Retirement Income Options
Many people when they come to retirement are often unaware of the "income" options they can exercise with their pension funds. With the gradual reduction in the traditional occupational pension schemes due to adminstrative, cost and legislative burdens over the last decade or so many people are building substantial cash values in their pension funds, these are known as "money purchase" funds. This can often be spread across a few different investment companies or insurance companies if say you have changed jobs a few times over your working life.
How you get the best possible value out of your accumulated pension funds is a very important area to seek advice on. Failing to do so could lead to substantial loss of potential income and death benefits for dependents.
Pension Income Options
Life expectancy is an important factor in considering pension options in retirement, the link below is purely fun based but does consider major factors that are recognised to influence one's life expectancy. Simply put none of us know how long we will live but what we all do agree on is the need to enjoy quality of life however long that may be for, adequate income is frankly important to ensure qualilty of life.
http://www.uwic.ac.uk/shss/dom/newweb/Lifestyle/age_expectancy2.htm
Being aware of the OTHER "income" options is essential to ensure that you maximise your pension fund value. Often being unaware leads to the purchase of an annuity from the pension company who has provided the pension fund that you have paid into until retirement. This decision once set up is irrevocable and cannot be changed once a cooling off period (usually 14 days) has expired!
This may mean loss of potentially higher income now just when you are healthy and active enough to enjoy it and/or better value death benefits to dependents should you die unexpectedly.
There are many income options that can be considered and its important to be at least be aware of these to ensure that the pension income options that suit you best are considered.
Open Market Option Annuity Purchase
What many people do not know is that they can "shop around" with their accumulated pension funds to secure a potentially higher income than the one on offer from their existing pension provider that they have saved with, indeed if you have say two, three or even four or more different pension funds with different companies combining them gives you more "buying power" in the market. This is called an OPEN MARKET OPTION. Wealth Management can provide advice and access to this service.
In simple terms your accumulated pension funds are searched against other company annuity terms and best offers brought to your attention. The funds are still in essence "given away" to an insurance company BUT in return you receive a guaranteed regular income for the rest of your life, irrespective of how long you live. Income can be level or can rise in line with RPI, (Retail Prices Index) however you'll have to accept a lower income at outset if you want regular increases on your income over your lifetime.
The Main benefits of any annuity are security and certainty and of course if you live beyond average life expectancy you're definitely a winner as the amount paid back to you over the years you live compared to what you gave away in capital in your pension funds at outset is more, but there is no flexibility if your circumstances change or health deteriorates. Its a once only decison and your stuck with it no matter what happens. With an annuity you need never worry about "capital" and hence your "income" running out as the source of your income is guaranteed against long term secure assets such as Gilts with an insurance company guarantee and legislative protection.
Enhanced Annutiy
Some companies will give some people enhanced annuities or income for life based on lifestyle habits such as smoking, for having worked in say heavy industries or even for living within certain postcode areas. An enhanced annuity still provides a guarantee on income for life but is enhanced because of lifestyle, working background and other factors to reflect the probability of perhaps reduced life expectancy.
Impaired Life Annuity
Unfortunately some of us do reach retirement and health has deteriorated. This frankly means that dying prematurely is more likely. There are specialist Annuity companies which Wealth Management can access where higher immediate pension income can be secured from outset if your health, or medical history meets certain criteria. It still involves effectively giving away your pension fund to an insurance company but you benefit from higher immediate income to enjoy now.
Investment Linked Annuities
These plans can offer the potential for rising income but can never guarantee that this will occur as they are linked to investment return. The potential for rising future income is based on assumed rates of investment return and if these are achieved or exceeded then your income rises, if not it could fall. You decide from outset the level of anticipated investment return you think markets over the long term are likely to achieve, of course this cannot ever be guaranteed, however if your assumptions are "realistic" the potential exists for rising income in later years.
The main attraction of investment linked annuities is that they can often provide higher initial income compared to conventional annuities but with the potential for rising income in later years. This cannot be guaranteed and is dependent upon investment return and certain assumptions you make at the outset of the plan.
Phased Income
As the name suggests you can "phase" in your pension income bit by bit over time. In simple terms you decide how much income you require each year and do what HMRC call "crystalise" only the exact amount of pension fund you need to meet that need. In essence your years income consists of part tax free cash and part income from the purchase of an annuity. The annuity of course will continue to be paid ongoing each year and you can then "crystalise" any additional part of your pension fund you require to meet the following years income needs, and so on, which allows you to "top up" your income needs in later years from part tax free cash and more annuity purchase.
The residual fund remains invested as a normal pension fund. This arrangment may suit people who anticipate a "winding down" of work with the consequent reducing income that results but who need to gradually replace this over time by "phasing" in their pension income.
Unsecured Pension, U.S.P. (formerly known as Drawdown)
This scheme allows you to extract your maximum tax free cash from your pension and structure your "income" in a way that is flexible and controllable. You are under no obligation to take any income but can choose between taking nothing right up to 120% of the single life annuity terms consistent with your age. In other words up to 1/5th more than from a conventional annuity. This may suit your early years retirement needs but there is a real risk that your funds will fall in value if you do this and this can lead to much lower income in the later years if your pension fund fails to meet investment returns you expect.
Your income is not sourced from an annuity but from the residual funds you have in your pension. This of course means that as you are taking "income" from the capital within your pension fund, the residual funds will need to produce dividend income and growth to replace the capital you take out. This can never be guaranteed. There is a way to calculate how "hard" your pension fund needs to work to replace the capital you take as income, called a "critical yield". There are also other important factors to consider, for example with an annuity purchase as your funds are effectivley "pooled" with other annuitants you (and they) benefit from something known as a "cross subsidy". In other words the annuitants who die early effectively subsidise those who live longer and annutiy companies factor this into the rates they pay. With USP this does not happen it is a stand alone plan.
Unsecured Pension is a sophisticated contract and as such requires an appropriate attitude to investment risk and is likely to be initially a more expensive option which will need ongoing reviews and service.
"The Third Way"
In simple terms there are a number of companies in the market now that have created quite innovative hybrid contracts taking the best features of some or all of the above options explained above. By using certain "interpretations" of current legislation they have produced contracts that offer combinations of income and cash benefits. Of course this means they can be quite complex in nature, and are likely to be appealing only to those who have perhaps more complex financial situations and a more balanced to higher risk appetite.
Third Way contracts are relatively new concepts and we will consider them, as part of an overall advice process depending on the complexity of your retirement needs. Please note they are likely to be more complex plans requiring a higher level of financial awareness and experience, consequently they are typically more expensive to set up and administer ongoing.
Summary
As can be seen there are many different options that can be considered, some are simple and easy to understand, some are quite sophisticated and can be complex to set up and administer.
What ever choice is right for you we can provide simple easy to understand guidance and advice to meet your needs.