I would say the decision to commute or not depends largely on what you're next career is going to be and the level of income expected.
If your pension before commutation takes you into the higher tax bracket it will probably be in your best interests to commute and place into a long term tax efficient savings plan, ie ISA. If you have a partner then upto 15k can be put in jointly to one of these.
The amount that is commuted is tax free and tax is taken on the monthly pension payment
If you commute your pension, you are not taxed on the commutation. If you leave it as is, any pension income is liable for tax. Easy solution is to commute, and place the element commuted into a high interest account and use it to supplement your pension payments. Saves you tax and gets you interest giving you a better income than otherwise.
There is only one reason the government offers you the chance to commute your pension.
It is saves the government money.
Take a look at the longer term numbers and see how much money you will not receive in your pension over the years. You will be suprised at how much of your money the government will be able keep to itself.
As above - commutation not taxed, remainder of pension is taxed.
Decision should really be based on your needs on leaving and confidence of getting continued employment. Less commutation = larger monthly pension = bit more security over the long term. Commuting the lot is useful if you have a mortgage/other expenses but are set fair for work. Could always consider off-setting the lump sum against a mortgage, do the ISA's, invest in premium bonds etc ......
... or do what I did and blow it all on a BMW M3!! (I did get loads of equity from selling my house so it wasn't the totally stupid decision some people may think!)
Inland Revenue value a final salary pension at x 20 the annual amount eg Â£20k pa equates to a lump sum of Â£400k (bear in mind most pensions don't pay out until 60 or 65 so the Army pension must be worth more).
Annuity rates for a non smoker aged 55 are roughly 3.8% so depending on your tax rate you could get between Â£50 and Â£65 per month for a lump sum of Â£1,000 - ball park figures.
Bottom line is take your commutable amount - gross it up for tax (Amount / (1- tax rate)) and ask an IFA how much pension you could buy with that - make sure you compare like with like ie if you have a spouse and your Army pension continues after your death
While you are doing all these computations give a little thought to this. If yuo have the money in your bank account there may come a time when you rashly spend a part or all of it and regret it. When you reach retirement age the state pension only provides enough to live on, Retirement is a long way off at the moment but on present trends you'll be retired a long time and the Army pension top up can make a big difference to your standard of living. As one of those who left the army before 1979 and consequently because I didn't do the full 22 so get no pension I would advise you to think long and hard about diminishing your pension.
I 'retired' in 1994 as a Staffie after 22 years and aged 40.
I commuted and received Â£9800 or there abouts.
My pension was abated by Â£100 per month
At age 55 my pension rises to full rate.
In the mean time I do not get pension rises and the whole saga will have cost me 15 years at Â£100 per month (Â£18000) plus the average 2% per year rise.
That actually works out at a loss of about Â£30,000 over the 15 years if not more, as I rounded the figures to give a better illustration. (that is not 2% of the loss that is 2% of the whole pension)
That is a lot to lose and if I had known it beforehand I maybe would not have commuted.
If you can afford to not commute then do not.
If you need the hard cash then that is your choice.
OK - I have looked into this quite a lot and also got some independant financial advice on it.
I know it is wrong to summarise as everybodys life is different, but from what I can see is that if you leave at 40 then you should be expecting to work for another 20+ years, so you will be given a salary. This, combined with your full pension is taxed. By taking commutation, you are borrowing from future pension earnings but you are not taxed on it, you you need to have good reasons not to use this advance of tax free pay. However, this advance/loan my fin acct worked out to be approx 8.2% APR which is below the tax rate of what you would pay on it.
The time when you might not want to take this is if your not going to blightly, so, in my case my total UK pension earnings will be approx 10K without commutation, of which:
Â£5,035 - Tax Free AND
10% up to Â£2,150 AND
22% between Â£2,150 to Â£33,300
(based on 2006/07 tax year)
So that means bully will pay 10% on Â£2,150 and 22% on the remaining Â£2,800 which basically means I wont be paying much income tax as I will be such a low UK wage earner, so I wont be commuting and paying 8.2% APR
Summary? Most people who will live in the UK and will get another job should commute, living overseas types should probably not.
PS - Forces Pension Society are really hot on this - I got help from them. You RAO cannot and is not allowed to give advice on tax.
Thanks all, confusing aint it. as for the RAWO well if could of got answers there I surely would of. I worked out the difference would be around 15k if I didnt commute which is a substantial amount over time. If in theory I can invest the commutation + lump sum and come up with more than 15k over 15 years then quids in but I will definetly be thinking about it. many thanks once again.
As others have pointed out, it all depends on your personal circumstances. You need to look at future earnings, tax rates, interest on loans etc.
In my case it was an easy decision as most of my pension would be decimated by 40% tax and I wanted to minimise the mortgage.
Some rough figures
Commuted Â£15000 at a cost of Â£1800 per year for the next 14 Â½ years. Actual cost Â£26100, but 40% tax means Iâd have only seen Â£15500 of it (Â£1100 pa).
Used the commutation to pay Â£15000 off the mortgage, which reduced the payments by Â£100 per month (22yrs left, so actually saved Â£26400).
Commutation may look like expensive money, but it saved me Â£10900 in mortgage payments AND because Iâve reduced the mortgage by Â£1200 a year, but would have only received an extra Â£1100 net from the pension, Iâm Â£8 a month better off as well. Itâs a win-win situation.
Contact the IERO in your local Education centre. One of the briefings they run is called "Financial Aspects of Resettlement", a guy comes in from the Forces Pension society ans well as Independent Financial Adviser. Listen to them and quiz them afterwards if you're still not sure.
Everyone is different, but in short; if you have a mortgage or other large debts, commute as much as you need to pay them off. If you have no debts you'll be better off not commuting because it a relatively expensive loan on your future pension payments.
I would always commute not least because if you die any amount awarded is disregarded for Family Pensions - esp if you can get Life Commutation. I would always rather have the dosh in my hand than the Govt's.