Can I take out my whole pension in one go?
Pension freedom gives you full access to your pension pot from the age of 55. Technically, this means that you could withdraw the whole sum at once. But there are some big reasons why in most cases you wouldn’t want to do this. Article by Armstrong Watson Financial Planning.
Is it really possible to take all your pension at once? Well, yes and no.
The changes that took effect from April this year do indeed allow those over 55 immediate access to their entire pension fund. However, only in a small number of instances would this be the best course of action. Why?
Sucker-punched by the taxman
After more than half a year of pension freedom, we are seeing large numbers of people with modest pension pots opting to cash them in rather than using them to buy a guaranteed income (an annuity). This isn’t in itself a surprise.
What is more alarming is that even this fairly simple process is causing problems. Many who have opted to take out their entire pot have done so without taking financial advice – and as a result they could have misunderstood the tax implications.
For example, if the pension provider has not received an up-to-date P45, then they are likely to default to using the emergency tax code. This creates the possibility of a larger-than-expected tax bill, and although the excess can usually be claimed back it can be a source of inconvenience and great stress.
Things become even more complicated for those who wish to access their pension pot while still working. In these circumstances, the taxable element of income from their pension can push some individuals into a higher marginal rate of tax. People forget that although they can take 25 per cent of their pot tax-free, the rest counts as fully taxable income. Suppose you were still earning £45,000 a year and took £10,000 from a pension pot (having already taken your tax-free 25 per cent). Then the whole £10,000 would be taxable at 40 per cent, costing you an enormous £4,000.
Walking the tightrope of risk
The tax implications of pension freedom mean that seeking advice is often a must, particularly for those with larger or multiple pension pots. So much depends on the method used to access the pension funds that been built up – with the options including drawdown, uncrystallised fund pension lump sums (UFPLS) and annuities, or a combination of the above. The method used can make a major difference to how much tax is paid and ultimately how much you actually get from the savings, and so this alone often justifies the advice fee.
But it’s not just unexpected taxation you have to worry about. Another factor, perhaps equally important, is risk.
Let’s suppose you’ve considered the disadvantages and decided not to take your whole fund as a lump sum. However, you are attracted by the prospect of features such as enhanced death benefits and the ability to vary your income without limit to suit your tax position. In this scenario, you may be drawn away from purchasing an annuity and towards flexi-access drawdown.
Flexi-access drawdown is distinct from capped drawdown (which was available before pension freedom was introduced) in that there is no limit to how much you can take out from your fund. People who in the past would have chosen an annuity to give them a guaranteed income for life, are now drawn towards this new option. However, drawdown involves ongoing investment even after you’ve started to access the funds, so you are still exposed to the risks of the market’s performance. This means it’s vital to get your investment strategy right, and also to manage your withdrawals very carefully in light of your fund’s performance. Failure to manage both of these risks could result in your fund running out of money too soon.
Your investment strategy in drawdown could be similar to the one used while your pension fund was accumulating – but it may need to be dramatically different. Some people may ‘sleepwalk’ into flexi-access drawdown without reviewing their investment strategy to see if it is still appropriate – and these individuals may be in for a nasty shock.
Investment markets can be very turbulent – we see this all the time – and someone who retired earlier this year could easily have seen their fund fall by more than 10 per cent already. The price of pension freedom is greater vigilance and full preparation. There are countless possible investment strategies to suit both the aggressive and the cautious investor, but in all cases it’s vital to make the right decisions at the outset. This is where advice is crucial.
How not to miss out
As pension freedom evolves in response to consumer demand, we can expect to see more and more kinds of products entering the market. One of the new kids on the block is the concept of a guaranteed drawdown arrangement – a halfway house between drawdown and a traditional annuity – and no doubt plenty of more new ideas will follow. But someone in a rush to access their pension money right away could overlook such opportunities, or never even find out about them, and so could lose out on many potential benefits as well as losing money through tax. Where pension freedom is concerned, you act in haste and repent at leisure – so make sure you go into it fully armed with professional advice.
Armstrong Watson Financial Planning is the independent financial advisory division of Armstrong Watson and has advisers at 15 offices across the North of England and South Scotland. The firm has been awarded the prestigious title ‘Chartered Financial Planners’ by the Chartered Insurance Institute (CII) and has been shortlisted in the category ‘Top 50 Wealth Management Team of The Year’ in the 2015 British Accountancy Awards.
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