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Danby Bloch: UFPLS vs flexi-access drawdown is a no brainer

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If there is a straight choice between flexi-access pension drawdown and uncrystallised funds pension lump sum, flexi-access wins by a country mile in virtually every situation.

The Treasury prefers to pronounce UFPLS as “uffplus”, presumably because the plus syllable lends a positive quality to this otherwise ridiculous expression. Most pension professionals prefer to pronounce it as “uffpuls”, which reflects the essentially second-rate quality of this particular retirement solution.

I recently heard an accountant on Radio 4’s Moneybox say that his plan for drawdown was to start with UFPLS for some of his pension pots and then move onto flexi-access drawdown for the rest. At the time I could not understand the logic of such an approach and several weeks later I still fail to see why one would follow such a strategy. Given the choice between UFPLS and flexi-access, it is hard to see why one would choice UFPLS in any situation.

If you have not yet worked out the difference between UFPLS and flexi-access, here is a fast and dirty explanation. Flexi-access is almost always the preferred solution because it allows a very high degree of flexibility about the way you can draw your pension. You can draw some or all of the tax-free pension commencement lump sum without drawing the income at the same time, you can draw some or all the income without taking the PCLS or you can take some of each. Broadly speaking when you draw any PCLS, you have to designate three times the amount for drawdown – but you do not take it at the time.

In contrast, UFPLS is simple but inflexible. If you draw tax-free PCLS, then you have to draw three times the amount at the same time in the form of taxable income. So £1,000 of PCLS is coupled with £3,000 of pension income taken simultaneously.

The tax treatment of death benefits of the funds are the same either way, regardless of whether they have been crystallised for drawdown. The death benefits are tax free if the member has died before reaching the age of 75. However, if death takes place at age 75 or later, the funds are still free of inheritance tax but may be subject to income tax on the recipient.

UFPLS was offered as a concession to trusts and providers who did not want to take on the complexities of handling flexi-access but were prepared to provide their members with some kind of pension freedom without having to make a pension transfer to another provider. There are indeed some schemes that do not even offer UFPLS.

To be fair to UFPLS, there is one situation in which it is as good as flexi-access and might even be superior in some circumstances. That is where the individual wants to take tax-free cash and income together at the same time. The most common situation is likely to arise where the client wants to draw the whole of their pension pot at once. In such a situation, the UFPLS solution might sometimes be cheaper than the flexi-access solution, especially if it does not involve the expense of making a transfer to another scheme.

AJ Bell has identified another (fairly rare) position where UFPLS might be slightly advantageous. This might arise where a client’s highest priority is to make the most of their lifetime allowance and the client wants to take a mix of income and PCLS. In calculating the extent of the use of the lifetime allowance, HMRC allows rounding down of the percentage used. A flexi-access payment of income and PCLS involves two roundings down, while UFPLS allows just one. A single basis point is not a big deal for one payment but over the years the difference from lots of such payments could mount up to something more significant.

A fair number of providers have set up facilities to offer both UFPLS and flexi-access, although it is hard to see why this would be necessary. Everything that can be done through UFPLS is available with flexi-access and with a lot more choice as well.

For someone who is contemplating drawdown as a long-term income strategy, flexi-access is the obvious solution. They can choose to have income in years when their tax rates are low and tax free PCLS (if there is any left) in years of high income and tax.

In most cases, as Scottish Widows’ Ian Naismith has pointed out, the default option will be to draw tax-free PCLS in the early years of retirement in order to provide a target amount of net income. It would then make sense to draw on the taxable after using up all the tax-free allowance. This general approach allows the client to keep the most assets rolling up tax free in the pension fund for the longest period, extending the life of the fund and maximising their long-term income.

In a very simple example, a client has a fund of £200,000 and is a 40 per cent taxpayer. Her target income from this particular pension pot is £10,000 a year net of tax. If she took tax-free PCLS first, she could have £10,000 a year for five years and there would still be £150,000 left in her pension fund – even assuming no growth. But if she started drawing taxable income, it would mean depleting the fund by about £16,667 a year and, at the end of five years, there would be only about £116,665 in the pension: £38,335 less.

Flexi-access provides a wonderful opportunity for advisers to add real value to their clients’ pension investments.

Danby Bloch is chairman of Helm Godfrey

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Comments

There are 14 comments at the moment, we would love to hear your opinion too.

  1. However, Drawdown does not provide a long term guarantee of a given income, (as with an annuity).

    It also means that the funds are subject to the same investment risks as any other PPP.

    Also for pensions with smaller funds, the increased advice costs of drawdown could be an issue.
    The clients tax status is also a major factor in the impact of the two options.

    Clearly in the example given, the situation is fairly clear cut.

  2. Heather Hopkins 9th June 2015 at 12:12 pm

    Excellent piece Danby – as always. We explore this in our Platform drawdown functionality and pricing guide out this week. Our analysis suggests that most platforms offer access to UFPLS but they offer this only to offer complete functionality. In most cases, FAD fits the bill.

    Pension drawdown is complex enough without these more dreadful acronyms!

  3. I wholeheartedly disagree with this one-sided article.

    The examples in the article are incorrect as far as the sums go and these errors have further implications on the conclusions drawn.

    I reworked the examples using Mr Bloch’s initial assumptions of a £200k pot, higher rate tax payer, £10k p.a. net target income and no investment growth.

    The flexi-access drawdown assumes that tax free cash is taken for the first five years and then net income of £10k p.a. is taken which would in fact be £16.67k p.a. gross. The pot would be fully depleted after 14 years.

    The UFPLS option in actual fact would require £14.3k p.a. gross to provide £10k p.a. net. This would in fact deplete the pot at the 14 year point as well.

    There is negligible difference in £ and p terms between the two.

    Where UFPLS shines is where you don’t want to rid yourself of large chunks of PCLS which you would do in Mr Bloch’s example. With UFPLS you still retain the majority of PCLS and can pull the rest out via flexi-access drawdown in the future if so required.

    The UFPLS method is in fact improved if you start factoring growth as the tax bill is less for the same net income and the pot lasts longer.

    In conclusion, UFPLS very much has its place and shouldn’t just be dismissed out of hand.

  4. Worth noting the annual allowance situation too. UFPLS = £10k MPAA (unless ‘small pots’). FAD cash, no income = £40k AA, assuming no other trigger points.

  5. Would be really interested to see an example of how rounding down a total can be better than rounding down both parts of a split………..

  6. Douglas Brodie 10th June 2015 at 3:36 pm

    IT’S ALL GONE !

    “…But if she started drawing taxable income, it would mean depleting the fund by £16,000”.

    Hmmm, I think our editorial tax guru should just double-check this, as the bowtie is looking a tad loose on this one.

    Scenario 1 suggest using tax free cash, then taking taxable income.
    Scenario 2…suddenly all the tax free cash has gone!! And every penny is taxable.

    There is a very useful market for UPFLS, and that is where the PCLS is used to keep the taxable income below a particular tax band. This is particularly useful where a client has a DB benefit where there is no flexibility whatsoever, and has DC benefits also to be taken. Using flexi-access, once the PCLS is gone, that’s it, it’s all 100% taxable.

  7. The only scenario where UFPLS is favourable is where the client requires capital, has no other taxable income in the current tax year and has a small pension pot (ideally below £15k) whereby the ‘taxable’ 75% uses their personal allowance and the whole fund is effectively ‘tax free’ with no on-going charges.

  8. Guilty as charged Doug. £16,000 should have read £16,666.67. Late night writing/typing has a gross effect on grossing up. The bow tie is drooping a little! Not that it affects the argument.
    Mark Coulter might be interested in the figures that Mike Morrison of A J Bell produced (and for which there was not room).
    “A customer taking £98,400 as a UFPLS crystallises 7.87% of their standard lifetime allowance. A customer taking £98,400 as full withdrawal FAD crystallises 7.86% of their standard lifetime allowance. The reason for the difference is that we have to round down LTA usage for each BCE and because UFPLS is only one crystallisation event then you can only round down once. 0.01% of the LTA clearly isn’t a massive difference for most people on a single payment, but if that difference is applied on a monthly basis over ten years then you’re talking about a difference of £15,000 in the amount crystallised.”
    Martin Lines excellent point in favour of FAD – about the MPAA – iswell made

  9. Douglas Brodie 11th June 2015 at 6:14 pm

    At risk of claiming a part in the Pedants Revolt, both scenarios are exactly the same (I’m sorry, I’m sorry, I was just intrigued to see what the maths looked like).

    Compare FAD vs UPFLS:
    Over 15 years, assuming no growth or charges, the client has got income over the 40% tax elsewhere, both funds run out in the same year (after 14 years), and in both scenarios the client pays an identical amount of tax.

    The only difference is that with FAD the tax does not start till Yr6 in this example, and runs at £6,667 per year, whilst the UPFLS starts in Yr1, but runs throughout at £4,286.

    In the UPFLS scenario the client crystallises £14,286 per year, of which £3,571 is tax free PCLS. The balance of £10,714 is taxable, at 40% that tax is £4,286. The UPFLS can permit withdrawals on that basis for (£50k/£3,571)= 14 years. Which is just as well as the pension pot runs out then as well.

    However it then becomes more fun if we make an assumption that there will indeed be investment growth: start with £200k and deduct 7.1% of the PCLS (the £3,571 from above). The client also gets the other taxable income, which we saw was £10,714, and the client now has (£200k-£3,571-£10,714) = £185,714 in an uncrystallised pension, of which 25% is PCLS. If the fund actually grows net net at 7.1% per annum from day one, the annual withdrawal via PCLS never changes, ever.

    There will probably eventually be LTA issues I’m sure, and there will be a mismatch between the timing of withdrawals vs investment returns, but UPFLS is a great tool and should be used. After all, even Danby is old enough to remember the original name for this contract: we used this extensively when we was small and didn’t know ‘nowt….it was called phased retirement. Back then you needed segmented pensions to do it, now it’s free for all.

    And a jolly good thing too.

  10. I Danny has this completely wrong.
    With PCLS you can only draw a single tax free lump sum on commencement so you would usually take the whole 25%.
    With UFPLS you spread out your tax free payments.
    The difference is:
    if you reinvest you PCLS you will have to pay tax on it
    with the UFPLS the 25% tax free part of your pension can be kept (or partly kept) invested tax.

  11. The last line should read “tax free”.

  12. Also, the payment can be taken “in-specie” – i.e. just by transferring the stock from a SIPP to a non SIPP account.

  13. Actually Brian Dorrell, it’s you that has this completely wrong. I’ suspect it’s the terminology that’s to blame for your confusion. To many “Flexi-Access Drawdown” is what replaced “Capped Drawdown” when the capping rules got scrapped. But to Mr Bloch it’s what some (e.g. Hargreaves Lansdown) call “Phased Drawdown”, which says it better to my mind, as you don’t have to move all of your SIPP pot into the drawdown pot in one go.
    Another problem is that not all SIPPs offer Phased Drawdown, with many SIPP providers UFPLS is the only way of retrieving a portion of your pension pot without taking the tax-free lump sum for the whole pot. But where a SIPP provider does allow Phased Drawdown then it can be made to do everything that UFPLS can do AND A LITTLE BIT MORE (which was Mr Bloch’s point, I believe).

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