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Options for using your pension pot – an article by John Lavery (with a lot of help from the Money Advice Service)

Published 08/11/2017 10:14:00, by Marina Maher

Following on from the recent article about service pensions I thought it would be worth a quick look at some of the options to consider if you have an additional pension scheme - either occupational or private. Following the changes announced in April 2014 you now have more choice/flexibility about how you use the money accumulated in your pension pot. 

But hang on a minute - what is a pension pot? ‘Pension pot’ refers to a type of pension you build up with pension contributions you and/or your employer make, i.e. it is the total of your (& your employers) pension contributions (Plus interest/growth if you have been lucky) whilst you are earning. You will have one if you have a ‘defined contribution’ pension which includes workplace, personal and stakeholder pension schemes.

So what can I now do?

Leave your pension pot untouched

You might not need it on the original planned date so now you are able to delay taking your pension until a later date which means it continues to grow tax-free, potentially providing more income once you access it.

Buy an annuity – a guaranteed income for life

This is the traditional use of a pension pot where you convert the final  into a taxable income (annuity) for life - you usually have the option of withdrawing up to a quarter (25%) of your pot as a one-off tax-free lump sum before “buying” the annuity.  You can also choose to provide an income for life for a dependent or other beneficiary after you die.

Provide a flexible retirement income – flexi-access drawdown

With this option an individual can normally take up to 25% (a quarter) of their pension pot or of the amount allocated for drawdown as a tax-free lump sum, then re-invest the rest into funds designed to provide a regular taxable income. This means to some extent you set the income you want, though this might be adjusted periodically depending on the performance of your investments however unlike with a lifetime annuity income isn’t guaranteed for life – so careful management of investments is required.

Take small cash sums from your pot

You can use your existing pension pot to take cash as and when you need it and leave the rest untouched where it can continue to grow tax-free.  For each cash withdrawal, normally the first 25%  is tax-free and the rest counts as taxable income.  However be aware that there might be charges each time cash is withdrawn and/or limits on how many withdrawals can be made each year.

Take it all at once!

Individuals can empty their pension investment and take the whole amount as cash in one go. Normally, the first 25% (quarter) will be tax-free and the rest will be taxed at your highest tax rate – by adding it to the rest of your income. There are many risks associated with making this decision - there is a strong chance of incurring a large tax bill, it won’t pay a regular income and, without very careful planning, an individual could run out of money.

So much choice!

There’s a lot to weigh up when working out which option or combination will provide you and any dependants with a reliable and tax-efficient income throughout your retirement.   You don’t have to choose one option when deciding how to access your pension – you can mix and match as you like, and take cash and income at different times to suit your needs.  You can also keep saving into a pension if you wish, and get tax relief up to age 75.

Which option or combination is right for you will depend on:

Your age and health
When you stop or reduce your work
Whether you have financial dependents
Your income objectives and attitude to risk
The size of your pension pot and other savings
Whether your circumstances are likely to change in the future
Any pension or other savings your spouse or partner has, if relevant

The key is not to take any decision on your own but to seek advice – there is plenty of free guidance available.  The Money Advice Service (https://www.moneyadviceservice.org.uk/en/categories/pensions-and-retirement)  offers online guidance and much further detail on all the options mentioned above; the government backed Pension Wise service (https://www.pensionwise.gov.uk/en)  offers free consultation  for those over 50, and any accredited financial advisor will offer you advice (subject to their fee arrangements).  

Please also remember that individuals must have reached normal minimum pension age to access their pension fund – currently 55 (or earlier if in ill health or with a protected retirement age). Also not all pension schemes and providers currently provide every option – public sector pensions provide very little if any flexibility – so check first before contemplating any of the above and if you are looking to invest in a personal pension scheme be sure to shop around.

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