A Should you lump or leave it?

QI HAVE a final salary pension that has been deferred for a few years now. It is projected to give me a tax-free lump sum of just over £80,000 with a pension each year starting at just more than £12,000. There will also be a pension for my wife when I die. Alternatively, I can take just over £500,000 and move from the scheme. I have taken advice and been told that if I transfer, I would receive a tax-free lump sum of about £130,000 with an income of £16,000. There seem to be various options depending on how I structure this that would allow my wife to have an income after my death. I believe my other option to be a flexible draw down pension arrangement. My concern with this is risk. I believe I could go for low or cautious risk and get possibly 35 per cent return over five years. My main question is what is the risk of losing cash even with cautious investment suppose there were to be a bank or stock market crash? Is there any protection for this type of pension? John Smith (name changed)

THE difference here is between a guaranteed benefit offered by the employer’s scheme and the flexibility offered by the personal pension.

John has been offered a tax-free Think carefully before ditching guarantees of a defined pension scheme for a tax-free sum of cash lump sum of £80,000 from his employer with a pension every year that starts at £12,000, and then this amount will increase in line with inflation each year.

And that is a really crucial benefit, since it ensures that the pension payments should keep their purchasing power over the years.

The pension is guaranteed to be paid until John dies and then, as mentioned above, there will be a payment to his spouse as well.

In some schemes there may also be a payment to dependent children.

However, the definition of “dependent” may vary from scheme to scheme, so if you have membership of a defined benefit scheme, you may want to check these figures with the trustee.

These, again, are very valuable benefits that should not to be given up lightly.

The alternative mentioned above is to give up all of these guarantees and transfer the scheme benefits, by way of a lump sum, to a personal pension.

The figure that is available in this case is £500,000.

That sum is not available to John to pay into his bank account. It must be transferred into some sort of authorised pension scheme and the scheme trustees will want to see that you have taken advice from

a professionally qualified adviser before they will allow this sort of payment to be made.

As you can see from the figures above, there are a few options once the money is transferred.

First of all, the tax-free cash sum is larger than with the defined benefit scheme. The balance can then be used to provide an income by buying an annuity, by taking a regular fixed income or it can be “drawn down” on a regular or ad-hoc basis until it is all used up.

It is much more flexible than the guaranteed income option but, as mentioned in the question, there is far more risk involved.

Nothing is guaranteed with the personal pension type arrangement and the value of the fund that is transferred will be dependent on the performance of the investments that are chosen.

Even with a cautious fund or funds there could be significant losses, which would have a serious impact on the income available.

John could get 35 per cent return over five years – or he could lose 35 per cent of his fund over the same time period – depending on the investments chosen for his money.

In a really cautious scenario, John could leave his money in a bank account within his pension that pays no interest. That way he won’t ever “lose” any money, but if his money is not growing then it is not keeping pace with inflation and will be worth less over time.

There are so many things that need to be considered before making a decision on this issue.

They include health, marital status and family situation, attitude to risk, other assets and investments, age, requirement for income and other pensions.

If, for example, John has lots of other savings and assets, then the guarantees with the final salary scheme may not be crucial in retirement, whereas if this pension is John’s only source of funds then they probably will be.