The income choice in retirement

Post by Mearns & Company in News

If you are in control of how you take your pension in retirement, have you thought about how you intend to convert your pension pot into income when you retire? The last 18 months of high inflation mean you may need to review how you draw income if you are approaching retirement.

Retirement is increasingly a gradual process. That can be seen in the latest employment statistics which show 11.6% of the population aged 65 and over to be still in work. The trend to phase in retirement has probably been partly driven by the rises in the state Pension Age (SPA) that have occurred since 2010. Currently the SPA is 66, but the two years from April 2026 will see a further phased increase to 67. If you were born after 5 April 1960 and are planning to retire soon, that is a factor to bear in mind.

Flexibility is normally more important for a phased retirement as you will need to adjust your pension benefits according to the level of your earnings, and once you start receiving the state pension.

How you draw your pension income will also depend upon:

  • the other income that you expect to receive in retirement, for example from investments;
  • your attitude to risk – how much security of income you require; and
  • the extent to which you want to use your pension as part of your estate planning.

Balancing options

At one end of the pension income spectrum is the annuity. This guarantees an income for life – and that of your partner too if you so choose. Volatile investment markets have rekindled the appeal of fixed payments, while rising long-term interest rates have significantly improved annuity rates. For example, for a couple aged 65 and 62, the May 2023 level annuity rate is almost 50% higher than at the start of 2022.

At the other end of the spectrum is income withdrawal, drawing taxable payments directly from your pension investment funds. This approach offers maximum flexibility and better estate planning benefits, but with investment risk replacing the annuity’s guarantee.

Falling between annuities and income withdrawals are a variety of other ways of drawing income, some of which rely on the tax-free pension commencement lump sum element.

Combining different income methods can be a sensible option. For instance, you could use an annuity to provide a guaranteed base income and add a flexible top up via income withdrawals. To understand your options, the first step is to seek advice, well before you need the income to begin.

State pension age warning: The timing of the move to an SPA of 68 remains unclear.  Government confirmation of an earlier independent recommendation that the increase should occur between April 2037 and April 2039 was deferred again at the end of March 2023. This will now wait until “a further review within two years of the next Parliament”, sidestepping a tricky election issue.

The value of your investment and any income from it can go down as well as up and you may not get back the full amount you invested.

Investing in shares should be regarded as a long-term investment and should fit in with your overall attitude to risk and financial circumstances.

Occupational pension schemes are regulated by The Pensions Regulator.

The Financial Conduct Authority does not regulate will writing and some forms of estate planning.

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