Case Study 2 – John the Aircraft Pilot

Our second case study is John the aircraft pilot, looking for a place to land his career. At 67, he now wants to chart a new course in retirement.

He does not need to withdraw a one-off cash amount, so his accumulated wealth sits in an “Uncrystallised Funds” account. His £6,500,000 retirement pot is invested in the default 'Aggressive’ portfolio and managed by his financial advisor for a small fee of 1%. Furthermore, he has claimed the full State Pension amount of £10,000 and starts receiving it immediately.

After stress-testing the possible historical scenarios in Timeline, he decided that he will need a gross income of £220,000 adjusted in line with inflation. He is happy with this, but wants to have an idea on the taxes he will be paying.

The Real Gross Income for John’s retirement journey will be £18,333.33 per month (or £220,000 per year) across all scenarios. We will be ignoring the Lifetime Allowance Tax for simplicity.

Only 75% of the income he receives from the pot will be taxed using the marginal tax rates until the 25% tax-free cumulative withdrawal from the pot surpasses 25% of the initial balance of the pot. ( 25% of the income is tax-free, until its nominal cumulative value reaches 25% of the initial balance) .

Let’s see how this works in practice. We have chosen a scenario that starts in 1962 to illustrate how taxes work and we will use this example going forward. Let’s assume he is 70 years old and his (nominal) tax-free cumulative withdrawals have not surpassed the 25% of the initial balance.

His gross annual income is £220,000. He withdraws £10,000 from the State Pension and the remaining £210,000 from the “Uncrystallised Funds” account. So, the £10,000 and the £157,500 will be taxed together (total taxable income: £167,500) as follows:

Tax at Personal Allowance: (0% * £12,570) = £0

Tax at Basic Rate: (20% * £37,700) = £7,540

Tax at Higher Rate: (40% * £99,730) = £39,892

Tax at Additional Rate: (45% * £17,500) = £7,875

Total Tax: £0 + £7,540 + £39,892+ £7,875 = £55,307

Note 1: When selecting the “Uncrystallised Funds” account in Timeline, we assume that John has not withdrawn the 25% cash-free-lump sum. Only 75% of the withdrawal from the “Uncrystallised Funds” pot is fully taxed at the marginal rates and the 25% is tax-free until the (nominal) tax-free (the 25% of the total income that comes from the “Uncrystallised Funds” account) cumulative withdrawals are above the 25% of the initial value of the pot.

Note 2: The full State Pension amount (here £10,000) counts towards the personal allowance at all times.

So, the net income per year will be £164,693 or £13,724.42 per month.

Awesome, now let’s assume his cumulative tax - free withdrawals have surpassed the 25% of the initial balance.

In the selected scenario, John’s cumulative tax-free withdrawals have surpassed the 25% of the Initial Balance when he is 85 years and 4 months old and he has to pay tax on the full £220,000 income.

In this case, the total taxes are £78,932 and the net income he will be receiving is £141,068 per annum or £11,755.67 per month.

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