Getting at my personal pension and the 25% tax free

[PuzzledObserver]

DH and I are well set up with defined benefit and state pensions which will arrived at various points over the coming years. We also both have a defined contribution personal pension pot, mine with Aviva, his with Royal London. We are looking at accessing these imminently, as we have already jacked in the 9-5 and have been living off savings.

I’m hoping someone can help me understand the following. I have gleaned that we can take up to 25% of our respective personal pension pots as tax-free cash, and use the remaining 75% to fund flexible drawdown. Both providers are telling us that the 25% does not need to be taken all in one go. That’s great - we only want a bit of it straight away, happy to leave the rest until we have decided on the dream holiday, want a new car, house burns down or whatever.

I had imagined that we would divide our pots 25/75 and effectively have one from which we can take out tax free cash when it suits us, and the bigger one from which we take a (flexible) monthly income. But going through the (huge mass of) blurb which Aviva provides, it seems to work like this: take a tax free lump sum, and 3 times that amount is transferred to another pot from which you can then take the flexible monthly payment. I think this is called crystallising benefits or something like that? The remainder of the original pot stays where it is until you take another tax free lump sum, and 3x that amount is added to your drawdown pot. Royal London don’t seem to say this - it sounds more like you divide the pot 25/75 and treat each part separately.

Does anyone know whether what Aviva are describing is the way it always works (as in, those are the regulations), or whether it’s just a feature of their offering?

Before I discovered that you didn’t have to take all the 25% at once, I had assumed we would take it all and would then have to figure out where to invest the bulk of it. But if this thing of putting 3 x the lump sum you take into a separate pot from which you can take an income is part of the regs, then it’s probably simpler to revert to the original plan: take 25%, invest it, take drawdown from the rest.

Some really helpful explanations here, thanks all

@Sophiesaph24 thank you, that’s very helpful. Yes, the natural home for “unneeded” tax free cash is an ISA, as we have no other source of new money to put into one.

As far as spending it goes….. well, we have no children to sub, it’s just us. We have been living on the same “income” from our ISA’s for 3 years now - and you know how prices have rocketed up in that time. When I got up to date estimates for our DB pensions, I discovered that when they are all in payment, our nett monthly income will be roughly half as much again as we have been living on. Wey hey - let the good times roll!

So I guess the key thing is to take enough income to fully use the PA, use the tax-free cash to supplement that so that it doesn’t build up outside the pension unnecessarily, and keep under review.

Or 40%/ 45% tax depending on your income. We are in our 70s and don't need to draw from our pensions yet, but we are going to start so we can draw an amount per year to keep below the higher tax limits. We will put it into a s n s isa. Then, if we need a large amount one year we won't get stung with a too big tax bill.

@PuzzledObserver You can even have separate strategies within your uncrystallised/drawdown fund. You just invest into different funds/cash.

If you don’t know what to do with the tax free cash, you can feed some of it back into your pension. With no earnings, you are limited to £2,880pa which will get £720 tax relief added automatically. You can do this until the day before you turn 75.

Definitely 20% tax for us, unless we are daft enough to take enough in one year to push us into the higher rate. No need to do that.

I had heard of the pension recycling thing, definitely worth pursuing.