Taking benefits from a COMPs with GMP
In the past, if you had a COMPS with a GMP element (GMP underpin), when you come take benefits, you would have had to buy an annuity, a guaranteed income for life.
The first thing would be to buy an annuity that would provide the GMP income. Any more left over would have then been used to provide tax-free cash and an income over and above the GMP. It would work in much the same way as a Section 32.
A brief example might help.
Mr Davis is 65 and has a COMPs worth £100,000. This has a GMP income of £2,000 per year. It is Pre 88 GMP, so this element of income has to follow the GMP rules.
Suppose the cost of buying an annuity to pay for this income is £50,000. This could mean he would then have £50,000 left over. So he could have:
£2,000 Yearly Pre 88 GMP (which costs £50,000)
£1,000 Yearly non-GMP annuity income (which costs £25,000)
£25,000 Tax-free cash (25% of the total fund value)
As you can see, in this example Mr Davis had to secure a Pre 88 GMP income; this does not increase, but has to provide his wife with £1,000 per year if he dies, whether he wants this or not.
The tax-free cash in this example is 25% of the pot. Sometimes these schemes offer tax-free cash greater than 25% of the pot (although the GMP has to be paid first).
For some people the GMP is not suitable at all. For example, somebody who is not married would still have to have a spouse’s pension.
And many people do not like the Post 88 GMP. This is expensive to buy, as it increases each year (see GMP Rules). An example might help explain why.
Mr Jones, like Mr Davis, has a pension pot of £100,000. Unlike Mr Davis he has to secure £2,000 per year of post 88 GMP. This must increase by inflation, with an annual maximum of 3% per year. He finds that his £100,000 gets him:
£2,000 Yearly Post 88 GMP (which costs £80,000)
£20,000 Tax-free cash (this is less than 25% of the total fund value)
As you can see the cost of securing the post 88 GMP is far more costly. He has to use £80,000 of his £100,000 pot, which only leaves £20,000 to pay as tax-free cash. He does not have any money left over to buy non-GMP income either. In effect, he loses £80,000 to secure a monthly increasing income of £166.
In these circumstances there are alternatives, which would mean giving up the GMP, or, putting it another way “getting rid” of the GMP restrictions. This would mean taking a transfer value.
Alternatives to GMP annuities
As explained above, not everyone with a Contracted Out Money Purchase scheme with GMP would want to have an annuity with Guaranteed Minimum Pension. It could be because of the spouse’s pension it has to secure, or the inflation increases on post 88 GMP. They might want to get the biggest lump sum possible.
In these instances it would make sense to look at what a transfer value could provide, even if you want an annuity, or take the lump sum to take flexible benefits (such as flexi-access drawdown).
Taking a transfer would mean moving the pension to a new provider, where it would be converted to a personal pension, which then offers greater freedoms, such as taking the entire pension out (minus tax), taking smaller elements and keeping it invested, or buying an annuity of your choosing. See COMPs transfers for more details.
Valuable Guarantees of GMP
Although a transfer might seem tempting, it is always important to remember that it does have some guarantees. These are less valuable if you have a larger pot, but small amounts of GMP. If you have say £200,000 and only £1,000 of GMP, then you will have enough to pay for it.
If however, you have a large amount of GMP, say a Post 88 income of £2,500 per year, and a pot of say £50,000, then the guarantee becomes valuable. In these instances, when you retire, the scheme must ensure they pay the GMP income. It would not be possible to get a guaranteed income of £2,500 per year with a pension pot of £50,000 on the open market. In these instances the level of guarantees become attractive, because such an income would cost around £100,000 to secure.
However, with these types of schemes, and in this situation, it might be worth asking the scheme for a Cash Equivalent Transfer Value. This is a transfer value based on the cost of providing the income. Depending on the scheme’s actuary (number cruncher), you could get a transfer value much greater than £50,000. A very generous actuary could offer somewhere near to £100,000 if you are close to retirement age. See COMPs Transfers for more details.
If you have a pension with GMP and want advice, or have a question, or just want to have a chat about it with a UK Qualified Independent Financial Adviser, then phone now on 01793 686393 or contact us online.