Capped drawdown, explained

Introduced in 2011 and available until 2015, capped drawdown is a method of withdrawing income from a defined contribution pension. As the name suggests, the income you can take is limited by a cap, based on the fund's value.

As part of our Bitesize Technical series, Senior Technical Consultant Lisa Webster explains more.

Key insights on capped drawdown

Capped drawdown is similar to flexi-access drawdown, in that funds remain invested and only need to be sold to provide liquidity for income payments. However, a key difference is that capped drawdown imposes a limit on the amount of income that can be taken, unlike flexi-access drawdown which has no such cap.

The maximum income under capped drawdown is calculated when funds are first designated to drawdown, with subsequent reviews every three years until age 75, and annually thereafter.

The maximum income is determined using GAD tables, which calculate how much equivalent annuity £1,000 of the drawdown fund could purchase, based on the 15-year UK gilt yield.

There’s no obligation to take any income under capped drawdown, but if income is taken, it can be paid monthly, quarterly, annually, or on an ad hoc basis – provided the annual maximum is not exceeded. All income drawn is subject to income tax.

People who started capped drawdown before the cut-off date can continue adding funds to their existing arrangement, but cannot start a new one.

Most people have converted from capped drawdown to flexi-access drawdown, which eliminates the need for income reviews and may lower fees. However, the key advantage of capped drawdown is that it does not trigger the Money Purchase Annual Allowance (MPAA), allowing people to continue making higher tax-relieved pension contributions – unlike flexi-access drawdown, which triggers the MPAA upon the first income payment.

More Bitesize Technical

Take a bite out of ‘Uncrystallised Funds Pension Lump Sums’, the next instalment of our pension benefits Bitesize Technical series, or start from the beginning, here.