Two years of pension freedoms: what’s changed for retirees?

Neil Adams, Drewberry Wealth’s head of pension planning, discusses how the pension freedoms are affecting people at retirement and beyond.

The pension freedoms introduced in April 2015 are now two years old. They’ve ushered in a revolution in how people can access their pensions and secure a retirement income, but what do they mean for you?

No more annuities?

Perhaps the biggest change to the UK’s retirement landscape over the past two years is the collapse in annuity sales. The number of contracts sold slumped since the pension freedoms ditched the requirement for pensioners to buy an annuity.

The move was widely welcomed at the time because annuity rates are at record lows thanks to demographic and economic pressures.

As fewer people buy annuities, providers are dropping out of the market, reducing competition and further depressing rates. This could mean difficult choices for people who may still benefit from including an annuity in their retirement planning.

For instance, retirees with smaller pension pots and few other assets might choose an annuity because it’s unlikely their cash will last through retirement otherwise. Also, many people prefer flexibility early in retirement but might be better served with a regular annuity income later in life. Yet low rates and bad press may mean this option won’t be around.

Flexing your muscles

Flexi-access drawdown lets you create your own schedule of lump sum and income payments from your pot as required, and it’s proved popular. Since the pension freedoms, sales of drawdown contracts have more than trebled in volume and value terms.

However, it’s easy to go overboard with the flexibility early on, failing to balance your income needs with your longevity risk and running out of cash early.

This is a very real risk. A 55-year-old man – the age at which many people get access to their pensions – has a life expectancy of 86 according to the Office for National Statistics. One in 10 such men will live to be 100, potentially meaning 45 years in drawdown. Will your pension pot last that long?

To check whether your retirement savings will go the distance, Drewberry has built a Pension Income Drawdown Calculator. This can calculate how long your pension will last if you withdraw a fixed amount each month, or how much you will be able to withdraw each month if you want your pension to last until a designated age.

All and nothing

The most radical option introduced by the pension freedoms lets you withdraw your entire pension pot. More than half a million people have done so since April 2015 according to the FCA, although this has largely been among people with small pension pots.

I’d rarely if ever recommend it to clients, especially those with larger pensions, no matter how tempting such a windfall might be. The tax implications could be huge for one thing – only the first 25 per cent is tax-free and income tax is due at your highest rate on the rest.

And the tax bill doesn’t land on your doormat at some point in the future – you’re walloped immediately. Your pension provider deducts tax at the point of withdrawal using an emergency tax code, meaning a significant chunk of your pot could end up with HMRC without you ever seeing it.

Withdrawing your retirement savings from a pension wrapper means you’ll also miss out on another much-heralded pension freedom – the end of the hated 55 per cent death charge on inherited pensions. You can now pass down a pension free from inheritance tax and, if you die before the age of 75, your beneficiaries won’t have to pay income tax either.

Yet this only applies to money still invested in a pension. If you’ve withdrawn every penny it could be added to your estate, potentially landing your loved ones with a 40 per cent inheritance tax bill on the cash after you’re gone.

But just because you can now do something doesn’t necessarily mean you should. Getting financial advice is vital to ensure you choose the right option for you and avoid hefty tax charges.

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