This article looks at defined contribution pensions, most commonly known as personal or workplace pensions. They work by building up a pension fund from contributions made by you, your employer and tax relief from the government.
The value of your pension and the income it will provide isn’t guaranteed and depends upon the total contributions made and investment growth after charges.
Pension freedom rules introduced in April 2015 now give you more flexibility over how you can access your pension benefits.
For most people, the earliest you can access the money without significant tax penalties is age 55 (rising to 57 in 2028). As pensions are designed to support you throughout retirement, ideally you should wait as long as possible before accessing them. This will give you time to consider your options and determine how best to use your pension during retirement, as well as giving your pension fund more opportunity for growth. In most cases, 25% of the fund is available as ‘tax free cash’, with the remainder being used to provide a taxable income. A brief summary is provided below of the main options for accessing your pension benefits.
Annuities allow you to exchange some or all of your pension fund for a secure income for life. It can help those who want certainty or to cover essential expenditure. There are a wide range of options available to suit differing needs (such as spouse’s benefits, escalation and guarantee periods), which all have an impact on the annuity rate available. Shopping around for the best rate in the market is therefore crucial, especially if you smoke or have a medical condition as you could receive an enhanced annuity rate.
It is important to think carefully about the annuity options you choose, as once selected they can’t be altered in the future, even if your circumstances change.
Flexible access lets you dip into your pension while the remaining fund stays invested.
You also have the ability to start or stop regular withdrawals or to increase or decrease them as your needs dictate. This means that you can take all of your pension fund in one lump sum or spread it out over a series of smaller withdrawals. How much you take and when is entirely up to you, but taking large withdrawals (in excess of your tax free cash) is likely to result in a significant tax bill.
You also have the ability to access just the tax-free cash element until it is exhausted or a combination of tax free cash and taxable funds.
With flexible access, regular reviews are essential as your pension fund isn't guaranteed to last throughout your lifetime. If you take excessive withdrawals, live longer than expected or suffer poor investment performance, your pension could run out of money before you die.
The option to purchase an annuity is always available.
A combination of approaches
You don’t have to use just one option. You can combine these options to suit your particular needs.
Which option is right for you will depend on your:
- Age and health
- Current and likely future circumstances
- Income requirement
- Attitude to risk
- Other assets or income sources and the size of your pension
- Tax position
- Your spouse’s/partner’s assets and whether you have financial dependents
As you can see there is a lot to think about before deciding upon your retirement options and you should seek independent financial advice if you are unsure. Speak to a member of Nockolds Wealth to find out more.
- This article is for your general information only, and is not intended to address your particular requirements. The content should not be relied upon in its entirety and shall not be deemed to be, or constitute, advice.
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- Levels and bases of, and reliefs from, taxation are subject to change and their value depends on the specific circumstances of the individual. All figures relate to the current tax year unless otherwise stated.
- The value of your investments and the income derived from them can go down as well as up and you may get back less than you invested. Where stated, past performance is used as a guide and is no guarantee of future returns.