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I retire this year and expect to need £20k pa to top up my Final Salary and State pensions. I am over the LTA. Should I take the top up from my ISAs or SIPP?

22 March 2021

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Question by Fay

I retire this year and expect to need in the order of £20k per annum to top up my Final Salary and State pensions. These and my SIPP mean that I am circa £60k over the LTA. In addition, my ISAs, accumulated over many years, are worth just shy of £300k. Should I take the top up from my ISAs or SIPP which has a value of £580k? Looking at this inversely top up from my SIPP means my ISAs grow and anything remaining after death would be subject to IHT at 40%. Top up from my ISAs means SIPP grows with LTA test on death attracting punitive tax charges of 55% on growth.

Answered by Dennis Hall

Dear Fay

Without full details of your pensions and Lifetime Allowance these will be general comments relying on some assumptions e.g. your Lifetime Allowance is £1,0073,100. Your Final Salary pension benefits are counted against your Lifetime Allowance, but not your State pension benefits.

Your SIPP benefits won’t be tested against the limit until you ‘crystallise’ (access) them. Whether or not you crystallise the SIPP it will be tested for Lifetime Allowance purposes at age 75 or on your death if sooner.

Taking an annual £20,000 from the ISA means you won’t pay any income or capital gain taxes and your estate is reduced by £20,000 and avoids a potential £8,000 inheritance tax. On the flipside, money remaining in the SIPP could be taxed at a maximum of 55% in the future.

Taking the money from the SIPP means drawing down enough to meet your £20,000 income requirement as well as the tax on the withdrawal. The amount exceeding the Lifetime Allowance pays tax at an effective rate of 55%.

The loss to your pension to pay a net £20,000 is somewhere between £28,000 (paying 40% tax) and £44,444 depending on how much the pension exceeds the Lifetime Allowance. For ease I’ve ignored any tax-free cash entitlement.

Because you’ve not taken the money from the ISA it remains in the estate and is ultimately taxed at 40%, therefore that £20,000 that would have been used as ‘income’ becomes £12,000 after inheritance tax.

Whether or not you take money from the SIPP the amount that exceeds the Lifetime Allowance will eventually be taxed. Alternatively, if you don’t use the money from the ISA it will eventually be taxed on death. When calculating the money available to your estate/beneficiaries the optimal route suggests drawing down from the ISA first, and then from the SIPP.

Answered by

Dennis Hall

Chartered Financial Planner

I’ve only ever had two careers, Royal Marines Commando and Financial Planner. The physical requirements between the two roles are a world apart, but what I learned in the Marines about high standards, ethical behaviour and purposefully serving others has served me well as a financial planner.