at 0% on the way in and 20% on the way out.”
    Agree 100%.
    However, this is not the case if you are the tax collector.
    The tax collector gets more tax (albeit delayed) via the SIPP route!
    And, provided you hang around for long enough, he can even afford to incentivize you to take this path via the tax free lump sum.

  • 112 Haphazard January 25, 2020, 6:46 pm

    @Sparschwein,
    Not in exactly the same position, but I’ve wondered about these issues too as I’m not sure about staying in the UK.
    I think it depends if you’re moving abroad temporarily or permanently, and at what age. As far as I can work out (OECD website), the general rule is that if you spend over 6 months in another tax country, you may be taxed there on your “worldwide income”. That would include ISAs. If I were moving for the long term, I’d be tempted to look at what people do in the new country, e.g. buy property there – I don’t think you can contribute any more to existing ISAs anyway once you leave.
    International pension transfers can also be difficult – I think they have to be to a ROPS (recognised overseas pension scheme). That restricts options a lot. And if you leave it in the UK, you’d be subject to currency fluctuations in retirement, and any double-tax issues.
    I’d also be interested if others know more about moving abroad combinations.

  • 113 Mezzanine January 26, 2020, 12:18 am

    I’d been contributing a monthly amount into my son’s CTF (/JISA). However, since I’ll be 55 before he hits 17, I’ve decided to pay 115% of the CTF contribution value into my company pension scheme on the assumption that I’ll draw it down (25% TFLS + marginal 20% tax) and gift it to him when I’m 55+. I’m using a separate fund from my personal contributions that’s better risk-aligned to his situation. This shouldn’t affect my LTA position and I’m not concerned about the tapered 7y inheritance risk.

    On top of the tax/NI benefits of the above, I’m also using this to max out my matched employer contribution. From a FIRE perspective, I don’t need “more pension” as I’ve already hit my post-55 numbers with DC, DB and state. Bottom-line, this change means he will get broadly the same as if I’d contributed to his CTF, I get to add a little more of my NET pay into my ISA and I end up with a bit more pension on the side.

    @Jonathan

    re: USS – I know it’s been done-to-death in earlier comments but as an ex-NED of a now deceased USS-contributing organisation, I can say that USS has it’s contributing organisations in a last-man-standing hold. Any member organisation (mostly but not exclusively Universities) that wants to exit has to pay exit fees to bail out the future risk on all of it’s active, deferred and retired members. Of course, scheme rules may change over time to the detriment of member benefits from future contributions but for USS to actually fail would need _all_ of the contributing organisations to also fail.

  • 114 Vanguardfan January 26, 2020, 3:51 am

    Here’s another couple of factors to add to the calculations (sorry TA).
    Pension contributions via salary sacrifice reduce how much student loan you pay (remember for those graduates on the post 2012 student loan plan, their marginal income tax rate above the £21k – or is it now £25k- threshold is +9%). Maybe even straightforward contributions without sal sac would have the same effect?
    Similarly, making pension contributions to bring you below the threshold for child benefit surcharge would make such contributions even more cost effective (much like the threshold for withdrawal of personal allowance, but affecting rather more people).
    Apologies if I’ve missed these points being made already.

  • 115 Naeclue January 26, 2020, 11:42 am

    @Mezzanine, that sounds like a great plan. Only thing I would suggest is to make it clear to the plan provider that you wish the separate fund to go to your son should you die early.

    There is a risk as well of having to pay inheritance tax on the gift to your son. You need to survive 7 years after the date of the gift for it not to be considered part of your estate. Regular annual gifts to him into a jisa would likely be considered gifts from income and exempt from IHT.

  • 116 Anonymous January 26, 2020, 12:03 pm

    Yes, I’m doing it – (sacrificing to a level that you get benefits).

    I’ll start with the caveat I didn’t do it ‘deliberately’ -its just that when my life circumstances changed, I didn’t stop doing what I was doing before. My argument is I have always prioritized my pension.

    * Since 2012 ish I’ve been salary sacrificing at least 1/2 my income into employers pension/sipp. Combination of anger at help to buy, the bailouts and it being tax efficient the reasons for this. If I couldn’t have a house at a reasonable price, I’ll have a very comfy retirement plan was my thinking.

    * In 2016 I got a new job with a big payrise and the employers NI contribution given to me, so I upped it further.

    At this point, I’ll say I was single and it didn’t qualify me for benefits. I also work part time. Probably one of the highest paid part time workers in the country, but nevertheless I have long been part of the ‘cant tax free time movement’ too.

    In 2017 I found myself in a relationship with someone who, because of their life circumstances was getting a very large amount of tax credits. When I moved in, if I had changed my income to sacrifice less *they* would have lost all theirs, because as a ‘unit’ my income would have tapered away all their benefits. And I still wanted to prioritize my pension. Although we treat family money as family money, it’s important they kept that income for them too to feel like they also are contributing – and in case we split up!

    In 2019 I got another very large payrise. At this point some will have to be tapered away, but I’m minimizing it as much as I can by putting money in their pension, because they have zero provision.

    Money is moved from my work pension to my sipp annually.

    Now to the maths.

    Basically, it costs me 27p of household net income to put £1.138 into my pension, because we’d be entitled to tax credits all the way to the very top of my normal income because of unusual circumstances. Would anyone genuinely change that if that’s the situation you’ve found yourself in?

    I’ll say one thing that puts this into context for the income amounts we are talking about. If I was working full time, I would have started to lose my personal allowance.

    Ethically, some may say this is outrageous – but why? Why would anyone voluntarily accept a 73% marginal tax rate? We now have a comfortable family income and are maxing out retirement savings which is prudent. Theres no reason not to do this and the system is designed to allow it. Do some reading and you’ll find it’s been argued in parliament and accepted as a personal choice.

  • 117 Anonymous January 26, 2020, 12:30 pm

    Note – all the above has a limited shelf life to the children approaching the age where they no longer are accounted for for benefits (once over a certain age, the tax credits go away).

    It also wouldn’t work at all under universal credit if you have savings over 16k (which we do). And at some point in the near future, everyone will be moved on to that system so the opportunity disappears.

    At that time, it’s probably time anyway to reduce the contribs because I’ll have front loaded the sipp enough that with a fair wind on growth, I’ll hit the LTA anyway. And we’ll need the income so I’ll just have to go back to paying large amounts of tax. Que sera sera.

  • 118 Vanguardfan January 26, 2020, 1:06 pm

    @mezzanine, the other thing to be aware of is the MPAA (money purchase annual allowance) – once you’ve taken any taxable money from your pension (ie more than the 25% tax free) you have a reduced level of pension contributions you can make and get tax relief on, forever. Currently £4000 per year. This may not matter to you, if you have no further earnings post 55, or no wish to make further pension contributions, but it’s quite a severe restriction to impose at a relatively young age.

  • 119 miner 2049er January 26, 2020, 1:42 pm

    not sure how to ask this but here goes…
    Account/platform fee where to pay from?

    one thing I’ve noticed is that with vanguard you can choose to have the account fee taken from an account outside of the investment account this could be upto £375pa, is there a best practice for choosing?
    If its coming outside the tax shelter then in effect i’ll be paying more(if a tax payer) than if its taken from within the account, but if taken from within the account then it’ll be money that’s not compounding.

  • 120 Finumus January 26, 2020, 1:46 pm

    @miner 2049er Funny I’ve recently switched all that I can to take platform charges from ‘within’ the SIPP, because I’ve breached the LTA, so up to 55% cheaper that way!

  • 121 Naeclue January 26, 2020, 4:04 pm

    @miner, to a certain extent it is one of those “it all depends” questions, but if you pay isa charges from outside the ISA that keeps more money sheltered from tax. For your SIPP, money inside your SIPP will potentially be taxed on withdrawal, so paying charges from your SIPP means the taxman is contributing, which is clearly preferable.

    Combine the 2 and it may be best to pay your ISA fees from your SIPP, assuming that is allowed.

  • 122 Mezzanine January 26, 2020, 4:13 pm

    @Vanguardfan Good point about being mindful of the MPAA.

    I don’t intend to work beyond 55 (target is 51) but if I have the opportunity to reduce my hours after hitting my pre-55 numbers, I may keep working a bit longer. If so, I would sacrifice my entire salary into my pension after taking a nominal tax-and-NI-free amount to retain my NI credits (c. 8k for now although might be rising in future). I would supplement my income by withdrawing from ISAs as planned.

    Once I reach 55 or stop working (whichever is later), I intend to take my DB pension (early) while maximising my CLS/TFLS which I’ll invest back into ISAs. This will keep us going for some time and I hadn’t intended to start drawing down any of my DC pots until I was 61.

    Taking the DB wouldn’t trigger the MPAA – at least I don’t think so but taking more than 25% from a DC pot would. I have no intention to be earning post-55 but when it comes to it, I’ll need to think carefully about precisely when and from what source I gift the “pension money” to my son…

  • 123 Vanguardfan January 26, 2020, 4:36 pm

    Yes, the DB pension doesn’t trigger MPAA. Also, I think I’m right that you can’t salary sacrifice to below the minimum wage?

  • 124 Dan January 26, 2020, 6:52 pm

    I’ve been wondering about how much I should contribute to an ISA for some time now, as others have stated there should, in theory, be a mathematical solution.

    If we use the time value of money’s annuity formula to model our payments in:
    (P((1+r)^n-1)(1+r)/r)=Future value.
    Where: P = Contribution
    r=rate, and
    n= time

    This should determine the future value of the money in your account.
    Paying 100 in per a month with a return of 0.05 (5%) over the course of the year should leave you with 1,233 in your account.

    The time value of money also has a reducing balance formula, essentially it is the lump sum of money that you have to start with less the annuity formula.

    F=PV(1+r)^n-(P((1+r)^n-1)(1+r)/r)
    Where:
    PV = the present value of your lump some.
    So in the same exact example, if you started with a notional amount of 4000
    You’d have 2,971.65 left in your account having drawn out 1,200

    Therefore, if we know the present value of our lump sum at the time of calculation will be the future value of our contributions and that we want the future value to be zero, to have exhausted all the money in the ISA over a 10 year (120 months) with a notional 2,220 per month withdrawal.

    0=PV(1+r)^120-(2220((1+r)^120-1)(1+r)/r)

    Then a present value of 210,176 would be required with the above 0.05 rate per year.

    (P((1+r)^n-1)(1+r)/r)=Future value
    Where:
    Future value = 210,176
    r=0.05/12 and
    n= time to retirement in months.
    In my example I’m 26, so say 29 years (348 months)
    I’d calculate that as a monthly contribution of £268.314

    Proof:
    (268.314((1+0.05/12)^348-1)(1+0.05/12)/0.05/12) = 210,175
    F=210,175(1+(0.05/12))^120-(P((1+(0.05/12))^120-1)(1+(0.05/12))/(0.05/12))
    Would result in F= Minus 2.8

    Now obviously this depends on the expected rate of return, how many years you are out, how much you want to withdrawal etc. But as a basic model, does it serve the purpose of forecasting the amount you’d need to pay in now to expect to retire at the age you want?

  • 125 Mezzanine January 26, 2020, 6:58 pm

    Didn’t consider the minimum wage… 😉

    This means minimum annual salary after sacrifice depends on the number of hours worked. Maximum sacrifice for full-time work would leave you paying NI and a marginal 20% on the top £2-3k. However, reducing to 20hrs (2-3 days) per week for a nominal 48 weeks comes to around £8.3k per year under the new NLW on 1/4/20.

    Fine-tune it and I think you’d have no tax or NI to pay but would still receive NI credits…

  • 126 Sam January 26, 2020, 7:46 pm

    As someone at the start of the FIRE journey, my general strategy at the moment is as follows:

    – Where I am part of a company pension scheme, contribute enough to get the maximum employer contribution, but no more.
    – Contribute the maximum to the LISA (have managed to do the full £4,000 the last two years and on track to do so this year).
    – Any remainder goes into normal ISA.

    The reason I don’t contribute any more to the pension is partly because as a basic-rate taxpayer there is less benefit anyway. Mainly however, I believe that the age when you can first access will definitely raise, perhaps even to 65 at some point. This severe lack of flexibility is a major turn off for me.

    The LISA was always destined towards being used towards a house deposit, as I am also sceptical that the government will leave the LISA untouched until I reach the age of 60. However the bonus was and remains too good to ignore. I have contributed £8,333 in total to my LISA, and its current value is £12,000. Try getting that return anywhere else!

    As said, the rest goes into the ISA. The standard ISA is simple enough that it makes it less likely that future governments will try to interfere with it.

    Perhaps if I ever earn more, then I will start to focus more on pensions. But the government interference problem will likely always remain, so maybe I will just look to max out ISA allowances.

  • 127 Ste January 27, 2020, 1:31 pm

    @Sparschwein, @Haphazard:
    I’m in this situation, moved abroad after a few years in the UK. I decided to max out the ISA in the last year I was in Britain and keep contributing to my SIPP at the maximum allowed while I’m abroad (3,600/year gross for 5 years, basic rate relief). I figured there was no harm in putting as much as possible into the ISA – it is definitely not going to be treated favourably in other countries, but not worse either. So it’s essentially a default investment account abroad, but tax sheltered should I ever return (big disclaimer: all bets are off here if you move to the US – look up FATCA, FBAR and especially PFIC with potentially extreme reporting and tax burden on non-US accounts). And that’s right, you can’t contribute to the ISA after you leave.

    The SIPP is more complicated – I agree there is substantial political risk attached to it, especially now being European. For me personally the tax relief and the fact that it is hard to find low-cost private pension options in most European countries sold it to me in the end – the fee-savings/top-up will hopefully pay for any fees to transfer out should it become necessary. In addition it is at least far more likely to be treated as pension with favourable taxation in other countries (seems to probably include the US, but do your own research). I’m less concerned about currency risk, I could always put the fixed-income part into short- or medium-term bonds in the currency I need it in after all, doesn’t really matter that the SIPP is denominated in GBP. I should mention that the SIPP is a relatively small proportion of my overall pension plan in the long run, currently also contributing to a workplace DB scheme.

    You probably won’t be able to easily switch your broker after moving abroad, so make sure to be with one that’s got a low fee structure (obvious caveat you can’t know about future changes to fees). Also move all funds in the ISA to distributing versions in case you have to report dividends and capital gains in your future country.
    And last big disclaimer – individual situations will vary hugely so do your own research. I’m in a slightly unusual position in that I am largely exempt from national taxation in my current place, so you might for example be a lot more concerned about CGT (including unrealised gains in many countries) and dividend tax on the ISA.

  • 128 Ste January 27, 2020, 2:00 pm

    Just two more additions to the above to add some context:
    I’m not planning to stay in my current country of residence for more than a few years and am completely outside its social insurance/pension system – if you move to a place and plan to stay there for good, exploring local private and employer pension options could look appealing compared to paying into a SIPP (but again, it depends).
    And having looked at a LISA as well: I found it to be the worst option if you move abroad because it combines the inflexibility of a pension (to my knowledge you can’t use it to buy property abroad) with the tax treatment of a normal investment account (it’s unlikely to be tax exempt anywhere apart from the UK).

  • 129 Haphazard January 27, 2020, 2:40 pm

    @Ste – thanks. The practical experience is useful to hear. Good point about transferring ISA funds into distributing funds – would simplify the actual assessment of tax a lot. The last time I lived abroad I was also in an unusual situation in that I retained my UK tax residence throughout (working for an international organisation) – it does make life easier!

  • 130 Ste January 27, 2020, 2:57 pm

    @Haphazard:
    Thanks, and glad I finally found someone with that experience. International organisation is my exact situation. It does make things easier in many regards but then there’s always the uncertainty about where you are going to be next! Plus I’m admittedly unsure about how long retaining the UK tax residence lasts, especially if I might not be entitled to actual residence there anymore at some point.
    @Moderators: Apologies, please let us know if this is getting too off-topic.

  • 131 Jonny January 27, 2020, 7:53 pm

    Thanks everyone for their advice, and apologies for taking these comments off at a slight tangent!

    @Jonathan re. adding 3.66x annual DB pension (to make up to 6.66x). You say it’s “well worth while getting as close as you can to maximum tax free lump sum at retirement”. This seems quite an achievable goal – e.g. a £15K annual pension would only allow up to £54,900 (as the additional 3.66x). I assume going over is not so much a worry (with the caveat that I’d be liable to pay tax on any withdrawals above and beyond 3.66x of the pot – and to watch out for the LTA, which for the moment doesn’t seem would be a problem for me). Also for this 3.66x figure, do you mean the total value of existing SIPP + Investment Builder (+ any stakeholder pensions etc.) – or just the Investment Builder element?

    @Vanguardfan re. USS becoming expensive. It’s frustrating. When I joined not so long ago contribution rates were around 7.5%, they’ve risen and risen to 9.6% now (and possibly to 11% in Oct 2021). It’s difficult to evaluate at which point the safety of having a ‘gold-plated’ defined benefit pension is outweighed by the rate at which I’m having to make contributions at.

  • 132 AVB January 27, 2020, 8:10 pm

    I had a thought about mitigating the risk of over-funding the pension and not having enough in your isa to see you through to the minimum withdrawal age. Providing it’s not too long a gap and you’re a homeowner you could probably get a mortgage to plug the gap which you could initially repay using part of the mortgage itself; so you’d borrow what you need plus enough to make repayments until you can access your pension. Then just use the pension to pay off the mortgage. Not advocating you intentionally plan to do this and conditionally on actually being able to get a mortgage (may be best to realise your mistake before quitting work) but is one way of dealing with a situation where you’ve overfunded one pot at the expense of the other.

  • 133 Vanguardfan January 27, 2020, 8:17 pm

    @jonny, it’s not just the contribution rates that determine the value of the DB scheme, it’s the rate of benefit accrual. So for example the new NHS scheme, which I know well, has contribution rates between 5% and 14.5% (they are tiered depending on salary level, the highest level is for people on six figure salaries), but the accrual rate in the CARE scheme is 1/54 of pensionable pay, no cap, which is not bad at all. It’s uprated by CPI (maybe plus a little bit, can’t quite remember).
    My understanding is that the USS rate of accrual is only 1/75 of pensionable pay up to £50,000 max. (I also thought it was still final salary rather than career average but I might have that wrong).

  • 134 Sparschwein January 28, 2020, 1:11 am

    @Ste, @Haphazard:
    Thanks for your interesting comments.

    Re SIPP/pension while abroad, I’d think (perhaps naively) that the drawdown is simply taxed as income in the country of residence? Another question is, how would they treat the tax-free lump sum (e.g in the Eurozone)?

    Re currency risk, one can certainly mitigate this by switching pension funds into local currency stocks and bonds. A caveat is that many UK pensions seem to offer few choices in foreign bonds. My company DC scheme has dozens of GBP bond funds and zero foreign. Most of Vanguard UK’s bond funds are GBP-hedged; there is one in USD and one in EUR, that’s it. I was planning to move into Vanguard’s SIPP and now have second thoughts because of the limited choice. On the other hand, Vanguard is more likely than most brokers to stick around for the next few decades, and to keep fees low.

  • 135 Haphazard January 28, 2020, 11:03 am

    A few years ago I looked into tax in relation to a Swiss pension, having worked in various countries abroad, but being tax resident in the UK. There is a UK-Switzerland Double Tax Agreement, with a specific section on pensions. That looked promising.

    It wasn’t, really. The pension in question is not a Recognised Overseas Pension Scheme (ROPS), so I couldn’t really transfer it to the UK during the contribution phase. A lump sum payment on retirement would be taxable in both countries, despite the Agreement (HMRC confirmed the UK position to me). This might just be different if I’d lived in Switzerland at the time of accrual (gets complex). This leaves me with no option but to accept the annuity provider chosen by the pension fund – in that case payments as things stand do seem to be just taxed like a normal pension in the UK. A daft situation as the sums involved are small.

    For anyone moving abroad, I’d suggest checking whether any foreign pension you get involved with is a ROPS if you want to move back at some point. Problem is, not many are.

  • 136 Simon T January 28, 2020, 11:19 am

    @Ste, @Haphazard, @Sparschwein
    I think we should have a Monevator thread on organising Finances for abroad (they asked me to do a post – but I have some knowledge but not enough).
    ROP – wouldn’t touch with a bargepole, certainly make sure you have a SIPPs placeholder of a bit of money just in case you can’t change from a Personal IFA pension into your own managed one in time, don’t forget you can do the £2880 in £3600 for five years whilst abroad (although this may not be a good idea of the taxes on the income you are taking out outlay the UK Benefit), if you need a TFLS for this countries who tax you as income (Spain) think about whether you take this out a year before hand, some TFLS might be beneficial in ISAs or a GIA where the dividends are taxed at a lower rate than Pension Income (you could split the two), I could go on.. I would love a IFA to actually write this stuff down, most of the firms Spectrum, Blevins etc, dance around it wanting you to engage. I would engage them if they actually told me this stuff. (and lets not get into the countries who don’t have a main residence relief for house sales – again Spain, you will get caught if you sell your UK housed move to Spain in the same tax year and don’t invest all the proceeds)

  • 137 The Investor January 28, 2020, 12:08 pm

    Re: expat investing, V
    very happy for you guys to share your wisdom to your hearts content here:

    https://monevator.com/expat-investing-and-tax-us-and-uk/

    I get a really proportionate number of emails and queries about this, as I’ve mentioned before, but just don’t have any expertise.

    Would love to see that thread become a powerhouse of knowledge. Perhaps at some point I could try and harvest it for an article (or better have another crack at persuading a practitioner to have a go! )

  • 138 Edward February 10, 2020, 8:15 pm

    My company pays 10% of pensionable salary and matches 7% more. I contribute 16% meaning I get 33% of my salary paid into my pension for the price of 16.

    If I took that 16% as income I’d see only £545 a month in my bank account after tax and NI, but over £1900 goes into my pension.

    As stated above I can take £25,000 a year drawdown in retirement and pay only 5% effective tax, so unless I’m missing something obvious this seems the best plan.

    I can wait until 55 to retire.

  • 139 br1anh February 11, 2020, 1:28 pm

    Lots more talk in recent days about the government scrapping the 40% rebate and potentially salary sacrifice I would assume. I’d be livid if they do so.

  • 140 Edward Bowden February 11, 2020, 3:03 pm

    Lots of people saying 40% tax relief is unfair and should be cut to 20%.
    It’s perfectly fair unless they reduce my income tax rate to 20%!

  • 141 Sparschwein February 11, 2020, 8:33 pm

    Has anyone looked into whether these government plans of slashing pension tax relief could hit in the *current* fiscal year? Is it certainly beyond them to change the rules retroactively?

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