How should I allocate my Sipp for an income of £55,000 a year?

Alex is 51 and earns £150,000 a year. His wife earns £7,000 a year. Their children are ages eight and six. Their home is worth about £750,000 and has a mortgage of £400,000. Alex also has a buy-to-let property in eastern Europe worth about €50,000 (£42,601) with a mortgage of €40,000. The rental income covers about two-thirds of the annual mortgage repayments.

“I transferred out of a defined-benefit (DB) pension scheme three months ago because if I died my wife would only have got £7,000 a year," says Alex. "The scheme also wasn't very flexible in terms of how you could draw from it and didn’t have many inheritance benefits, and I would like to leave my children an inheritance.

"I have transferred £2m to a self-invested personal pension (Sipp). At age 55, I may crystallise the equivalent of the pensions lifetime allowance so that I can take the maximum possible pension commencement lump sum (PCLS) to help pay off my mortgage and put some cash into individual savings accounts (Isas) as an emergency fund. I may also use some of the PCLS to pay off the mortgage on my rental property. I won’t access the rest of the crystallised monies until I retire at age 61.

"I would like the Sipp to grow enough to make up for the PCLS withdrawal. When I retire I would like to draw around £55,000 a year from the crystallised pot until age 75. I am assuming annual growth of around 3 per cent, and if it’s more I will increase the amount I draw to try to mitigate the amount of tax I will have to pay at age 75. After then, if the Sipp can grow at least 3 per cent a year, on average, it should last until I am in my 90s.

"I also contribute 6 per cent and my employer contributes 15 per cent to a defined-contribution pension. Its value is only about £10,000 at the moment, but I will use this and some of my Sipp to pay the pensions annual allowance charge. My salary increased by about 30 per cent in 2019 and, as I was still in my workplace DB scheme, I had to pay a charge of about £45,000 last year and will probably have to pay a similar amount this year.

"I cannot contribute more than £10,000 a year to my workplace pension so any extra savings may go into pensions for my children. I also save up to £2,000 a month into an Isa which has a value of about £26,000.

"My wife has an investment Isa worth about £21,000, which we may use to fund home improvements, and a Sipp worth about £28,000.

"We would also like to help our children cover the costs of going to university and buying homes.

"Over the next 10 years I could cope with the value of my Sipp falling by 10 to 15 per cent in any given year as it should have time to recover. But the closer to retirement I get, the less adventurous I will be.

"In the meantime, I am trying to decide whether to take more of a wealth preservation or 'racy' approach with my Sipp via the allocations set out below."

NONE OF THE COMMENTARY BELOW SHOULD BE REGARDED AS ADVICE. IT IS GENERAL INFORMATION BASED ON A SNAPSHOT OF THESE INVESTORS' CIRCUMSTANCES.

Colin Low, managing director of Kingsfleet Wealth, says:

Your level of emergency savings is of some concern as I would expect to see a figure of between three and six months of regular expenditure. Although you can access your pension tax-free cash after you reach age 55, it would be a shame to have to do that rather than having built up savings. It would be easier for you to build up savings if you did not have so much debt.

With approximately 10 years until you retire, the significant value of your Sipp cannot be overlooked. The impact of the pensions lifetime allowance on the value of your pension doesn't have to be as bad as you might think. But you will need to manage it carefully when you start to withdraw from it and as you approach age 75, when a further calculation is made.

Because your pensions exceed the lifetime allowance you cannot take tax-free cash worth more than a quarter of the lifetime allowance, which at present is £268,275. This amount will only partially reduce your debt so I am concerned about how you are going to pay down the rest of your mortgages.

Your wife does not have much pension provision. Although her earnings are significantly lower than yours, as she earns £7,000 a year you could make pension contributions up to this level (gross) each year on her behalf. The value of her pension won’t reach similar levels to yours, but it still makes sense for contributions to be made in her name so that her pension has a chance of growing. This would provide you with a further source of tax-free cash.

You have a 12 to 15-year time frame in which to build up savings to help your children and contribute towards home purchases for them. But how will you fund this? You don’t have long and your propensity to save has not been good so far.

Ben Yearsley, investment director at Shore Financial Planning, says:

Get specialist pension advice to ensure that you don’t fall foul of any of the complex rules on drawdown and the lifetime allowance.

At age 55, you will have around £250,000 tax-free cash, £750,000 crystallised pension and £1m uncrystallised pension. Your wish to grow the £750,000 pot back to a value of about £1m by the time you are 61, which is not unreasonable over a six-year time frame.

When you draw income from the crystallised pension pot you will pay tax at your marginal rate on it. If you take anything above this value you will pay an additional charge of 25 per cent on top of your marginal tax rate because you have used up your lifetime allowance.

Your Isa is invested in decent funds but I don't think that I would have so many Baillie Gifford funds. And it is largely invested in growth investments. I would add something with more of a value bias such as Fidelity Special Values (FSV) or JOHCM UK Dynamic (GB00BDZRJ101). And something a bit different, such as TB Amati Strategic Metals (GB00BMD8NV62), could be a good inflation hedge.

Taking £55,000 a year from a £2m pension is perfectly feasible. But you need to keep pensions invested for growth for much longer than you might think. You hope to draw from it until you are in your 90s so need your investments to continue growing to maintain your lifestyle. £55,000 a year won't be worth anywhere near as much when you are 91 as it will be when you retire in 10 years' time.

I like your proposed wealth preservation allocation for your Sipp. I would have this allocation for the whole pot for the next four years, and continue with it in the uncrystallised portion until you are age 75 or older. But when you take your tax-free cash in four years, I would take a different approach with the crystallised portion, aiming for a higher natural yield and some growth potential.

If I was running the crystallised portion of your pension today I would focus on equities but have differentiated holdings with, for example, both growth and value funds. This would be to try to generate a decent natural yield plus some growth to give the Sipp a chance of lasting until you are age 75 and beyond.

I would hold mainstream funds such as Franklin UK Equity Income (GB00B7MKLS14), LF Montanaro UK Income (GB00BJRCFQ29), First Sentier Responsible Listed Infrastructure (GB00BMXP3956) and BMO Property Growth & Income (GB00BQWJ8794). I would also hold slightly more specialist equity investment trusts such as JPMorgan Global Emerging Markets Income Trust (JEMI), European Opportunities Trust (JEO) and Monks Investment Trust (MNKS).

I would have 50 to 70 per cent of the crystallised pension in funds such as these.

I would invest the remainder in specialist investment trusts with a higher income and lower growth profile. In the years before you take an income their dividends could be reinvested. These could include US Solar Fund (USF), Gore Street Energy Storage Fund (GSF), Downing Renewables & Infrastructure Trust (DORE) which is yet to pay a dividend but expected to pay 5 per cent from 2022, Greencoat UK Wind (UKW), Supermarket Income REIT (SUPR) and Hipgnosis Songs Fund (SONG). These invest in real assets and have decent starting yields which they aim to grow.