Retirement was traditionally the point at which you stopped generating an income from work and started taking an income from your pension. Increasingly, we’re working for longer and either deferring the use of our retirement savings or generating an income from both earnings and savings simultaneously.
So the first question you need to ask yourself when considering retirement income is how much you’re likely to earn from any paid work you’re still doing, and for how long. If it’s enough to cover your everyday expenses then, in effect, you don’t actually need to retire at all – in the sense that you don’t need to start dipping into your pension or other savings if you don’t want to. At some point, though, you’ll want to stop working completely, and it’s worth thinking early about when this is likely to be.
If you start drawing from your pension savings while you’re still earning then you’ll need to be careful about income tax. Apart from any tax-free lump sum included in what you draw, the rest will be taxed as income, so in combination with your earnings this could push you into a higher tax-band.
Once you’ve estimated how much you could earn during retirement, and over what period, you can then start to factor in other sources of income. For example:
- The State Pension. All UK citizens are entitled to a State Pension provided they’ve made enough National Insurance Contributions (NICs) during their working lives. It’s currently worth up to £113.10 a week, though this figure will change from 6 April 2016 along with some of the rules about who’s eligible for what. You can read more about the changes here. You can get a free estimate of what your State Pension will be worth under the current rules here. The sums involved may sound small, but don’t forget they’re guaranteed for life from the age of 65 if you’re a man and from the age of 60-65 if you’re a woman (depending on when you were born). In order to buy the same guaranteed income through a lifetime annuity at the current rates, you’d have to pay around £100,000.
- Defined benefit pensions. These schemes are typically generous by today’s standards, with so-called ‘final salary’ pensions enabling you to turn your pension pot into a guaranteed income for life, the value of which is linked to the amount you were earning when you retired. You may be able to transfer money out of a defined benefit pension in order to take advantage of the new pension rules, depending on the terms and conditions of your scheme, but you should think very carefully before doing so.
- Defined contribution pensions. If you have any defined contribution schemes then the new pension rules will be of particular interest to you, and you should visit the section of this website entitled ‘New pension rules: what's changing?’ to find out more. There are now a huge number of ways that you can turn your pension pot into income, including lump sums, annuities and income drawdown, and you may need to go over your priorities, financial status and options several times before deciding which options may be right for you. Once you’ve finished reading the information in this section of the website, you’ll have a clearer idea of what’s possible and appropriate in your situation, and what kind of income you may be able to generate as a result.
Finally, if you’re married or in a civil partnership, consider how much income your partner expects to generate during your intended retirement years. As mentioned above, it’s important to consider your combined financial status in order to make sure your income goals are appropriate and that you don’t pay any more tax than necessary.
What other assets could you draw upon?
Retirement isn’t just about pensions any more. Increasingly, retirees are using other sources of savings to meet particular expenses, and when the new pension rules come into force many more are likely to follow their example. To narrow down your retirement options thoroughly, you should therefore consider what other assets you hold that could contribute cash as it is needed.
- Individual Savings Accounts (ISAs). Money withdrawn from an ISA is not regarded as ‘income’ by the taxman. In other words, you can withdraw however much you like from any ISAs you hold without the risk of pushing yourself into a higher tax-band. Withdrawals from a pension, by contrast, are taxed as income – with the exception of the tax-free allowance, normally worth up to 25% of your untouched pension pot. ISA savings can therefore be useful to retirees in a variety of ways. You could, for example, use them to pay your everyday retirement expenses in order to leave your pension fully invested, or to increase your income in some years in order to pay big one-off expenses without pushing yourself into a higher tax-band. These are just two of many possible strategies and you may wish to consult a financial adviser about how to make best use of ISA savings in conjunction with your other assets.
- Property. Any property has the potential to be converted into an income stream, and you may wish to consider selling, renting or mortgaging a second home in order to improve your options upon retirement. As far as your own home is concerned, you obviously have to be more cautious, especially if you want to pass it on to future generations when you die. However, the new pension rules will make it more advantageous to delay drawing on your pension for as long as possible, if leaving a legacy is a high priority. The so-called ‘death tax’ will be replaced with a new system in which lower tax rates, or no tax at all, will apply depending on the age at which you die. So, in certain circumstances, it could be advantageous to turn your property into cash before using your pension to fund your everyday expenses. Such a strategy would, however, depend on your individual circumstances and you’d probably need the help of a financial adviser to get it right.
- Insurance. If you or your spouse/civil partner has a whole-life insurance policy then one of you may inherit a lump sum from that policy when the other dies. You should therefore factor this into your thinking when estimating how much income the surviving partner might need.
For a comprehensive analysis of your financial position and what it could mean for your retirement, you may wish to consult a financial adviser. They’ll be able to use their knowledge of all the various retirement products on offer to suggest what might be appropriate given your circumstances, needs and goals. If you don’t yet have a financial adviser but are interested in finding one, you can do so using the free search tool here.