How Much Can I Take From My Pension?…3 Things To Consider
4 Ways to Understand How Much You Should Take from Your Pension?
This is another one of those, ‘how long is a piece of string’ topics. There is definitely no one size fits all approach, because we are all different, and so are the lifestyles we want.
Let’s be clear on a few basics. Depending on the type of pension you have, without delving into that black hole, the earliest you are likely to be able to access your pension at all is 55. With many pensions it may well be later than that, and in a few specific cases, before. So before even thinking about how much you can take, best to clarify the first point at which you can access your pension savings.
Another point to note is that some pensions, again, without disappearing into that black hole, provide access with far more flexibility. Where this is possible, they are Defined Contribution pensions. Others arrangements are designed to provide a guaranteed income which increases over time, until death, called Defined Benefit pensions.
Because of the large divergence in flexibility, I will stick to Defined Contribution pensions, where it has an investment linked value (which your pension provider should provide at least annually), and in most instances you are able to choose how much you take.
Here are the 4 pointers which you should be thinking seriously about, when considering what to take from your pension:
Do you need your pension….at all!:
There are some lucky folks out there who are sufficiently well off that they do not actually need to rely on any income from their pension. That could be because of a business sale, building up share options from your employer, an inheritance etc.. But you may see a pension as there to be spent in retirement.
However, whether you take cash from other assets, or your pension, it is all still your money to access to fund your lifestyle.
Following the introduction of pensions flexibility in 2015, pensions can now also be used as an inheritance tax planning vehicle as they have the ability to cascade money down across generations without triggering inheritance tax liabilities.
Given this is the case, and where you actually have more than sufficient assets to fund your retirement out with your pension, maybe you shouldn’t touch your pension at all?! Mad, I know.
Don’t forget the tax!:
If you weren’t aware, with the majority of Defined Contribution pensions, most people can take 25% of the pension fund tax free (subject to the Lifetime Allowance, currently £1.073m). But the remaining 75% (also within the Lifetime Allowance) is taxed in your own hands when you draw the income out.
There might be a significant amount of money in your pension, and lets say you took £200,000 (after your 25% tax free has been taken) in one go because you couldn’t help yourself and wanted to buy a car….you would pay a significant amount of income tax in the process! With the top rate payable at 46%!*
Therefore where you are tempted to raid the pension piggy bank, don’t forget the tax!
How long do you need your pension last?!:
Taking the first point, and flipping it on its head, what if your pension is your only asset of value available to you (other than sources of income like your state pension) to maintain / facilitate your lifestyle when you stop working? You should ask yourself how long your pension needs to last, as well managing taxation.
If your pension(s) needs to continue to fund your life over 25/30/35 years, which is entirely possible, you need to plan carefully and take an amount which sustains your pension fund(s) over that period, without running out!
You need to think ahead of time what life after work looks like for you, plus any big costs to consider (such as helping children with weddings and properties), and understand these numbers. You can then begin to map out how your pension(s) will need to support this, and most importantly if it can. Because there is certainly no guarantee it will. If it looks questionable whether it can, you need to give careful thought to realistic variables like your life expectancy, potential investment growth, increasing costs of living etc., to guide you on what amount you can safely draw out on an ongoing basis.
Don’t forget other assets and income!:
Because we can succumb to some form of mental account i.e. allocating different pots of money for specific purposes, we have a habit of assuming our pensions need to be accessed first and foremost when we stop earning, before considering other things.
Don’t forget other sources of income and assets when calculating what you need to spend and where the money is going to come from. This might include things such as cash savings (which isn’t earmarked for something else), premium bonds, accumulated stocks and shares, rental income, final salary pension income, and don’t forget State Pensions….this equates to £9,110.40 p.a. EACH currently if you have your full entitlement.
Consolidating this income will help you see the full picture, what your pension needs to provide you over and above this, and plan properly in the spirit of the point above.
Thinking through these points, you should be able to start to see where your pension fits in, and how to view it. But this is individual to you, so although it would be easier to have a one size fits all, there isn’t one! The more you are able to organise and articulate your affairs and plans going forward (without making it boring!), the more reassured and in control you will feel.
*2020/21 Scottish Income Tax Rates