Capped drawdown

Any capped drawdown arrangements in existence before 6 April 2015 (with pre-6 April 2015 funds in them) continued unchanged when the pension flexibility rules were introduced on 6 April 2015.

New capped drawdown arrangements (including dependants’ capped drawdown arrangements) can’t be created after 5 April 2015 unless it’s to accept a capped drawdown to capped drawdown transfer – see ‘Transfers of capped drawdown funds’.

Additional funds (designations) can be added into existing capped drawdown arrangements although not all existing arrangements will permit additional fund designations to be made. This will need to be checked with the relevant provider.  

It’s possible for someone to add further funds into an existing capped drawdown arrangement they hold. The additional funds could not be applied as capped drawdown if they were used to create a new drawdown arrangement in the same scheme.

When topping up a capped drawdown arrangement, the additional designation will cause the maximum income available, calculated at 150% of the GAD rate, to be reset for the remainder of the review period. The new maximum will apply immediately if it is higher. If it is not higher, it will apply from the beginning of the next pension year. The recalculation does not change the duration of the review period, and the arrangement will continue under the capped drawdown rules.

The main advantage of remaining under the capped drawdown rules is that taking income within the GAD limit from a capped drawdown arrangement does not count as having flexibly accessed pension rights. This means that the member would not be subject to the money purchase annual allowance (‘MPAA’) provisions (unless they had flexibly accessed pension rights under a different arrangement). 

It’s possible to convert an existing capped drawdown arrangement to flexi-access drawdown. The conversion to flexi-access drawdown can be done by any one of the following actions:

• an income withdrawal in excess of the maximum GAD limit is taken, or
• a member, or dependant, notifies the scheme administrator that they want to convert their existing capped drawdown arrangement to flexi-access drawdown and the scheme administrator accepts the notification, or
• on transfer to a new drawdown arrangement in another scheme, the member or dependant notifies the receiving scheme administrator that they want to designate the transferred funds to a flexi-access drawdown arrangement and the receiving scheme administrator accepts the notification.

In practice, a switch from capped drawdown to flexi-access drawdown may be subject to the terms of the relevant contract.

If someone remains in capped drawdown and does not flexibly access any pension benefits elsewhere (for example, by taking an uncrystallised funds pension lump sum (UFPLS) or by taking income from flexi-access drawdown), then the standard annual allowance will apply. Further information can be found in our article on the Annual Allowance.

If someone converts their capped drawdown arrangement to flexi-access drawdown on or after 6 April 2015 by taking income above the maximum GAD limit, this will trigger the money purchase annual allowance (MPAA) immediately. However, if they convert their capped drawdown arrangement to flexi-access drawdown on or after 6 April 2015 by notification to the scheme administrator and the MPAA hasn’t already been triggered, it will only be triggered when the first income payment is taken from the flexi-access drawdown arrangement. The MPAA won’t apply to a dependant who converts their pre-6 April 2015 dependant's capped drawdown arrangement to dependant's flexi-access drawdown on or after 6 April 2015. They will retain the standard annual allowance unless they trigger the MPAA as a member of a pension scheme in their own right, for example, taking an UFPLS from their own pension savings. You can find out more about the MPAA in our Annual Allowance Guide . 

The maximum income limit for capped drawdown is 150% of the basis amount. The basis amount is broadly equivalent to a single life, level, nil guarantee annuity that could be bought on the open market with the drawdown pension fund. There is no minimum income limit so people can have funds invested in capped drawdown without drawing an income.

The limit is calculated using the drawdown tables provided by the GAD. The basis amount needs to be worked out first, using the applicable gilt yield and the individual’s age.

The GAD tables and instructions can be found here. The ‘Extended yield drawdown tables for use from 1 July 2017’ should be used for all calculations done on or after that date. There are two tables – one for those aged 23 or over and one for those under 23. Gilt yields are quoted from 0% upwards. If gilt yields fall to below 0% then you should calculate the basis amount using the gilt yield figure of 0%. Gilt yields are published daily in the Financial Times. The 15-year gilt yield is used unless the individual is a beneficiary under age 23, when the 5-year gilt yield is used.

When using the tables, the gilt yield is rounded down to the nearest 0.25% to obtain the relevant basis amount from the GAD table. The basis amount is then applied to each £1,000 of drawdown pension fund and multiplied by 150% to get the maximum income limit.

As no new capped drawdown arrangements can be set up from 6 April 2015 (other than on transfer to another scheme), the tables will now just be used for dealing with situations where a review of income limits is required.

Where the member is under age 75, a review of income limits is carried out every three years and when any of the following events occur:

• A lifetime annuity is bought with part of the drawdown pension fund
• A scheme pension is bought with part of the drawdown fund
• The drawdown pension fund is reduced due to a pension sharing order when the member gets divorced
• Only part of the funds in an arrangement have been used to provide a drawdown pension and later more funds are designated to provide extra drawdown pension under the same arrangement.

These events don't change the dates of the pension years or the three-year reference period, they simply trigger the recalculation of the maximum drawdown pension.  The amount of the maximum drawdown pension will normally change from the start of the next pension year.

Where additional funds are designated into the drawdown pension fund and a higher maximum drawdown pension is calculated, the new higher amount applies immediately.  However, if the amount is lower, this will only apply from the start of the next pension year.

If the individual is 75 or over, the maximum drawdown pension is recalculated every pension year, meaning that recalculations aren't required when buying a lifetime annuity or scheme pension or when the drawdown pension fund is reduced due to a pension sharing order.  

Where someone is under age 75, the maximum income limit is usually reviewed every three years. The basis amount is recalculated using the drawdown pension fund, the individual’s age and the applicable gilt yield at the date of the review. The new maximum income limit applies at the start of the first pension year of the new three-year review cycle (also known as the reference period).

Where a person is age 75 or over, the maximum income limit is recalculated each year. The yearly reviews start from the first pension year after the individual reaches age 75.

Reviews can also happen when:

1. The individual requests an ad-hoc review.

• The maximum income limit is recalculated at the start of the next pension year and a new three-year review cycle (reference period) starts. Note that a scheme administrator can turn down a request for an ad-hoc review – it’s not a right.

2. Further uncrystallised funds are added to capped drawdown in the same arrangement (fund designation).

• The maximum income limit is recalculated at the date the funds are added.
• It applies immediately if it’s higher or from the start of the next pension year if it’s lower.
• The current review cycle doesn’t change.

3. Funds are removed due to a pension sharing order on divorce.

• The maximum income limit is recalculated immediately but applies from the start of the next pension year.
• The current review cycle doesn’t change.

4. A lifetime annuity or scheme pension is bought with some of the funds.

• The maximum income limit is recalculated immediately but applies from the start of the next pension year.
• The current review cycle doesn’t change. 

Income payments are taxed through the PAYE system at an individual’s highest marginal rate and the tax is deducted from the payment before it’s paid to the member. A P60 is issued to the individual for each tax year that income is paid.

A capped drawdown can continue to run beyond age 75. From 6 April 2024, there is no longer a benefit crystallisation event at age 75 to test the remaining funds against, and no equivalent in the new regulations.

Capped drawdown funds can be transferred to a new capped drawdown arrangement in another pension scheme that is willing to accept a capped drawdown transfer. The transfer must be on a ‘like for like’ basis so the current maximum income limit and review cycle will carry over to the new arrangement. The main advantage of remaining under the capped drawdown rules is that taking income within the GAD limit from a capped drawdown arrangement does not count as having flexibly accessed pension rights. This means that the member would not be subject to the money purchase annual allowance (MPAA) provisions (unless they had flexibly accessed pension rights under a different arrangement).

It’s also possible to move funds in capped drawdown to flexi-access drawdown – see the section titled 'Converting capped drawdown to flexi-access drawdown' Capped drawdown is different from flexi-access drawdown. You can find more information in the section above on Flexi-access drawdown.

Information on death benefits from capped drawdown funds and who they can be paid to can be found in our Death benefits guide.

It may suit an individual’s retirement income needs to stay within the capped income limits or they may be happy with their current investment strategy. Also, if they stay in capped drawdown and don’t flexibly access any pension benefits elsewhere, the normal annual allowance rules will still apply.