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Retirement Options

Converting your pension pot into cash or income

Annuities and Drawdown

After the age of 55 you can start converting your pension pot into cash and income but normally it makes sense to start taking money from your pension pot when you stop working

Nowadays, many people don’t retire in the traditional way because they move from full time work to full time retirment over a period of time.

In the past most people converted their pension pots into regular income by purchasing an annuity or taking their scheme pension. Now, with the new pension freedoms, you can take money from your pension pot when and how you want.

Most pension pots allow you take a 25%-tax free cash sum and this is a popular and tempting option. You will have to pay tax on the remainging 75% no matter where it is taken as a lump sum or regular income.

There are basically three ways to convert your pension into cash and income.

  • Cash lump sums - can be spread over a number of years
  • Purchasing an annuity - guaranteed income for life
  • Investing in pension drawdown - regular or ad hoc income payments

This all seems easy and straightforward but don’t be fooled as the decisions you make when converting your pension pot into cash or income are probably the most difficult financial decisions in personal finance.

If you are serious about maximising your pension income (or the money left to your family) you need to understand the following:

  • Your personal retirment journey- planning ahead is more complicated than you think
  • DB transfers sums- pros and cons of transfers
  • Cash lump sums- watch out for tax
  • Why Annuities are important – guaranteed income for life
  • The flexibility and risks of Drawdown – control over income and investments
  • Fixed term income plans- guaranteed income for short term
  • How to manage your retirement risks-
  • Chosing between an Annuity or Drawdown?- – this is the hardest question of all!

It is important you take the time to read and understand your options and the key issues so you can help your financial adviser and play an active role in the advice process. You may want peace of mind and security in retirement but you may end up with lots of worry and uncertainty if you make the wrong decisions.

If you want more reasons why should get financial advice read my online guide Financial advice - There is a lot at stake.

Your Retirement Journey

In the past, most people worked until the age of 60 or 65 and then retired with a combination of state and company or private pensions. Nowadays, especially since the introduction of pension freedoms in 2015, retirement can be more fluid as you move from full-time work to full time retirement gradually over several years.

In this sense retirement is a journey not an event because you don’t have to make big one-off decisions when you first retire.

DB Transfers

If you are considering transferring your company defined benefit (DB), also known as a final salary pension or ‘gold plated pension’ to a more flexible personal pension you will be making one of the most difficult decisions in personal finance.

You owe it yourself and your family to get expert advice and if you have over £30,000 of safeguarded benefits you must take financial advice.

Cash lump sum

Since 2015 it has been possible to convert all of your pension pot into a cash lump sum. It has always been possible to take 25% of your pension pot as a tax-free lump sum but now everybody can take the remaining 75% of their pension pot as a cash sum, but it will be taxed at your marginal rate.

About Annuities

An annuity is a policy that converts your pension pot into a series of regular income payments for the rest of your life no matter how long you live.

When you purchase an annuity the insurance company invests your money in very safe assets and pays you a regular income every month (other frequencies are available) for the rest of your life. If you select a joint annuity, and you die before your spouse or partner, the income will continue to them for rest of their life.

Pension Drawdown

A drawdown plan allows you take the normal 25% tax free cash sum and then you can take regular or ad hoc income withdrawals directly from your pension fund.

In many ways, this is similar to taking an income direct from your bank or savings account but your money stays inside a pension plan and you pay tax on any income paid out.

Fixed Term

Also known as ‘fixed term annuities’ these are plans which pay a guaranteed income for a specific period of time and at the end of the term there is a guaranteed amount paid pack into the plan.

Fixed term income plans are a type of drawdown plan which means that income payments are paid directly from the pension fund and the amount of the fund left over after making these payments is paid back to your pension plan

Your health

Standard annuity rates are calculated with reference to the average life expectancy for people living in the UK. This is fine for those in good health, but not so good for those who have below average life expectancy.

An enhanced or impaired life annuity pays a higher income because an allowance is made for any medical conditions which might reduce life expectancy

Tax

Mortality drag

Mortality drag is the negative effect of missing out on mortality cross subsidy if an annuity is deferred from one year to another. It is expressed as the additional investment return needed year by year in order to maintain the annuity purchasing power assuming the underlying annuity rate remains constant.

Retirement risks

There are many other different risks you should take into consideration during your retirement. These range from the risk that you might be too cautious and therefore get locked into low returns to being too optimistic and therefore run the risk of losing your cash or running out of income.

Of all these risks the most important is investment and you must work out how much risk you are prepared to take and how much risk you can tolerate. This begs the question: “how much risk should you take”?

Annuity or Dradwown

Converting your pension pot into an annuity or drawdown is one of the most difficult decisions in personal finance.

On the one hand you can have the peace of mind and security of an annuity and the other the flexibility and control of drawdown.

Which option is best for you?

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If you want to make the most of pension freedoms you should start planning ahead and make sure your financial affairs are in good shape in the years running up to retirement.

William Burrows

William Burrows

Offices in London and Northampton

Call: 07730 435 657

Better Retirement Group Ltd

400 Pavilion Drive
Northampton
NN4 7PA 
 68 Lombard St
London
EC3V 9LJ

If you need help or advice - Contact us

As one of the most respected specialist retirement advisers, William Burrows and Better Retirement will be pleased to help you make the right decisions at any stage of your retirement journey.

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