Updated 03 September 2020
You’re over 55 and have full access your pension pot… but other people want some of it too. No, not fraudsters – this time it’s your own children and grandchildren. Which makes it even harder, because of course you want to help them. But can you?
Over there is your thirty-year-old son, who’s still nowhere near being able to afford the deposit on a home of his own. And over here is you, with your hands on more money than you’ve ever seen in one place before. Like any good parent, you’d do anything for your children. The answer seems obvious, doesn’t it?
Pension freedom seems to have paved the way for parents and grandparents to help out their families financially. And that’s great – it’s your money, it’s your family, and there’s probably nothing that would give you greater happiness than seeing your children set up with homes and families of their own. So we certainly wouldn’t say ‘don’t do it’. But as with most things, there’s a smart way and a not-so-smart way to go about it.
If you’re considering taking money out of your pension to assist your children or grandchildren, then here are a few points to consider before you part with any cash.
Suddenly having access to many tens of thousands of pounds can change your perspective. Do resist the temptation to feel rich; you need to divide that amount by the number of years you hope to live for, and then remember that the answer is your annual income (give or take). A princely sum of £100,000 is a paltry £4,000 a year if you live for 25 years, and you may live much longer. Also take note of that ‘give or take’. If you don’t buy an annuity and leave your fund invested, then it can grow – but it can also lose value. So be wary of shelling out the equivalent of five or more years’ income in one go. It’s not a windfall, it’s your housekeeping money.
If you’ve set up a drawdown scheme, your money stays invested in the stock market. This means it could have good years and lean years, depending on how the markets perform. In good years you can afford to draw out more, since you’d be drawing mainly on interest, but in poor-performing years you should try to live more frugally, as every withdrawal will eat more into the capital sum. As your capital sum gets smaller, your growth also reduces, so your pot will shrink faster and faster in a downward spiral.
If you’re planning to use some pension money to help out your family, choose a year of good growth if you can, not one of the lean years. Otherwise you could inadvertently deal your fund a damaging blow.
You might be making a gift to help a family member onto the property ladder, but there are other less happy reasons your money may be needed. If you want to help someone settle outstanding debts, then proceed with even more caution. This is where your financial adviser can be a great help. Instead of just writing your child a cheque, you could pay for them to have some in-depth consultations with an IFA to get to the root of their debt problems. If you don’t address the underlying causes of the debt, the likelihood is that your pension money will disappear down the same black hole – leaving both of you in a much worse place.
It bears repeating: income from pensions is taxable, so if you withdraw more than your tax-free allowance in one year it will be subject to income tax at the normal rate. This can result in significant losses if you withdraw a large sum in one go, which could partially wipe out the benefits of saving into a pension in the first place.
Seeing how much money is in your pension pot, you might act without thinking. But if you’re planning to give gifts to family members, the smart thing to do is make gifts from other assets and use the pension last of all. Why? Because of inheritance tax. Gifts made more than seven years before your death are free from inheritance tax and will reduce the size of your taxable estate (gifts up to £3,000 a year are exempt anyway). But your pension pot is already exempt from inheritance tax, so it’s much more sensible to make gifts from the rest of your estate, helping your family while also reducing the tax they might have to pay later. Your children may then benefit twice over if you die before spending all your pension pot.
Another good reason to spend your savings first is that savings may be regarded as discretionary spending, whereas your pension was primarily set up to provide you with essential spending in retirement.
Ultimately, it’s your money to spend as you wish – and your wish may be to help out your children rather than spend it on yourself. Whatever you decide, a financial adviser can help you work out exactly how much you can afford to give away and still have enough to live on – search for your adviser here.
Even if you’ve already retired, you may find it very useful to consult our Countdown To Retirement checklist, to make sure your pension arrangements are in order.