Pension freedoms explained

In April 2015, the tax rules were changed to give people greater access to their pensions. Today, anyone aged 55 or over is allowed to take the cash out of their pension pot and do what they like with it rather than having to buy an annuity.

This means if you want to take it all as cash, you can. Alternatively you can shop around for an annuity – which is a product which will turn your pension pot into an income, normally guaranteed for the rest of your life or opt for an income drawdown product or go for a combination of all of these!

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Taking it all as cash sounds good

The thought of cashing in your pension pot at 55 will sound appealing to many. But, before taking the plunge, there are a few things to consider.

Firstly, remind yourself why you built up the money in the first place. A pension is simply a planned savings scheme with a clearly defined aim: to ensure you have enough cash to last through your older years. Blow it all too soon and you could end up having to live off the relatively meagre state pension. There are also massive tax implications that you need to carefully consider.

Only a quarter of your pension pot is tax free, the rest attracts tax at your normal rate. That’s 40 per cent if you’re a higher rate taxpayer but even if you’re not, the money you draw will be added to your income and could very well push you into the 40 per cent tax bracket.

Rather than taking it all as cash can I make multiple cash withdrawals?

This will depend on your pension provider but some do offer this flexible access. For each cash withdrawal the first 25% is tax free and the rest counts as taxable income. There may be charges each time you make a cash withdrawal and/or limits on how many withdrawals you can make each year.

What’s the alternative?

Lifetime annuities turn your pension pot into an income which is normally guaranteed for life, and that can provide much needed comfort and peace of mind, particularly as we’re all living longer. But, be sure to shop around for the best one as they’re not all the same and the rates can vary considerably. When shopping for an annuity, be honest about your personal health and lifestyle as you might be able to get better terms.

Is there a middle way?

You can take up to a quarter of your pension fund tax free cash and you can then move the rest into one or more funds that allow you to take an income either at regular intervals, or at times to suit you – this is known as income drawdown. The income you receive from these funds may be adjusted periodically depending on the performance of your investments. As with annuities, it pays to shop around.

It’s important to remember that you don’t have to choose one option when deciding how to access your pension – you can normally 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:

  • when you stop or reduce your work
  • your income objectives and attitude to risk
  • your age and health
  • the size of your pension pot and other savings
  • any pension or other savings your spouse or partner has, if relevant
  • whether you have financial dependants
  • whether your circumstances are likely to change in the future

Anyone over the age of 50 can receive free guidance over the phone or face to face from Pension Wise, an impartial government service.

For more information visit www.pensionwise.gov.uk

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