THE EDUCATION SECTION August 2017 Less than a generation ago, the idea of retiring meant – • reach your retirement age • collect that ‘gold watch’ present and say goodbye to your work colleagues • take the tax free cash and regular income from your Final Salary pension scheme or annuity, with a fixed and inflexible income for life • get out those proverbial slippers • sit back and enjoy • . . and upon death leave either little, or sometimes nothing, of your pension benefits to your loved ones That was then, but thankfully things have changed, and this is now! What is income drawdown? Think of it as an investment backed savings account that, as long as you are aged 55 and over can access whenever you want to - taking as much, or as little, as you want to. Add to this the fact that 25% of the fund can be taken out tax-free (either all at once, or piece by piece - without any need to tell HMRC) and the remaining 75% can either be left invested, all taken out, or accessed whenever required (either as a regular income or as an ad-hoc withdrawal). Unfortunately this 75% part will be liable to income tax at whatever your marginal tax rate is. That said, the taxman would have given you some form of tax relief while the ‘account’ was building up. This differs wildly from the prescribed income from an annuity, or a defined benefit income from a Final Salary scheme, where you know what income you are going to get and when you will get it. Of course, with drawdown, since your money stays invested there is the risk that your fund may fall in value. The upside is that investment growth can provide higher returns and see your pot continue to increase in value. Taking an income • the amount you withdraw is up to you - there is no minimum or maximum • income can be taken on a regular basis (eg: monthly) or on an ad-hoc basis • you are able to take some or all of your tax-free cash and leave your remaining funds invested until you require either more tax free cash, or an income, or a mixture of both. What tax will I pay? Any money you take from your pension ‘account’ using income drawdown will be added to your income for the tax year and taxed in the normal way – except of course the Tax Free Cash. Bear in mind though that large withdrawals could push you into a higher tax band, so be careful when deciding how much to take and when. (Click HERE to see how much tax you will pay in income drawdown) Unless you have taken steps to avoid it, if the value of all of your pension savings is above £1m when you access your pot (2017-18 tax year), further tax charges might apply. What happens when you die? You can nominate who you would like to get any money left in your drawdown fund when you die. By the way, beneficiaries can be anyone - not simply dependants. If you die before the age of 75, any money left in your drawdown account passes tax free to your nominated beneficiary(ies), whether they take it as a lump sum or as income. MORE INFO If you die after the age of 75 and your nominated beneficiary (or beneficiaries) take the money as income they will pay tax at their marginal rate - this means that any income on or after this date will be added to their income and taxed in the normal way. If taken as a lump sum the tax rate is 45% - OUCH! Your nominated beneficiary/ies could of course decide to leave the funds in their pension account, in which case there will be no immediate tax charge. They could even decide to leave the account to their beneficiaries upon death, which would mean that Hector and his colleagues at HMRC may never get any tax from the account. Sounds like everybody should be in Drawdown! Not at all! It will not be right for everyone. Income drawdown is worth considering if – • you want your money to continue to be invested • you want the flexibility to take sums out as and when you want • you want to take out different amounts each year • you want to manage your annual tax liability • you may want to leave funds to your beneficiaries Income drawdown might not be the best option if - • you want a guaranteed income each year • you’re worried that you might run out of money • you don’t want to be exposed to investment risk in retirement What are the different types of income drawdown? The rules changed in April 2015. Until that time there were 2 types of income drawdown – Capped drawdown and Flexible drawdown – • Capped drawdown - this limited how much you could draw from your pension pot, in line with rules set down by the government. The maximum income you could take is 150% of the amount you would have received each year if you'd bought an annuity. • Flexible drawdown - this allowed you to take as much money as you want each year. To be eligible for this type of drawdown, you needed to be receiving pension income of at least £12,000 a year from other sources. What are the income drawdown rules now? All new income drawdown arrangements set up after 6 April 2015 are known as 'flexi-access drawdown' – or as the Financial Conduct Authority (FCA) like to call it – FAD. How does FAD work? • you can normally choose to take up to 25% of your pension pot as a tax-free lump sum (some older policies might allow you to take more in tax-free cash – check with your pension provider) • you then move the rest into one or more funds that allow you to take a taxable income at times to suit you. Increasingly, many people are using it to take a regular income • you choose funds to invest in that match your income objectives and attitude to risk and set the income you want • the income you receive can be adjusted whenever you want • once you have taken your tax-free lump sum you can start taking the income right away or wait until a later date • you can also move your pension pot gradually into income drawdown. You can take up to a quarter of each amount you move from your pot tax-free and place the rest into income drawdown • to help provide more certainty, you can at any time use all or part of the funds in your income drawdown to buy an annuity or other type of retirement income product that might offer guarantees about growth and/or income. • what is available in the market will vary at any given time, so it is important that you seek financial advice and select a product that works for you What happens if I am already in income drawdown? If you are in a Flexible drawdown plan, this automatically converted to FAD from 6 April 2015. If you are in a Capped drawdown arrangement set up under the old rules, you have 2 options. You can either - • convert to flexi-access drawdown • keep Capped drawdown As of April 2015, Capped drawdown is no longer available for those taking benefits from their pension fund for the first time. Things to think about You need to carefully plan how much income you can afford to take under FAD, otherwise there is a risk you will run out of money. This could happen if - • you live longer than expected • you take out too much in the early years • your investments do not perform as well as you expect and you do not adjust the amount you take accordingly Can I still save into a pension if I open an income drawdown plan? Normally you can contribute a maximum of £40,000 a year to a pension, but if you open a FAD, the rules change. As soon as you take more than your 25% tax-free lump sum, the annual amount you can contribute to a pension falls to £4,000. This restriction is technically called the 'money purchase annual allowance' or MPAA, and covers both your contributions and those contributions from your employer. - if applicable. However, this rule does not apply if you are already in a Capped drawdown plan. If you remain in Capped drawdown, you can still contribute £40,000 a year to your pension. What are the alternatives to income drawdown? Income drawdown isn't the only way to get an income for your retirement. As an example, buying an annuity means that you use your pension savings to buy a guaranteed income to last for the rest of your life. Despite their poor reputation, annuities could still be the right option, especially if you do not feel comfortable with the investment risk of income drawdown. How do I open an income drawdown plan? Most employer pensions will not offer income drawdown to their employees. This means that if you want to use income drawdown from your work pension, you will need to transfer it to a new Company that offers drawdown. If you have saved via a personal pension with an insurance company you can opt for drawdown - as long as your pension provider offers this to you. Final thoughts. We have only ‘scratched the surface’ with this article. Other things to consider are how you feel about investing and what your ‘Attitude to Risk’ would be. We can help you to understand your risk attitude by the completion of our on-line Risk Questionnaire. Simply click HERE to access the questionnaire. There are 24 questions, and we estimate that you will need c.5/10 minutes to complete it. Once we have your answers we will be able to produce a 4 page report for you detailing a summary of your answers & the result. You might also want to know about the other options that are available when taking a pension income. To help we have written a 22 page brochure that goes through all the options available. You can access the brochure by clicking HERE As always, please do not hesitate to contact us if you would like further details or information.