Don’t use freedom to fritter your pensions

Savers now have more control ... but use your power wisely

AHUGE amount of cash has been withdrawn from pension pots, the latest figures from the taxman reveal.

In just under five years, £30billion has been emptied out of savings via flexible drawdown.

A record £2.75billion of that came in the past three months alone – the highest amount in a three-month period since the pension freedoms were introduced.

Because there is currently over £5trillion in private pension pots in the UK, it might be a little too early to start worrying about the amount of money leaving the system.

But if you are tempted to dip into your nest egg, there are some pitfalls and risks you need to be aware of. You don’t want to leave yourself short in your older age, or gift the taxman with more than you need to, or even fall foul of pension scams.

First and foremost, you might be one of the lucky few and have a mixture of pension types, including the gold standard final-salary schemes guaranteeing to pay you an income at retirement, typically based on your earnings and length of service.

This type of pension is generally not open to new members as the employers that funded them have found the costs too expensive, unless you work for the National Health Service or another public service. These pensions cannot also be accessed flexibly.

The majority of savers now have private pension savings or are being auto enrolled into workplace pensions which don’t carry the same form of guarantees.

Here, you are putting into a pension which, alongside contributions from the taxman, and your employer with workplace schemes, builds up a pot of money to use as you wish when you retire.

But while more people are putting cash away, the savings levels are currently very low and contribution rates, although increasing, are not sufficient to provide a decent standard of living in retirement.

Following the introduction of pension freedoms in April 2015, you are free to access a private pension at any point from the age of 55, whether you are planning to retire or not.

This much greater freedom has proved very popular, with many people withdrawing cash lump sums.

Some with smaller value pensions have cashed them in entirely.

Andrew Tully, technical director at insurance giant Canada Life, said: “The pension freedoms have been hugely popular with many people choosing to make cash withdrawals.

“But with these freedoms comes much greater responsibility, as people now expose themselves to much greater risk, whether that be running out of money, not saving enough, or opening themselves up to scams.”

So, what are those risks and what do you need to look out for?

The danger of running out of money

If you take too much cash out of your pension pot too soon – and this especially applies to people who have withdrawn cash before their planned pension age – there is a real risk of running out of money during your retirement.

TULLY’S TIP: If you’ve cashed in your pension early, before your planned retirement, think about how you are going to bridge the income gap to your state pension age. And remember, the state pension age is rising to 68 in the future.

Paying too much tax

Any cash withdrawals you make from pension savings, above the 25 per cent tax-free amount you can take, will be subject to income tax.

This could be at 20 per cent, 40 per cent or higher, depending on your other income in the tax year in which you make the withdrawal. Check what you might pay via calculators such as the one at canadalife.co.uk/tools/pension-tax-calculator

TULLY’S TIP: Think about phasing withdrawals over a number of tax years to limit the amount of tax you pay. If you don’t need the money immediately, consider leaving it in the pension as this is the most tax efficient way of managing it.

Scams

The access cash more flexibly ability to from your pension has opened up a Pandora’s box to sophisticated financial scams, with conmen looking to rip you of prey to a sca the average loss per person from each pension scam was £82,000. TULLY’S TIP: If looks too good to be true, it probably is. Ignore unsolicited calls, texts and emails. Simply delete the email or hang up. Always stop and think, double check and take your time before making any decisions about your pension savings. Remember, a

reputable company will never push you to make an on-the-spot decision, or contact you out of the blue.

Money Purchase Annual Allowance

The Government restricts how much you can save into a pension every year. Usually you can put away a maximum of £40,000pa (or 100 per cent of your earnings if lower) without penalty. However, if you flexibly access your pension, then a lower limit applies of just £4000 a year.

TULLY’S TIP: A limit of £4000 might appear OK but many people are flexibly accessing their pensions before retirement age, and this could potentially create problems if you and your employer continue to contribute into a pension. It doesn’t apply if you’ve only taken your tax-free cash element, or have bought an annuity.

Shopping around

The financial watchdog the Financial Conduct Authority has confirmed most people will benefit from comparing products across the market when they retire. But most people stick with the firm they’ve saved with. The financial impact can be significant, whether that be paying higher charges on drawdown products or being able to find a better annuity (lifetime income) from another provider.

TULLY’S TIP: Although it’s easy to simply accept the offer from your existing pension provider, it will always pay to shop around the open market. Not only will you get the best deal for your individual circumstances but you can improve your income by on average 20 per cent if you are considering buying an annuity. A financial adviser can help you to navigate the options.

Take too much cash too soon and there’s a risk of running out of money in retirement