Can I just ask if you use FAD & took out smaller amounts to use up the tax free cash over a longer period, would the main pension pot still grow and compound and so then when you come to take out another amount of 20%, it would be greater overall as well. e.g. if you crystalise 20% of your whole pot every two yrs and only withdraw the 25% portion, crystalising the rest in the drawdown pot, wouldn't the next 20% of the pot be larger due to compounding?? Just wondering as this would mean that over all if the pot remains growing, then you would end up being able to take more than the 25% of tax free cash overall?
Yes that’s correct, your uncrystallised pot grows due to compounding and you can withdraw 25% of that as tax free cash. So the more it grows the more tax free cash is available. However, please remember there is a total limit to how much tax free cash you can take in your lifetime, aka the lump sum allowance, which is currently £268,275. So if your pension pot is £1,073,100 or more, there isn’t additional tax free cash compounding that happens because you would have hit that limit.
Thanks. Many pension fund providers already have this cost factored in their account management charges and as far as I am aware there isn’t a specific charge for accessing your pot through fad or ufpls, although some may not offer ufpls for example. Worth asking your pension provider specifically as they should be upfront and transparent with their fees.
Thanks…this shows what I thought, that UFPLS could be more tax efficient over the longer term. In the example where the person started taking cash at 55 did the calcs consider the impact of the state pension kicking in?
Thanks, great question. No, I didn’t include state pension in the model yet but if you do, then this makes an even stronger reason to let your tax free cash compound and use it more carefully. This is because, as a taxable income, the state pension might otherwise push your withdrawals into a higher tax bracket, and hence the tax free cash is even more valuable. The caveat is if your pension pot is big enough, then you might reach the lifetime tax free cash limit of £268,275 already and you can’t really grow more tax free cash. Then this strategy doesn’t really benefit you and FAD might be better, because you withdraw less earlier and thus your pot compounds more.
Brilliant video. UFPLS does seem a better option, especially with the state pension kicking in as per the other comment here but as you say in the video, governments might change the rules so there is a good argument to take the tax free cash while you can. Did you change the thresholds for the higher tax rates in your model? I know the government hasn't changed them for ages but I'd be very disappointed if they remained the same for the next 20-30 years!
Thanks. Actually, I used inflation here to create a situation where the withdrawals would increase over time but the 'tax module' in the code did not include adjustments to personal allowances, thresholds and other allowances...etc. I am currently making adjustments to that (as part of a bigger project). However, I re-ran the script and the quick fix was not to model inflation specifically but instead model everything in real terms. E.g. 8% growth would be 5% real growth and the withdrawals amount would be flat over time. So again the mechanisms in the video are still present from what I can see, i.e. using up tax free cash ( TFC) early, comes at the cost of missed TFC compounding which therefore favours UPFLS style withdrawals. But on the other hand using the tax-free cash leaves more wealth behind and compounds your total wealth more, favouring FAD. Now testing with different values, the vast majority of times FAD came ahead, except in some 'edge' cases, like here. In fact, to be honest, I had to massage the inputs a bit to get this contrarian scenario (right growth rate, pension pot size, withdrawal amounts...etc) to get UFPLS to look better. So I wouldn't say one strategy is better just based on this simple model, I just wanted to show some really effect, I guess. To find the right withdrawal strategy, I think we would need an advanced financial planning tool taking in account all other elements e.g. ISAs, portfolio risk, spending flexibility, inheritance tax...etc. (Like the ones the Financial Advisors use). I hope to build something at that level someday!
I would be extremely careful with paying more tax earlier using UFPLS as larger withdrawals increase sequence risk. A linear model wont do this justice. Also we aren't concerned with how much tax we pay just how much money we have left / longevity of the pot. The total tax shown is meaningless as its spread out over 30 years and it is valuing £100 of tax 30 years from now the same as £100 of tax today. Showing it in today's money (inflation adjusted) would be more useful - though still not showing the whole picture. I also have modelled this and don't get the same results with FAD coming out further ahead, suggesting this is very assumption dependant. It doesn't seem as if you raise any of the thresholds at all. Adding in state pension improves the FAD numbers more.
Thanks and you're correct! I guess I should have made it clearer that this is an 'edge' case as most of the time FAD was indeed ahead. I had to massage the inputs a bit to get UFPLS to come out ahead and still only marginally (right growth rate, pension pot size, withdrawal amounts...etc). I would hope one doesn't think that I am implying UFPLS is better than FAD, from the video, because that's now was going for! Agreed regarding the sequence of returns risk - it's generally the problem with simplistic linear growth models like here. I re-ran the script to account for adjusted thresholds (or rather a workaround!) and again FAD is ahead most of the time but 'edge' cases still exist. In your model, do you have any scenarios where UFPLS comes out ahead of FAD ? Also, just curious, did build/code your own model or use some commercial software ?
You could just replicate UFPLS using FAD as you mention at the end of the video but don't show a worked example. Just take the tax-free cash and taxable income up to the £12570 limit as shown in your previous video. Flexi-access is just that..Flexible! Looks like you engineer the outcome by insisting on just taking tax free cash from FAD. I can't see any advantage to UFPLS if you take drawdown income up to the tax-free amount. As long as the pot is big enough to crystallise into drawdown.
