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Pension Drawdown Page

Pension Drawdown

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You can usually choose to take up to 25% of your pension pot as a tax-free lump sum when you move some or all your pension pot into drawdown, from the age of 55.

You will need to carefully consider where to invest the remaining 75% (or less if you have not needed to take the full 25%), taking your likely income needs and attitude to risk into careful consideration.

How does pension drawdown work

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This video highlights the options that you could have at retirement, specifically Pension Drawdown, what it means and the things that you need to consider when planning for your retirement.

The Golden Years?

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Be better off in retirement

Imagine you’re retiring today. Have you thought about how you’re going to financially support yourself, and potentially your family too, with your current pension savings? The run-up to your retirement may feel overwhelming, but this is an important time for you and your savings.

Following the pensions reforms, there are now more options available than ever and this has removed the compulsion to purchase an annuity. It also means that you can use your pension fund to benefit your named beneficiaries, whoever they may be.

Basic retirement lifestyle

If you are approaching retirement it’s time to think about what you’re going to do with the money you’ve been working hard to save all these years. The average UK pension pot after a lifetime of saving stands at £61,897[1]. With current annuity rates, this would buy you an income of only around £3,000 extra per year from age 67, which, added to the maximum State Pension, makes just over £12,000 a year – just enough for a basic retirement lifestyle.

In more recent years, when it’s time to take a retirement income, some people are choosing to do so through pension drawdown. Pension drawdown provides a way to establish a flexible income, set at whatever level you choose, which can be increased or decreased over time to match your needs.

Flexibility and control

For many, this may seem a more fitting solution to their retirement needs than purchasing an annuity, which is a more established option that typically offers a set monthly income for life. However, although pension drawdown offers flexibility and control, there are differences to consider.

While annuity income is fixed for life, pension drawdown can only continue for as long as you have savings remaining – and once they’re gone, you’ll receive nothing. So, it’s important to receive professional financial advice to ensure that you withdraw your money at a rate that will last your expected lifetime.

Will your savings last a lifetime?

It’s important to consider that your retirement could last for 30 years or more, depending on when you retire and how long you live. This is why some people use pension drawdown as the option to provide their retirement income. Your savings remain invested even after you retire, which means they have the opportunity to continue growing through investment returns.

But it’s impossible to predict exactly how much they will grow each year. Some years they will grow more than others, and some years they may fall in value. If your rate of withdrawal exactly matched your growth rate, your savings could last indefinitely. But, because growth is so hard to predict, this is near impossible to do.

How much can you safely withdraw?

A 4% withdrawal rate is typically stated as a guide for how much you can withdraw each year from your retirement savings. This figure is estimated based on the history of the financial markets and how much investments have tended to grow over periods of around 35 years (the expected duration of retirement for someone who retires in their sixties).

So, if you have £500,000 in savings when you retire, 4% would initially equate to £20,000 a year.

However, there are a few additional details that mean this figure can’t be used totally reliably:

  • Past performance of the stock markets cannot reliably predict future growth
  • The performance of investments in your portfolio may be better or worse than average
  • It’s impossible to know for sure how long your retirement will last
  • Your financial needs are likely to change over time, typically peaking in early retirement and then in later life

Changing pensions landscape

So, a 4% rate of withdrawal could be either overly cautious, resulting in the accumulation of wealth that could create an Inheritance Tax
liability, or overly reckless, resulting in complete depletion of your savings when you still have years left to live.

In this world of ours, very little stands still. The same can be said for the pensions landscape. As high earners are faced with even more restrictions and potential pitfalls, it is vital to understand the rules and seek specialist advice. Start talking to us today about your future retirement plans and we can help you make sure it’s a resilient one.

Building a better retirement

If you’re approaching or have already turned 55, you might be wondering what is a good pension pot value to aim for. This will naturally
depend on your circumstances. To discuss your requirements, please contact us.

Retirement Options

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What can you do with your pension pot?

When the time comes to access your pension, you’ll need to choose which method you use to do so, with options including: buying an annuity, taking income through (flexi-access) drawdown, withdrawing lump sums or a combination of all of them.

There are advantages and disadvantages to each method, and in some cases your decision is permanent, so it’s important to ensure that you obtain professional financial advice when considering your different options.

This is a complex calculation that must take into account the growth rate your investments might achieve, the eroding effects of inflation on your savings, and how long your savings will need to last.

Annuities – guaranteed income for life

Annuities enable you to exchange your pension pot for a guaranteed income for life. They were once the most common pension option to fund retirement. But changes to the pension freedom rules have given savers increased flexibility.

You can normally withdraw up to a quarter (25%) of your pot as a one-off tax-free lump sum, then convert the rest into a taxable income for life – an annuity. There are different lifetime annuity options and features to choose from that affect how much income you may receive. You can also choose to provide an income for life for a dependent or other beneficiary after you die.

Flexible retirement income – pension drawdown

When it comes to assessing pension options, flexibility is the main attraction offered by income drawdown plans, which allow you to access your money while leaving it invested, meaning your funds can continue to grow.

This option normally means you take up to 25% of your pension pot, or of the amount you allocate for drawdown, as a tax-free lump sum, then reinvest the rest into funds designed to provide you with a regular taxable income.

You set the income you want, though this might be adjusted periodically depending on the performance of your investments. You need to manage your investments carefully because, unlike a lifetime annuity, your income isn’t guaranteed for life.

Small cash sum withdrawals – tax-free

This is an important consideration for those weighing up pension options at age 55, the earliest age at which you can take up to 25% of your pension pot tax-free. You should ask yourself whether you really need the money now. If you can afford to leave it invested until you need it then it has the opportunity to grow further.

For each cash withdrawal, the remaining counts as taxable income and there could be charges each time you make a cash withdrawal and/or limits on how many withdrawals you can make each year. With this option your pension pot isn’t re-invested into new funds specifically chosen to pay you a regular income and it won’t provide for a dependant after you die.

There are also more tax implications to consider than with the previous two options. So, if you can, it may make more sense to leave it to grow so you can enjoy a larger tax-free amount in years to come. Remember, you don’t have to take it all at once – you can take it in several smaller amounts if you prefer.

Combination – mix and match

Of all the pension options, if appropriate to your particular situation, it may suit you better to combine those mentioned above. You might want to use some of your savings to buy an annuity to
cover the essentials (rent, mortgage or household bills), with the rest placed in an income drawdown scheme that allows you to decide how much you can afford to withdraw and when.

Alternatively, you might want more flexibility in the early years of retirement, and more security in the later years. If that is the case, this may be a good reason to delay buying an annuity until later in life.

The value of retirement planning advice

There will be a number of questions you will need answers to before deciding how to use your pension savings to provide you with an income. These include:

  • How much income will each of my withdrawals provide me with over time?
  • Which withdrawal option will best suit my specific needs?
  • How much money can I safely withdraw if I choose flexi-access drawdown?
  • How should my savings be invested to provide the income I need?
  • How can I make sure I don’t end up with a large tax bill?

How much are you saving for your retirement?

We can advise on your retirement planning, whether you are in the process of building your pension pot or getting ready to retire. Working closely with you, we will identify what you want from  your pension and develop a structure that meets your requirements. To find out more, contact us to discuss your options.

A pension is a long-term investment not normally accessible until age 55 (57 from April 2021). The value of your investments (and any income from them) can go down as well as up which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change in the future. You should seek advice to understand your options are retirement. Accessing pension benefits early may impact on levels of retirement income and your entitlement to certain means tested benefits and is not suitable for everyone. You should seek advice to understand your options at retirement.

Planning for tomorrow, today

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4 pension facts to help you create a happy and wealthy retirement.

The future may seem far away. Regardless of your retirement goals, there are things you can do to increase your chances of success.

It is important to look objectively at your plans and adapt them as your priorities change over the years and you go through different life events.

Your retirement will be as individual as you are and it may arrive earlier than you had anticipated. Time really does fly. Planning ahead is almost certainly going to give you more choice and freedom and pensions can be the most tax-efficient way to save for your retirement.

1. Tax Relief

Most UK taxpayers receive tax relief on their pension contributions, which means that the Government effectively adds money to your pension pot.

Basic rate tax relief: The pension scheme administrator will claim the basic rate tax relief for you from HM Revenue & Customs (HMRC). With basic rate Income Tax at 20%, for every £80 you pay into the pension plan you receive basic tax relief of £20 which is also paid into your plan. The total amount paid into the plan is therefore £100.

Scottish taxpayers and tax relief: Scottish taxpayers receive tax relief based on Scottish Income Tax rates and bands. If you pay tax at the Scottish starter rate, HMRC will not ask you to repay the extra tax relief claimed by the pension scheme administrator.

Welsh taxpayers and tax relief: From 6 April 2019, the Welsh Assembly has devolved powers to set their own Income Tax rates. Currently they have set the rates at the same level as the UK rates.

Please note that the Scottish and Welsh rates may change in the future

Higher rate and additional rate tax relief: Intermediate, higher or top rate tax payers may be able to claim further tax relief from HMRC. If you are eligible for further tax relief on your payments, you can ask HMRC to change your tax code by contacting them or you can complete a Self-Assessment Tax Return after the tax year has ended.

2. Employer Contributions

The Government introduced auto-enrolment as a way of helping employees save for retirement. It means that employers must automatically enrol certain staff into a workplace pension scheme.
When you pay into a workplace pension, your employer and the Government also contribute. The amount paid depends on your employer’s pension scheme and your earnings, but minimum contribution rates are set.

Unlike other ways of saving, a workplace pension means you aren’t the only one putting money in. Your employer has to contribute too, as long as you earn over £6,240 a year. You will also receive
a contribution from the Government in the form of tax relief. This means some of your money that would have gone to the Government as income tax, goes into your workplace pension instead.

You and your employer must pay a percentage of your earnings into your workplace pension scheme. The earnings trigger is one of the three key factors which ultimately governs who gets enrolled into a workplace pension scheme through automatic enrolment (the existing threshold is £10,000 for the tax year 2020/21, which runs from 6 April to 5 April the following year).

Under auto-enrolment schemes, you make contributions based on your total earnings between £6,240 (Lower limit qualifying earnings band) and £50,000 (Upper limit qualifying earnings band) a year before tax.

Your total earnings include:

  • salary or wages
  • bonuses and commission
  • overtime
  • statutory sick pay
  • statutory maternity, paternity or adoption pay

From April 2019 the amount of total minimum contributions increased to 8% – your employer will contribute 3% and you will contribute 5%. These amounts could be higher for you or your employer because of your pension scheme rules. They’re higher for most Defined Benefit pension schemes.

In some schemes, your employer has the option to pay in more than the legal minimum. In these schemes, you can pay in less as long as your employer puts in enough to meet the total minimum contribution.

3. Flexible access

A Defined Benefit pension scheme pot is highly flexible from age 55. Almost all pensions allow you to take some of your money as tax-free cash. With this option, you can take some or all of your 25% tax-free cash first. What’s left in your pension pot remains invested, giving it a chance to grow; however, as with all investments, your money can go down as well as up.

After you’ve taken all of your tax-free cash, any money you take out will be subject to tax. This means that you can take money from your tax-free amount first and then take the taxable amount when you need it. Remember, you don’t have to take all of your tax-free cash in one go.

To help you minimise the tax you pay, you can take the taxable money whenever you like. So, for example, you can take it over a number of different tax years. This spreads it out, and if you do it this way it could help keep you in a lower tax bracket.

4. Effects of compounding

While it is never too late to start saving and planning for retirement, the earlier you start, the better. Starting earlier means more time for your savings to benefit from the effects of compounding returns. Conversely, the longer you wait, the less time you have for your money to grow and the harder you’ll have to work to reach your retirement goals.

The basic concept is simple. Compounding returns is where the profits you earn on your money are re-invested and start earning more money, which is then re-invested again and so on. With compound returns, it’s less about how much you can afford to put aside and more about for how long the money has time to grow, with your money snowballing into a pot.

Are you approaching retirement, or about to retire?

In the years leading up to retirement, you might start to wonder if you have saved enough to retire comfortably and thought about everything you need to consider. Are you ready to retire? Do you know what you might get? Do you understand your income options, tax and your State Pension? Please speak to us to discuss your options.

Accessing pension benefits early may impact on levels of retirement income and your entitlement to certain means tested benefits and is not suitable for everyone. You should seek advice to understand your options at retirement.

Information is based on our current understanding of taxation legislation and regulations. Any levels and bases of, and reliefs from, taxation are subject to change. Tax rules are complicated, so you should always obtain professional advice. A Pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Past performance is not a reliable indicator of future performance. Pensions are not normally accessible until age 55. Your pension income could also be affected by interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation, which are subject to change in the future.