Pension Drawdowns Explained
Income drawdowns or the drawdown pension enables you to draw down on your pension savings, without having access to all of your funds in one lump sum. Any capital you don’t draw down remains invested, thus offering you the chance to increase your pension after you retire into the sunset.
You’re in a never ending battle.
It differs from an annuity since your income isn’t assured, and the size of your pension fund can both increase or decrease, based on how the investments perform.
Pension Drawdown Rules You Need to Know
Typically, all the current income drawdown schemes set up after 6th April 2015 are referred to as ‘Flexi-access drawdowns.’
Flexi-Access Pension Drawdown
Under this pension scheme, you’re permitted to take up to 25% of your retirement income tax-free, upfront. You aren’t subjected to any limits on the amount of pension savings you can draw down from the remaining retirement income. Therefore, you can choose to:
- Take out the amount in one go
- Take monthly or yearly payments, or opt for several small lump-sum payments whenever you need them
If you, however, took out an income drawdown scheme before 6th April 2015, there were two forms of drawdown options:
The capped drawdown option is limited on the amount you can withdraw from your pension plan, in line with the regulations set by the government. The maximum amount you’d take with this is 150% of the amount you’d have received every year with an annuity1.
Flexible drawdowns enabled you to withdraw as much capital as you’d want every year. To qualify for this scheme, you needed to be getting a pension income of about €12,000 each year from various sources.
If you don’t know which pension drawdown option is best, be sure to consider taking drawdown pension advice from an independent financial advisor.
Pension Drawdown Benefits
Like most financial options, pension drawdowns offer you numerous benefits which include:
- Pension drawdowns are flexible. You have the freedom to choose when you can take an income amount and also purchase an annuity, or an alternative retirement plan with your savings.
- You have the chance to continue investing your cash, and if you select the best option, your plan can grow in leaps and bounds
- You can continue optimizing your retirement benefits, especially if you don’t necessarily need a fixed monthly income
- You have the right to dip in and withdraw your capital as you please. You can also increase or reduce the amount you take out every year
- Income drawdowns also allow you to manage your tax liability. For instance, you can adjust your income in a specific year to suit your circumstances
- You have the right to keep your options open and purchase an annuity later on
- You can transfer your savings to your family
Income Drawdown Drawbacks
Pension drawdowns aren’t right for everyone. They feature various drawbacks which include:
- There’s no guaranteed annual income
- It’s not the best option if you’re anxious about running out of capital
- You can be subjected to high drawdown charges
- All investments come with their plate of risks. Therefore, if you don’t marvel at risk-taking, this might not be your ideal option
What Are the Pension Drawdown Tax Rates of 2020?
You’ll receive an initial 25% off your pension savings tax-free. From there, since your pension savings will be considered as income, you’ll be taxed as per the income tax structure of that year. It means that in Wales, England, and Northern Ireland:
- The first €12,500 won’t be taxed2 (unless you have income from other sources)
- You’ll pay a 20% tax on €37,500 after the first withdraw
- You’ll then pay a 40% on any amount above €50,000
- You’ll pay a 45% tax charge on amounts above €150,000
If you want to see how much you’ll be charged or can withdraw, you can use the drawdown pension calculator or income drawdown tax calculator.
What Happens to the Pension Drawdown Scheme When One Dies?
Well, the amount of income tax retirees used to pay on drawdown pension after death was cut. However, it used to be 55% – that’s relatively high. Right?
Well, lucky for you, the UK government cut this amount.
I’ll show you how,
If you die under 75 years :
Every pension pot left by a pension plan holder who passed on under the age of 75 will be inherited tax-free. Your heirs can take it either as a monthly income or as a one-off payment.
If you die over 75 years:
If you die when you’re aged 76, your beneficiaries will be subjected to pay tax at the marginal rate of income tax, whether they choose to take the remaining capital as a lump sum amount or monthly income.
Here’s the kicker:
Another refreshing change is that the death benefits are now left to anyone you want, and not exclusively to dependents like your spouse or civil partner. That makes it essential to complete your pension provider’s expression of wish form’, thus declaring who needs to inherit from your pension fund.
Got Questions? Check These First
How Much Does A Drawdown Pension Cost?
Well, pension drawdown charges typically consist of, but aren’t limited to:
- Set-up or admin fees
- Fees for the withdrawal of a tax-free amount (up to 25%)
- Fee on every additional withdrawal
- Tax charged on every additional withdrawal (it’s set at the usual rate of 20, 40 or 45%, based on your tax threshold)
- Transfer fees/exit costs (these are pertinent to you transferring your pension scheme to another pension firm)
- Ongoing fund management charges
What Are the Alternatives to A Pension Drawdown Scheme?
Some of the substitutes to taking the pension drawdowns include:
Annuities – annuities allow you to use your pension pot to purchase a failsafe income that’ll last a lifetime. They’re the ideal option if you’re not comfortable with the investment risks that come with the drawdown options.
One-off lump sums – these involve taking monthly ad-hoc withdrawals from your pension savings. The official term for this form of investment is ‘uncrystallized funds pension lump sums.
With this pension option, you take the fund in one go, or through a series of smaller lump sums whenever you need to, just like you do with the income drawdown. Nonetheless, the tax treatment varies in that the first 25% will be tax-free, and the remaining 75% will be subject to income tax.
Is a Pension Drawdown Better Than An Annuity?
Well, pension drawdowns are the most popular investment options since they tend to be more flexible than annuities. With the drawdown option, you can transfer your capital into one or more pension pots and also change the amount and regularity of your drawings. Nonetheless, like any other financial plan, pension drawdowns carry significant risks.
What’s the Best Pension Drawdown?
Some of the best pension drawdown providers include:
- True Potential Investor Pension
- Fidelity Pension
- Alliance Trust Savings Pension
- Interactive Investor Pension
- BestInvest Pension
- RowanMoor Pension
- PensionBee Pension
- Standard Life
Hargreaves Lansdown Pension
And that was only the beginning:
If you’re thinking about drawing down on your pension, it’s essential to understand what that means. In this blog post, we’ve explored some of the benefits and drawbacks of withdrawing money from your company retirement plan before age 65.