Transition from work
Money concerns are never welcome when entering retirement, particularly if the opportunity to earn your way out of them is no longer open to you. For many, the transition from work to retirement is often a gradual process. We frequently speak to clients who do not want the instant change from full time employment to retirement, and indeed, it is now quite common to see employees reduce the number of days they work prior to retirement.
The latest data from the Office for National Statistics shows that 14.0% of men and 8.0% of women still work beyond age 65. With the State pension age increasing this is perhaps not a surprise. However, it is unwise to assume that you can rely on continued earnings for a long period of time. Factors such as your health, your partner’s health, your enthusiasm and the type of work you’re engaged in, could mean you have to stop work at some point. If you think you will have to continue working indefinitely, then your (non-) retirement plans almost certainly need a serious review.
The role of pensions
Pensions, both state and private, are usually the main source of income in later life. For growing numbers of people, private pension income will be via income drawdown, rather than the traditional pension annuity. The drawdown approach offers flexibility suited to gradual retirement, when individuals reduce the number of days they work and replace employment income with pension income, so that standards of living can be maintained. This flexible approach can also assist in wider planning, such as considering when to take tax free cash from personal and workplace pensions, and how best to use these funds to supplement the reducing income from employment.
It goes without saying that ongoing management of pension funds in drawdown is vital. The level of withdrawals needs regular review to ensure that the correct amount is being drawn. Taking too much from a fund can mean you outlive your pension, potentially forcing you to reduce the withdrawals in much later life, or even worse exhausting the fund. In addition, taking excessive income withdrawals could also lead to unnecessary income tax charges on pension income.
To help analyse the correct rate of withdrawal, it is important to consider life expectancy, which has continued to improve over time. Since 1981, life expectancy at age 65 has increased by six years for men (to age 85) and four years for women (to age 87). Drawing too much from the plan in the early days of retirement could seriously reduce the chances of the fund sustaining the level of income throughout your life.
Inflation is also an important consideration, and one that is very topical at present due to the elevated levels we are seeing around the world. For example, the buying power of the pound has dropped by about one third since the start of 2000, and static levels of income over time are likely to lead to a significant drop in standards of living as the years progress.
For some, pensions can be a powerful tool to pass wealth between generations, if retirement income can be obtained from other sources, such as investments. Taking lower withdrawals from a pension – or indeed no withdrawals at all – can allow pension funds to build up over time, which could then be passed on your children, grandchildren, or chosen benefactors who will ultimately benefit. This can be a particularly tax efficient way of passing assets between generations for those with substantial estates, as pension assets do not normally aggregate with the remainder of the estate when inheritance tax is calculated, thus potentially saving an inheritance tax charge of 40%.
If you hold investments – including those underlying your pension arrangements – they need to be managed. What you require from your investments could alter over time and investment horizons naturally tend to shorten as you get older. For example, you may wish to increase the emphasis on security of income rather than income growth. Regular reviews of asset allocations can be very helpful in identifying areas of risk and ensuring that the portfolio continues to meet your needs and objectives.
Investments can also be a useful source of retirement income, which can be used as part of an overall strategy when combined with pension income to generate a tax efficient income stream. Collective investments and direct investments can generate attractive levels of natural interest and dividends, which are tax exempt if held in an ISA wrapper.
Pulling it all together
To maintain a coherent approach to planning, it is important to engage with advisers who take a holistic approach to planning. Considering each aspect as part of the whole, rather than individual components, can often lead to better outcomes. A global strategy can ensure that investment risk is monitored across all aspects and income levels can be altered from flexible sources to hit precise income targets in a tax efficient manner. At FAS, holistic financial planning is at the heart of our process.
If you are interested in discussing your retirement income strategy with one of our experienced financial planners at FAS, please get in touch here.
This content is for information purposes only. It does not constitute investment advice or financial advice.