Pension Flexibility – The Drawdown Regime
This is the first in a series of posts regarding pension decumulation. Those sitting the CII AF7, R04, or J05 exams should find this post particularly useful in their revision.
In the first of this series of posts on pension decumulation, we start off by looking at drawdown. Drawdown is one of the main options for pension decumulation and its popularity continues to increase, with a recent FT adviser poll suggesting well over 80% of advised clients use the drawdown route to access their retirement savings.
Since 6 April 2015, it has not been possible to designate funds into a new capped drawdown arrangement, although capped drawdown arrangements set up before 6 April 2015 still remain, along with the maximum income review process where members are limited to income at 150% of the Government Actuary Department (GAD) rate.
If a capped drawdown member designates further funds into their existing pre-2015 capped drawdown arrangement, this will not trigger flexi-access drawdown. However, if the member is with a provider that sets up a new arrangement for newly designated funds, this will not count as capped drawdown, and instead will be treated as flexi-access drawdown and will mean the money purchase annual allowance (MPAA) of £4,000 is triggered.
Provided income withdrawals continue within the maximum GAD limit, the annual allowance position will not change – which means the member can still have a £40,000 annual allowance for contributions to defined contribution schemes (unless the tapered annual allowance applies). So, for those members who want to maximise pension contributions, staying in capped drawdown would continue to be the best solution. However, if they exceed the maximum income limit, they will automatically be switched into flexi–access drawdown with a consequent reduction to the MPAA of £4,000.Here's a sample exam question you can try. It'll help with CII R04 exam revision - specifically pension decumulation. Click To Tweet
All new drawdown arrangements set up after 6 April 2015 are flexi-access drawdown (FAD). Flexible drawdown disappeared after 6 April 2015 with any funds already in flexible drawdown automatically converting to FAD. Like flexible drawdown, there are no limits to the amount of withdrawals that can be made under FAD.
Converting from flexible drawdown into flexi-access drawdown triggered a new opportunity to make contributions of up to £4,000 a year under the MPAA provisions, whereas under flexible drawdown the annual allowance was set to zero.
The lack of restriction for members accessing funds under FAD means that advice is vital to make sure that funds last as required.
Income from drawdown
Normally a tax-free pension commencement lump sum (PCLS) of up to 25% of the crystallised fund will be payable if required each time a benefit crystallisation takes place. The remaining 75% of the crystallised fund can remain invested or used to provide an income as required. This income will be taxed as earnings in the usual way.
Part or all of the drawdown fund can be used to buy an annuity at any time.
Over to you!
Try the exam question below (from our R04 mock paper):
Sally was in capped drawdown on 5 April 2015. She took the maximum PCLS from a fund that was worth £385,000. Sally’s GAD rate is £53 per £1,000, what is the maximum income Sally is entitled to?
The answer is below.
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Answer C: Sally has taken the maximum PCLS (25% of her fund); therefore, her remaining fund invested into pension drawdown is £385,000 x 75% = £288,750. If Sally’s GAD rate is £53 per £1,000, applied to her fund this equates to £288,750/£1,000 x £53 = £15,303.75. The maximum income she can take in capped drawdown is 150% of GAD = £15,303.75 x 150% = £22,956 (rounded up).