What is a capped drawdown pension?
Learn what capped drawdown pension is, how it works and get answers to your capped drawdown questions.
What is a capped drawdown pension?
Capped drawdown pension schemes have a limit on the amount that can be withdrawn each year.
This limit was calculated in accordance with factors produced from the Government Actuary Department (GAD). Unlike flexi-access drawdown schemes, capped schemes would retain a contribution limit up to the current standard Annual Allowance (£40,000 gross).
Pension reforms on 6 April 2015 made this feature unavailable to new retirees, and those who were already in capped pension could choose to remain in capped drawdown or convert to flexi-access drawdown.
How does capped drawdown work?
Upon reaching age 55, you can take up to 25% of your pension tax-free. A capped drawdown means the rest of your pension stays invested while your annual withdrawals are limited in accordance with guidance provided by the Government Actuary’s Department. This is known as the maximum GAD limit.
Capped drawdown GAD limits
The Government Actuary’s Department (GAD) sets the maximum capped drawdown income at 150% of the income that a healthy person of the same age could get from a lifetime annuity.
The limit is reviewed every three years while you are under age 75, after which reviews become annual. If the limit is exceeded, then the pension automatically converts to flexi-access.
Capped drawdown and contribution limits
If you take annual income within the calculated maximum annual GAD limit, you will retain the standard annual allowance for pension contributions (100% of your UK earnings up to a maximum of £40,000 gross per annum for the 2020/21 tax year).
However, if you withdraw more than the calculated maximum annual GAD limit, your capped drawdown pension will convert to flexi-access. From then, you will be subject to the Money Purchase Annual Allowance. This means that the maximum you can pay into a pension scheme is reduced to £4,000 gross per annum for the 2020/21 tax year.
Converting to a flexi-access drawdown pension
Converting a capped drawdown to flexi-access is easy. Simply speak to your pension provider and they will help you switch pension arrangement.
Alternatively, exceeding the maximum GAD limit will automatically convert your pension scheme to flexi-access.
You may also convert to flexi-access drawdown when transferring to another pension scheme, such as the ii SIPP.
What changed on 6 April 2015?
The first drawdown pensions were introduced in 1995 to give people greater choice than having to buy a lifetime annuity. However, drawdown contracts still required retirees to secure a pension by purchasing an annuity by age 75.
This limitation was eventually removed with the introduction of capped and flexible drawdown pensions. On 6 April 2015, the Government replaced all flexible drawdown plans with flexi-access and stopped offering capped drawdown, although existing capped pension holders could choose to keep their plans unchanged.
What is the maximum income limit?
The current maximum income limit for a capped drawdown pension is 150% of the Government Actuary’s Department (GAD) basis amount. The basis amount is essentially the value of the annuity that your pension could buy, which is itself calculated using the GAD’s own drawdown tables and instructions which can be found here. The maximum limit is reviewed every three years up to age 75, after which reviews become annual.
Capped drawdown FAQs
Can you transfer a capped drawdown?
Yes, capped drawdown pensions can be transferred to another pension scheme that accepts ‘like for like’ transfers. This means you would keep the same maximum income based on the annuity you have chosen (short-term or income withdrawal).
You can also transfer capped drawdown pension to another type of pension, including the ii SIPP.
What happens to your capped drawdown when you die?
If you die before age 75, your remaining pension pot can be paid to your beneficiary tax-free as a lump sum, as an annuity that pays an income, or by opening their own drawdown arrangement with the funds. If you die after age 75, your beneficiary will be charged income tax at their marginal rate.
Can funds in capped drawdown be transferred?
Yes, a capped drawdown arrangement can be transferred to another pension provider willing to accept a capped drawdown. The transfer must be ‘like for like’ so the holder retains the same income limit and review cycle.
Alternatively, you can change transfer an existing drawdown arrangement to a SIPP.
Can I convert a capped drawdown arrangement to flexi-access drawdown?
Yes, you can either convert the arrangement automatically by exceeding the GAD income limit or by requesting a transfer with your pension provider.
How does capped drawdown affect the annual allowance?
With a capped drawdown arrangement, if your pension withdrawals are below the GAD income limit then your annual allowance remains 100% of your UK earnings subject to a maximum of £40,000 gross per annum (tax year 2020/21).
However, if you exceed the income limit your drawdown automatically converts to a flexi-access drawdown and triggers the Money Purchase Annual Allowance (MPAA), meaning the maximum annual contribution limit reduces to £4,000 gross per annum.
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