Since the introduction of Pension Freedoms, the amount of people accessing their retirement income via a drawdown arrangement has increased dramatically. More than £17.45 billion in flexible payments has been accessed by those in and approaching retirement (Source: HM Revenue & Customs (HMRC)).
However, when planning your retirement income, it is important to ensure that the new-found freedoms do not go to your head and that your money lasts as long as necessary. In other words, until you or your spouse are no longer with us.
What could go wrong?
Pension Freedoms means that capital in pension funds can be accessed with more flexibility than before. There are now fewer barriers and hinderances to making ad-hoc withdrawals to suit your needs. Due to this, many people who would previously have had little choice but to purchase an Annuity, are now choosing to move some or all their pension into a Flexi-access Drawdown arrangement instead.
Whereas an Annuity offers a guaranteed, potentially inflation-proofed, annual income, Flexi-access Drawdown is effectively a pot of money which is available to make withdrawals from on request. While that is mainly good news for retirees, it does bring with it a risk of taking too much, too soon and facing financial difficulties in later life.
Often, this money is taken through a series of regular withdrawals. However, the introduction of Pensions Freedoms led many people to take advantage of the flexibility and take everything they have.
So, to make sure that your pension lasts for the rest of your life (and, if necessary, that of your spouse), you need to start thinking about how you will use the money, in advance. Ideally, you will analyse this long before you need to use the money, so that you have time to make adjustments and potentially increase the amount you are putting away, to meet your retirement aspirations.
This is a view shared by Steven Cameron, Pensions Director at Aegon: “The majority of people are now choosing to draw down an income, while keeping their pension pot invested, rather than buying an annuity. While this offers greater flexibility, it means people need to predict how long their retirement is likely to last, so they avoid the risk of taking too much income and running their pension pot dry.”
Things to consider
There are four key factors affecting the level of income needed in retirement, these are:
1. Your age
There are conflicting opinions on whether retirement age affects life expectancy. However, it will affect how much you need to live on in retirement. If you will be leaving work in your 50s, you could be retired for up to 50 years if you live to be 100 or older! However, some people will continue working into retirement and may only need to support themselves fully for 10 years or less after leaving employment.
Of course, the State Pension is not available until you reach 65, so if you choose to leave work before then, you will need to make sure that you have the money to bridge the gap.
Steven Cameron again: “Of course, no-one knows exactly how long they’ll live and it’s extremely risky to base your income on living no longer than the average, as many people live far longer. The affordable income also depends on an individual’s overall health and where the pension fund remains invested.”
Put simply, the longer your retirement lasts, the more money you will need to maintain your desired lifestyle throughout.
2. Your gender
Unfortunately, gender equality has not yet reached all corners of life, and with more women taking time away from their careers to care for relatives and children than men, they are likely to retire with a much smaller pension fund. According to research from Prudential, women leaving work in 2018 will have an average of £4,900 less each year than their male counterparts. It will need to stretch further too, considering that women have a longer life expectancy, on average, than men.
Without getting too much into gender politics or apportioning blame, this is something that you may need to factor into your plan if it affects you.
It’s not just money that is affected by your gender, either. For people of all ages, the life expectancy of females is higher than that of men, without accounting for lifestyle and occupational hazards (Source: Office for National Statistics(ONS)).
3. Your location
Surprisingly, where you live can make a difference to your life expectancy. For example, females aged 65, currently have a life expectancy of:
- 21.1 years in England
- 20.6 years in Northern Ireland
- 20.57 years in Wales
- 19.74 years in Scotland
The difference between those figures are not huge, but for those still planning how they will use their retirement fund, it could mean that they will run out of money if they do not account for the extra time they have. In fact, if they each had a pension pot of £100,000, a woman in England would need to live on £1,000 less each year than a man in Scotland, according to Aegon.
Aside from your life expectancy, the area you live in during your retirement can also affect how much income you need and where your retirement capital is spent. To start, the cost of living is much higher in some areas than it is in others, and that could eat into your retirement income quite quickly if you do not prepare for it. On top of this, if you need care in later life, your area could dictate both how much you need to spend on it, and what services are available.
4. Your health
There are two sides to the health coin:
First, any health issues you have are likely to continue to push the cost of living up as you get older and your needs intensify.
Secondly, your health can impact your life expectancy. But some conditions will have a greater impact than others, so if you live longer than you originally planned for, you will need to make sure that you have the funds to pay for it.
Mr Cameron concludes: “Whether you’re a man in Glasgow or a woman in Camden, we always recommend seeking advice to arrive at a sustainable income level and an investment strategy that allows freedom in retirement while controlling the risk of running out of money.”
To get more insight on the factors affecting your retirement income, get in touch.
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 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.