Being able to access a pension flexibly has opened up far more opportunities for retirees. But research suggests that some retirees could be paying more tax than they need to or aren’t actively managing their withdrawals.
Since 2015, pensioners have been able to take flexible withdrawals from their pension using Flexi-Access Drawdown. With this option, you’re able to adjust withdrawals to suit your needs whilst the rest of your pension savings usually remain invested.
It’s an option that’s proved popular among those reaching retirement. In fact, more retirees are choosing Flexi-Access Drawdown than the traditional way of accessing a pension; purchasing an Annuity. An Annuity is a product that you purchase at retirement that then pays out a set amount, sometimes linked to inflation, for the rest of your life. Whilst this provides certainty throughout retirement it is inflexible. The latest trend indicates that flexibility is something modern retirees want when it comes to their income.
Retirees taking advantage of Flexi-Access Drawdown
Figures published by HMRC show that a total of £30 billion has been withdrawn flexibly from pensions since the 2015 introduction. In the third quarter of 2019 alone, £2.4 billion was withdrawn in this way.
The average amount taken out each quarter per person is around £7,250. Compared to the third quarter of 2018, the average withdrawal has fallen by around £350. This is in line with average withdrawals falling steadily and consistently. It’s a trend that indicates retirees are aware of the challenges of using Flexi-Access Drawdown, including the potential tax charges.
Steve Webb, Director of Policy at Royal London, said: “Pension freedoms have been hugely popular and allow hundreds of thousands of people every quarter to draw on their pension savings in a flexible way. There is also evidence that people are being savvy about the timing of their withdrawals, spreading them over more than one tax year to reduce their overall tax bill.
“But it remains the case that we need to increase the proportion of people who take financial advice or guidance before making decisions about how much of their pension to withdraw.”
Flexi-Access Drawdown and tax
First, what tax do you need to pay on pension withdrawals?
This will depend on your personal circumstances and other sources of income you may have. Pension withdrawals count as income and may, therefore, be liable for Income Tax once you exceed the personal allowance of £12,500. For the 2019/20 tax year, the tax bands for England, Wales and Northern Ireland are:
- Basic rate of 20% for taxable income between £12,501 and £50,000
- Higher rate of 40% for taxable income between £50,001 and £150,000
- Additional rate of 45% for taxable income over £150,000
Crossing over into a higher tax band unexpectedly could mean you’re faced with a higher tax bill and that your savings don’t go as far. This is particularly true if you cross the £50,000 income mark, as the tax rate increases significantly between the basic rate and higher rate.
To minimise the tax due on pension withdrawals, you need to keep track of all your sources of income. In some cases, delaying a withdrawal until the start of a new tax year can save you money. You may find it easier to spread your regular withdrawals out over the course of the year to avoid paying Income Tax on a larger lump sum taken out.
Accessing your pension flexibly
Tax isn’t the only thing you need to manage when accessing your pension flexibly. You’ll be responsible for deciding how much to withdraw and when. There is a risk that you could take out too much too soon, leaving an income gap in your later years. If you intend to use Flexi-Access Drawdown you need to manage withdrawals with this in mind too. It can be difficult to understand how a withdrawal you make now will affect your income in 10 or 20 years.
This is an area we can help with. Using cashflow planning, we’ll help you get to grips with the financial decisions you make in retirement. Please contact us to learn more.
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 by 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.