Rising GAD rates are creating an opportunity for advised clients to review their capped drawdown income levels.
Before April 2015 and the introduction of pension freedoms, those going into drawdown would likely have entered capped drawdown, which limits the maximum income according to the prevailing Government Actuary’s Department rate (GAD rate).
Linked to gilt yields, GAD interest rates have increased substantially in recent months and now stand at 4.5%, the highest level since April 2010.
At the start of 2022 GAD interest rate was just 0.75% and it stood at 2.25% as recently as September.
This has boosted the maximum annual capped drawdown income available to a 75-year-old with a £100,000 pot from £10,350 at the start of this year to £13,950 today, for example.
The limit to the income a capped drawdown investor can take is reviewed at least every three years. However, a member can request to have an additional review if the scheme administrator agrees, or certain events trigger an additional review.
Capped drawdown is now closed to those entering drawdown for the first time. And although many clients will already have switched to flexi-access drawdown, some remain in capped drawdown meaning they usually retain the standard annual allowance, rather than the significantly lower Money Purchase Annual Allowance (MPAA) which applies to those that have taken pension income flexibly.
AJ Bell head of policy development, Rachel Vahey, says: “GAD rates are something of a relic of the pre-2015 pension income market, but they are important for those clients that began taking income before this date and who remain in capped drawdown.
“Some retirees opted to remain in capped drawdown to retain the full annual allowance, which would be lost were they to switch to flexi-access drawdown.
“The increase in GAD rates means they may now be able to take more money from their pension, but still retain their annual allowance. This is an opportunity for advisers to reach out to those clients to help them request an additional review of their income drawdown levels to start from the next pension year.”
Capped drawdown explained
Prior to April 2015 retirees entering drawdown would either have done so under ‘flexible’ or ‘capped’ drawdown.
Flexible drawdown was only available to those with guaranteed income of at least £12,000 per year.
Capped drawdown sets a limit on the income level at which individuals can drawdown their pension. This limit is linked to GAD rates.
The GAD rate, which is based on current UK gilt yields, is used to determine the amount of ‘basic pension’ that can be drawn for each £1,000 of the individual’s pension. GAD rates are released on the 15th of each month, with the most recent update seeing GAD rise from 3.25% in October to 4.5% for November.
The current 4.5% GAD rate permits £93 for every £1,000 of pension assets for a 75 year old (see government drawdown tables https://www.gov.uk/government/publications/drawdown-pension-tables).
A £100,000 pension pot would therefore have £9,300 of basic income available, which is then uprated by 150% to a maximum capped drawdown of £13,950.
Income limits are usually reviewed every three years. However, an additional review may be triggered by certain events – for example where additional funds are designated to the drawdown pot or where the fund is reduced following a pension sharing order.
Members can also request an additional review, although the scheme administrator has to agree to this. The new income limits can’t start immediately though; instead, they start from the next pension year when a new three-year review cycle starts.
Individuals in capped drawdown retain the full annual allowance of 100% of earnings up to £40,000, rather than the lower Money Purchase Annual Allowance of £4,000 (unless they are subject to the tapered annual allowance).
