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Should I transfer a workplace DC pension into a Sipp?

It generally isn't beneficial to transfer out of a workplace pension but in a few instances it can make sense
Should I transfer a workplace DC pension into a Sipp?
  • It generally does not make sense to transfer out of a workplace pension scheme during the accumulation phase as you lose employer contributions
  • There are a few instances where it can be a good option
  • Consolidating former workplaces pensions into a Sipp can be sensible in some circumstances

There are several risks and disadvantages to transferring out of your defined-contribution (DC) workplace pension while you are still in the accumulation phase. While you might wish to take charge of how your Sipp is managed, you are likely to lose out on employer contributions and will not get other benefits, such as more salary, in place of them. Gary Smith, chartered financial planner at Tilney, says that you should consider whether you will be able to compensate for the loss of employer contributions because this could result in a shortfall in your desired level of retirement income. 

If you are thinking of transferring out of your existing workplace scheme first check with your employer if they would contribute to your Sipp. “If this is not an option and consolidating your pension funds remains an appropriate course of action, it may be possible to transfer all or most of the funds out of a workplace pension while leaving the plan open – a partial transfer,” says David Wright, wealth management consultant at Mattioli Woods. “This way, regular contributions can continue unchanged although it may be wise to consider another transfer at some point in the future.”

Some older workplace pension schemes may entitle you to withdraw tax-free cash worth more than 25 per cent of the fund which is now the standard rate that applies to most pensions. If you transfer out of your workplace pension into a Sipp you could lose this. Also check to see that a transfer out won't result in you losing any other guarantees or safeguarded benefits.

However, if you have a workplace pension with a large value which has exceeded the lifetime allowance or have applied for lifetime allowance Fixed protection 2016 so are not making contributions to your pension, it can make sense to transfer into a self-invested personal pension (Sipp). This is because if you and your employer continue to make contributions you will incur a tax charge and or lose the protection.

If you are in ill health and wish to pass on your pension tax efficiently to your heirs it could make sense to transfer it into a Sipp. If you die under the age of 75 and your pension is below the value of the lifetime allowance your beneficiaries could take it tax free as a lump sum or succession drawdown from a Sipp. But a workplace pension may only allow them to withdraw the funds as one lump sum or to use it to purchase an annuity, which may not suit them.

Also, if your heir takes the inherited pension as succession drawdown it does not fall into their estate for inheritance tax (IHT) purposes.

“If someone has built up a pension fund of, say, £400,000, they die before their 75th birthday and their workplace pension only offers the lump sum payment option, their beneficiary would receive the £400,000 tax-free and it wouldn’t form part of the deceased’s estate for IHT purposes,” says Smith. “However, the beneficiary would have £400,000 in their bank account and this would be included in their estate for IHT purposes on their death. This might not be an issue if the value of their other assets doesn’t exceed their normal IHT allowances – currently a nil rate band of £325,000 and potentially the residence nil rate band. But if it pushes them above these allowances their heirs might have to pay 40 per cent IHT on any excess.

"However, if the beneficiary inherits the pension in their own name and retains the £400,000 within it, from which they could draw a completely tax-free income, it wouldn’t form part of the beneficiary's estate, for IHT purposes. So, for many beneficiaries, especially a spouse, it is often more tax-efficient to opt for succession drawdown rather than a lump sum payment.”

There are fewer choices of investments in workplace schemes so if, for example, you are a business owner you cannot buy commercial property via a workplace pension but can via some Sipps.

If you have accumulated various defined contribution workplace pensions over your career and are over 55 – the age at which you can start to access pensions – it could make sense to consolidate some of them into a Sipp. This is because some workplace schemes do not offer as many options for accessing the assets within them. You could consolidate schemes from former employers which no longer receive contributions into a Sipp but continue with your current workplace scheme so that it continues to receive employer contributions.

You could consolidate former workplace pensions into your current one as doing this would also simplify your financial affairs and it might have a low ongoing charge.

But Smith says: “If you needed to release some tax-free cash at age 55 to, say, repay debt, you might have to transfer out of the workplace pension scheme to do this which could result in employer payments into your pension stopping. Instead, you could consolidate other pensions in a Sipp so that from age 55 you could release tax-free cash from the Sipp without having to touch your current workplace pension. If you only release tax-free cash, this wouldn’t cause any money purchase annual allowance (MPAA) issues. But if you take some income from the pension it would trigger the MPAA and could result in tax charges if the contributions into your workplace pension scheme exceed £4,000 per tax year.”

With increasing numbers of scams on the rise you need to be very careful about what you transfer your workplace pension into.

You should check the Sipp plan charges, especially for ones that offer a wide range of options, such as the ability to invest in commercial property as these could be higher than those of your workplace pension. If the value of your workplace pension is small, higher costs and loss of employer contributions could be particularly detrimental. And with a small fund you are less likely to need a wide range of investment options to diversify it.

If you seek advice on your Sipp this could incur costs that are higher than those of your workplace scheme, which may offer you free advice or enable you to pay for it via salary sacrifice, reducing the cost by the tax and national insurance saved.