How to make sure your pension lasts
Invest time now to work out how to get the best out of what you put away, suggests
HOW do you make your finances stretch to ensure you enjoy retirement but don’t run out of money?
Your starting point should always be working out your state pension age. Given the many changes over the years, don’t assume the age you are able to claim will be the same as your parents.
As an example, if you are 55 today, your state pension age will currently be when you turn 67. This is the same for both men and women.
But your state pension age is just one consideration.
You’ll hopefully also have saved into a company pension, or pensions, and which type you have will determine how flexible you can be.
If you are in the public sector, and for the lucky few in the private sector, you will have what’s called a defined benefit or final salary type pension.
Here your pension is worked out based on your length of time with your employer, and your salary.
The longer you’ve worked for a company, the bigger your pension.
When you decide to retire, the pension scheme will tell you how much your pension is worth, how much tax-free cash you can take, and the income you’ll be paid.
You’ll get a cash lump sum and a monthly income which will typically increase in line with inflation every year for the rest of your life.
If you are one of the millions of workers who have been autoenrolled into a company pension, then you’ll be in what the pensions industry calls a defined contribution scheme, where both you and your employer (along with a tax perk from the Government) will pay into a plan, invest, and build a pension pot over time.
This type of scheme offers far greater flexibility than the defined benefit type scheme, but comes with far greater risks, as Nick Flynn, retirement income director at Canada Life, explains: “If you are saving through a workplace pension, what you receive when you retire is determined by how much you and your employer contribute, and how your investments perform.
“These types of pension offer far greater choice but with that comes the risk that if you make the wrong decision, you can find yourself either running out of money, or indeed, finding you are being too conservative and not spending enough.
“It’s a tricky balance and many people often leave it to the financial professionals to work it out for you.”
These defined contribution type pensions can be accessed when you turn 55, but that doesn’t necessarily mean you should dip in, unless you have a plan for the money.
As soon as you withdraw more than 25% of your fund, you’ll be hit by income tax.
There are various free calculators available online to help you work out how much tax you’ll pay on a withdrawal.
HM Revenue & Customs will calculate that any flexible withdrawal from your pension is classed as income and therefore added to your overall income for any given tax year, which could include your salary (if you are still working), or your state pension.
One of the biggest retirement unknowns is working out how long you are likely to live and how long your pension pot will need to last.
A man aged 55 today, all things being equal, will live until 84. A woman of the same age will go on to live until age 87.
The 55-year-old woman has a one in four chance of living to age 94.
These numbers are just averages, worked out by the Office for National Statistics; you could live longer or die sooner.
This is where your choices around how you use your pension savings to best effect can make a dramatic difference to your retirement finances.
As Nick says: “Making sure your pension keeps paying you a wage in retirement for as long as you live is one of the biggest challenges in personal finance right now.
“With stock markets relatively benign, and cost-of-living pressures not going away as quickly as we hoped, finding the right balance of income security and flexibility can appear impossible.”
Annuities are the only cast-iron guarantee that whatever happens, you won’t run out of money in retirement.
You pass your pension to the annuity company, and in return, they guarantee to pay you a monthly income for the rest of your life, however long you live.
You can also choose certain guarantee periods, or even a “money-back” option, where literally, if you died one day after taking the policy out, your money would be returned to your loved ones. Annuities have come back into fashion following a massive shift in rates in the last year, with insurers like Canada Life reporting record sales. Annuities can also be combined with income drawdown, where your money is left invested and you dip into it over time. Experts say this can often deliver the best of both worlds; income security with an annuity to pay the bills, and a drawdown pot to dip into when you need cash for bigger items. Hopefully the drawdown pot will also grow over time if you leave it invested. I’ll leave the last word to Nick: “Making your pension last the distance can seem daunting. “Do your research, speak to Pension Wise, and if in any doubt, seeking proper advice should always be a step in your plan to make it a success.”
One of the biggest retirement unknowns is working out how long you are likely to live