Where do you keep the money you plan to use in retirement?
If your answer is anything other than “In my pension”, you could be chipping away at the value of your money.
Since Pension Freedoms came into effect in 2015, accessing money in Defined Contribution pensions (for example, personal pensions, many workplace pensions, SIPPs and stakeholder pensions) is more flexible, resulting in an increase in the amount of people withdrawing money from their pots and keeping it elsewhere.
However, it is usually better to stay invested in a pension until you need to access the money; and even then, taking only what you absolutely need to take.
Why?
Because withdrawing it, to keep in a savings account, will probably mean you end up losing money in real terms, because inflation is currently higher than the interest you will receive.
Almost a third (29%) of pension withdrawals are left sitting in a savings account, according to Retirement Advantage. That’s almost £1.9 billion in total.
Why does that matter?
When you withdraw money from your pension you lose three things:
- Tax-efficiency: As well as benefiting from added tax relief on any contributions you make to a workplace pension, your investments have the potential to grow, tax-efficiently while in a pension pot. This means that you can continue to grow your retirement fund.
- Potential returns: Reducing the amount you have invested will affect the value of any returns you may see on your capital. This is especially true if you put the withdrawn cash into a savings account, as it is unlikely that you will find an account with above-inflation interest rates. That means that you will be losing value in real terms.
- Money: When withdrawing money from a Defined Contribution pension, you can usually take up to 25% without incurring tax, but you may have to pay Income Tax on further withdrawals. This means that you should only take out what you need and taking out money that you won’t spend and don’t require will only serve to trigger an unnecessary tax charge.
If you are unsure about how much tax you will pay on withdrawals, use a pension tax calculator, like this one from Aviva.
Tackling the root causes
According to the research, 19% of withdrawals which have been put into saving accounts are a result of fear.
It seems that, for some, the potential for legislation and regulation changes is causing a great deal of uncertainty and, by putting their money into savings, they feel safer in the knowledge that it can be accessed on their own terms.
However, it is likely that the benefits of keeping your money invested in your pension will outweigh the chances of a regulatory change suddenly meaning that your money is out of your control.
Managing retirement income to meet your financial goals
Top tips for managing your income in retirement include:
- Use your personal tax allowances: Everyone has a personal allowance of £11,850, (the amount you can earn before you pay tax 2018/2019 tax year). It’s generally sensible to use up this allowance by taking your State Pension and income from other pension arrangements. You may then wish to consider taking any additional income needed from ISAs as this will minimise the Income Tax paid.
- Separate your regular and incidental expenses: This includes using different types of income for each type of expense. For example, many choose to use their guaranteed income streams to pay the essential costs of living, such as:
- State Pension
- Annuity
- Defined Benefit/ Final Salary pensions
- Income from working part-time
This leaves other pension arrangements to be accessed flexible as needed.
- Plan early: While it’s never too late to start thinking about using your retirement income wisely, the earlier in life you begin to plan how you will use your pension in retirement, the better.
- Seek advice: Talking to a financial adviser or planner can help you to calm your anxieties and feel more confident in the financial decisions you make. In addition, research has shown that those who seek financial advice and planning could save an additional £98 per month toward retirement, which could lead to an extra £3,654 in annual retirement income.
To discuss your retirement finances, no matter what stage of the planning process you are at, feel free to get in touch.
Please note
A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change in the future.
