In 2015, the Government introduced changes to pension rules. The options available at retirement increased. The regulations were called Pension Freedoms and gave more control to people approaching retirement.
Whilst it was a positive change, there are more decisions to make. The rules are now more complex than before.
Understanding the options pensions have is critical to making the right decisions. Any wrong decisions could be costly.
Retirement presents an exciting as well as daunting change. Having the income to do everything you dreamed of is essential.
During this time, the last thing you want to do is worry about money. Fewer employees have access to final salary pension schemes, and more and more people now rely on workplace and personal pensions.
Most workplace pension schemes cannot give financial advice, which represents a problem for many people.
Since the introduction of Pensions Freedoms, you have had more choices. This is split into three main types. These are:-
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Before 2015, pension annuities were the most popular form of income in retirement. Since 2015, retirees have preferred to use different Income drawdown rather than using their pension pot to buy an annuity.
Purchasing an annuity generally involves taking 25% of your pension pot as a tax-free lump sum. You then exchange the remaining 75% of your pension savings for a guaranteed income for life.
The benefits from an annuity are taxable as income. The amount you receive depends on the type of annuity. It also depends on your age and health. Someone who is 55 and healthy will receive a lower retirement income each year compared to someone aged 70.
This is because the provider will likely pay the income for longer. Annuity rates are also closely linked to interest rates. Interest rates have increased, and annuities have become more attractive.
When interest rates were lower, the amount of income was less. There is still flexibility due to the pension options available.
Flexi-Access Drawdown (FAD) offers the greatest flexibility when you access your pension. Like annuities, you can take 25% of the money from your pension pot free of tax. This can be taken at any time. Funds that are not used remain invested.
The aim long term is to grow the pension fund to obtain a better income from your pension.
There are risks, as the value of the pension pot could also fall. Any funds taken that are not tax-free cash are taxable as income. Flexible-Access Drawdown is now a popular option for retirees. It allows complete control over how and when income is taken.
One strategy is to take the 25% tax-free lump sum at the start of retirement. You can use it to fund significant one-off expenses.
This could be for significant expenditures such as a mortgage, a new car or a dream holiday. The remaining 75% of the money is invested; any income is taken from that pot each year.
The amount you take depends on how much income you need.
The total amount of this income taken will be taxable.
For example, if you have a pension pot of £500,000, you may take your tax-free cash of £125,000. This then leaves £375,000 invested in the stock market.
In year one, you estimate that you need £20,000 in income. This is withdrawn from your pension fund. The amount withdrawn is subject to income tax.
Another option is to take a number of lump sums as tax-free cash when needed. Each year you will crystalise a small amount of the pension fund. 25% of the amount will be a tax-free lump sum. The remaining 75% is taxable as income.
This is well suited to those who do not need their entire tax-free lump sum. We will use the same example as before, starting with a £500,000 pension pot. You decide that you require an income of £20,000 in year 1. This time, £5,000 is tax-free, and only £15,000 is taxable as income.
Under a Flexi-Access Drawdown, funds can be left to a chosen beneficiary.
Before age 75, the pension fund is outside your estate for IHT purposes. You can also nominate more than one beneficiary. The flexible aspect of your pot is also transferred. The beneficiaries can continue to take an income or a lump sum.
The death benefits can be taken free of tax before the age of 75. However, they are taxable if you pass away at age 75 or later.
There are more risks involved with FAD compared to purchasing an annuity. One significant risk is called longevity risk, which is the danger that your money runs out before you die.
Income drawdown is a complicated aspect of pension advice and requires planning to avoid costly mistakes. With many factors, it can be challenging to plan accurately.
Pension Wise is a government provided service for people aged 50 or older with a pension in the United Kingdom. It can assist individuals in understanding the kinds of pensions they have.
How they can access their funds and the tax consequences of their various choices. However, it only offers pension guidance and not financial advice. You can arrange a pension wise appointment from their website.
We are happy to help if you have questions about your pension and your situation. We are open normal working hours Monday to Friday, 9:00 am to 5 pm
Call us on 01454 321511
Alternatively, you can email us
Many of our clients are based in Bristol, Bath and South Gloucestershire. However, we also deal with clients throughout the South West and the UK. If you are retired, looking to take benefits, or want to find the best way to save for retirement, we can help you.
We can provide advice on all aspects of pensions. This can include Personal Pensions, Self Invested Personal Pension arrangements, Stakeholder, Group Pension schemes and pension annuity purchases.
Pension Freedoms provide a considerable advantage for retirees looking for flexible retirement planning. However, this brings increased complexity due to the large array of pension choices available.
No two situations are the same. There is often no right or wrong solution, but there is always an optimal strategy. We can help you find the right retirement strategy. We use cash flow planning and expenditure analysis and estimate your sustainable spending rate.
If you require simple guidance then the government offer the pension wise service. However, this is only guidance and not advice.
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