“At-retirement” decisions cost retirees £1.7 billion a year. Here’s how you can avoid this fate

If you are in the run-up to retirement, you may already be thinking about how you will draw your retirement income.

This income is likely to come from various sources, including:

• Your State Pension, once you reach age 66 (or 67 as of 2028)
• Your defined contribution (DC) pension, also known as a “private pension”
• Any “final salary” pensions you have from current or previous employers
• Any other investments and savings you hold, such as ISAs
• Additional income, such as from properties you rent out.

Usually, you can access your DC pension pot from the age of 55 (rising to 57 in 2028), meaning you could already be preparing to draw these funds.

Although it may seem easy, drawing your pension is a once-in-a-lifetime milestone that requires a lot of forethought. Indeed, research from HSBC, published by Money Marketing, shows Brits lose £1.7 billion a year to “at-retirement” decisions that may have been made in a rush, or simply without sufficient preparation or advice.

Read on to find out why preparing well in advance of taking your pension is so important, and how we can help you make tax-efficient decisions down the line.

2 different ways to take your pension, and the tax implications of each

One of the main reasons retirees might “lose” money when drawing their funds is through tax.

If you rush into taking money from your pension pot, you could pay far more tax than necessary. Here are two ways you could take your DC pension, and the tax implications of these withdrawal methods.

1. Taking your entire pension as a lump sum

When the day of your retirement finally arrives, you may feel it is easier to draw all your money at once.

A one-off payment means you can decide to use your money however you please. Nevertheless, taking your entire pension as a lump sum can have serious tax consequences.

Generally, you can draw up to 25% of your pension as a tax-free lump sum. If you draw the whole fund, the remaining 75% will generally be taxed at your marginal rate of Income Tax.

Crucially, doing so could push you into a higher tax band when added to any other income you take, meaning you could pay up to 45% Income Tax on your pension withdrawal. Of course, this is highly inefficient – so taking all your fund as a lump sum may not be an advantageous option.

2. Flexi-access drawdown

As the name implies, flexi-access allows you to take money from your pension whenever you want. You can take tax-free cash (up to the 25% limit) as it’s needed throughout your retirement.

Flexi-access allows you to take a more ad hoc approach to retirement. Some years you could spend more, such as helping a younger family member onto the property ladder, while in other years you may live a less expensive lifestyle.

While helpful in many ways, flexibly accessing your pension triggers the Money Purchase Annual Allowance (MPAA). As of the 2022/23 tax year, the MPAA reduces your Annual Allowance (£40,000 or your total earnings, whichever is lower) to £4,000 a year. In the 2023/24 tax year, the Annual Allowance will increase to £60,000 and the MPAA will rise to £10,000.

In either instance, this means there is a very strict limit to how much you can continue to invest in your pension if, for example, you continue to work and contribute to your pension while also drawing a flexible income.

Overall, flexi-access is likely to be a more tax-efficient method of taking your pension – although, of course, the implications of the MPAA are worth considering.

Working with a Financial Planner can help you take your pension in a way that suits your retirement goals, without unnecessarily increasing your tax burden. By working with us, you could avoid being one of the retirees contributing to the almost £2 billion lost on inefficient pension withdrawals.

In 2023, the importance of getting the most of your retirement income can’t be understated

Of course, losing your hard-saved pension funds to an unnecessary tax bill could be frustrating to say the least. Especially in this day and age, as the cost of living crisis continues to worry families, squeezing the most from your retirement income is essential.

Here are three “big ticket” retirement milestones to factor into your retirement plan.

• Later-life care. The government now estimates that 3 in 4 adults will need later-life care at some point. You could be entitled to some care through the NHS, but many will need to pay for their own, which could cost thousands a year.
• Helping the next generation onto the property ladder. With house prices now 65 times what they were in 1970, while wages are only 36 times higher, your children or grandchildren could need help buying their first home.
• Travelling the world. If you’ve worked hard all your life to save up for an amazing retirement, now is the time to reap the rewards of your toil. You might wish to tick big destinations off your bucket list, so factoring these travel plans into your retirement budget is essential.

All these factors, and more, require forward planning.

If you’re approaching retirement age, you could benefit from seeking advice from an experienced Financial Planner now, not later – both to mitigate your tax bill, and prepare for this next phase in your life with plenty of time to spare.

Get in touch

To discuss drawing your DC pension, your retirement goals, or any other financial matter, contact us today. Email us at enquires@pen-life.co.uk or call 01904 661140.

Please note

This blog is for general information only and does not constitute advice. The information is aimed at retail clients only.

A pension is a long-term investment not normally accessible until 55 (57 from April 2028). The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Past performance is not a reliable indicator of future results.

The tax implications of pension withdrawals will be based on your individual circumstances. Thresholds, percentage rates and tax legislation may change in subsequent Finance Acts.

All information is correct at the time of writing and is subject to change in the future.