Phased income drawdown
Phased income drawdown is an option open to those under age
75, who want to take their pension benefits, and who do not
require the full amount of tax-free cash available from their
pension funds. Phased
income drawdown can be particularly
tax-efficient, both in terms of death benefits and in the money
taken from the plan.
How phased income drawdown works -
e.g. Mr Jones is 60, self-employed and is reducing the number
of hours he works. He expects his income from employment to be
£20,000 per year, and has no other taxable income. He wants to
receive the equivalent of £5,000 per annum after tax to make up for
the reduced earnings, but does not want to buy an annuity.
He has a pension fund of £200,000 and
he has no need to take the
tax-free lump sum available.
Full Income
Drawdown
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| 1. Mr Jones
takes £50,000 as a lump sum. The first problem
he faces is where to put the money so that it is
tax efficient, both in terms of Inheritance Tax,
as it now forms part of his estate, and in terms
of Income and Capital Gains Tax |
| 2. The remaining
£150,000 needs to provide an income of £5,000. |
| 3. To provide
£5,000 after basic rate tax requires a gross
amount of £6,410. |
| 4. Therefore he
decides to take £6,410 from his pension fund to
provide the income, which is then taxed at 22%
(in his circumstances) which amounts to £1,410. |
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Death Benefits -
income drawdown
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| In the event of
Mr Jones death, the drawdown fund can be paid
out as a lump sum, less tax at a rate of 35%.
£150,000 after tax at a rate of 35% equals
£97,500.
The tax-free cash
of £50,000 he has already taken could be liable
to Inheritance Tax at a rate of 40%, leaving
only £30,000.
So in the worst
case scenario, the pension fund of £200,000
could suffer tax of £73,910 if he takes the
benefits in this way, and dies.
Please note that the value of the fund does not
have to be taken as a lump sum -
see
unsecured
pension for more details of the other death
benefits. |
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|
Phased Income Drawdown
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| 1. As Mr Jones
has no requirement for the lump sum, he opts for
phased income drawdown. |
| 2. To get £5,000
he only uses £18,000 of his pension. |
| 3. He takes 25%
of the £18,000 which gives him a lump sum of
£4,500. |
| 4. The remaining
£13,500 is invested in a full drawdown contract.
|
| 5. He then
requires only £500 after tax to provide
the £5,000 required. |
| 6. To provide
£500 after basic rate tax requires a gross
amount of £641. |
| 7. So to provide
the £5,000 Mr Jones has only used £5,141 of his
pension fund. £4,500 is tax-free cash, and £641
is taxable income. This process can be repeated
until the tax-free cash is depleted or until age
75. |
| |
Death Benefits -
phased income drawdown
|
| If Mr Jones were
to die then his loved ones could receive the
following:
£13,500 less tax at a rate of 35%, which amounts
to £8,775.
The remaining
pension pot of £182,000 is paid out without the
deduction of tax, since it is held in a pension
plan under trust. It does not form part of his
estate so it is not event liable to Inheritance
Tax. |
|
The phased income drawdown route
offers better death benefits in terms of a lump sum payment. A
phased income drawdown contract is in effect two different
plans, an unvested personal pension and a vested income drawdown
element. The death benefits from an unvested personal pension
allow all the funds to be paid as a lump sum (assuming there are
no protected rights) without the deduction of tax, and it is not
normally liable to Inheritance Tax as such plans are under
trust. The vested element is, until age 75 able to be paid out
less tax at a rate of 35%.
The above example only shows one
year, but there would be no reason why it could not
continue, and as each year passed take more tax-free cash and
more income. In fact there would not be any requirement to take
any taxable income at all, and just a portion of the tax-free
cash could be taken each year.
It is even possible that the amount
of tax-free cash could grow, or perhaps fall. It would always be
25% of the unvested element, so if that grew in value so would
the amount of tax-free cash.
So if you don't need the
lump sum, and you are considering income drawdown, you might want
to consider a phased income drawdown contract.
If
you have a question about income drawdown or want to discuss
phased drawdown in more detail and how it can benefit you then contact us online or
phone 0800 011 2713 .
Don't take any
chances with your pension, your retirement will depend upon
it,
talk to an
independent pension specialist now

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