24 Nov SIPP pension income options
The recent law changes allowing greater pension freedoms has resulted in an array of different options. Below are some to be aware of:
If your pension fund had been ‘crystallised’ (i.e. used to release some form of benefits, such as an income or lump sum) before April 2015 you may have been in a ‘capped’ drawdown.
This is where the pension fund was being used to provide a 25% tax free lump sum (or higher in some special cases) with an income up to a limit (set by the government and reviewed every 3 years).
Some pensioners did release a lump sum but took no income, but retain the right to a capped income. It may be beneficial to keep the capped drawdown if you plan on making use on the annual allowance to pay more into a new pension arrangement for tax efficiency.
Phased Capped Drawdown
This is similar to the standard capped drawdown except that instead of taking all of the tax free lump sum at the start, you phase it over a period of time so that each time you release funds part is tax free and part is income.
The new version of ‘Flexible Drawdown’. This is where you take all of your initial tax free lump sum, then use the balance to provide a flexible income that is not subject to the government cap/limit.
This can be useful if, for example, you need a high income in the early years of retirement but expect other income to start later on (such as a state pension).
Phased Flexi-access drawdown
This allows you to take any portion of the fund, of which 25% is tax free with the remainder taxed at your marginal rate of income tax.
Ad Hoc Pension Lump Sum Withdrawal (also known as ‘Uncrystallised Fund Pension Lump Sum (UFPLS)’)
This is where a percentage of the pension fund (or all of the fund) is taken all in one go. Part (usually 25%) is tax free with the remainder added to your other income for the tax year. This could result in a high amount of tax being paid and should only be considered after taking advice and exploring all other options.
Guaranteed Lifetime Annuity (from a pension plan this will often be called a ‘Compulsory Purchase Annuity’)
This is where you hand over your pension savings (either in full or in part) to an insurance/pension company who will then offer you a fixed income for the rest of your life.
The income they are prepared to pay you depends on interest rates and inflation (they invest most of the money in government GILTS and other debt based securities) and your life expectancy.
If you have lifestyle (such as smoking or having a higher Body Mass Index) or health problems (from high blood pressure and cholesterol to major illnesses, or simply taking medication to prevent illness) when you retire you can get “enhanced annuity rates” to reflect your shorter than average life expectancy. If you have suffered a serious illness such as a heart attack, stroke, cancer, diabetes etc then you may even qualify for an “impaired life annuity” offering a significantly higher income.
You should always consider this option for at least a minimum guaranteed income to cover your basic expenses in retirement.
Purchased Lifetime Annuity
This is where you purchase an insured income for life using savings form a non-pension source. Part is tax free and part is taxed.
Short Term Annuity
This is where you hand a lump sum to an insurance/pension company and they promise to pay you a fixed level of income for a set period of time. Usually there is a guaranteed maturity value and death benefit.
This can be useful to defer making the guaranteed lifetime annuity decision, whilst taking low risk with the pension fund and having a known income.
Investment Linked Annuity
This is similar to the lifetime annuity except that the level of income can go up or down, subject to investment performance.
Don’t forget that a pension fund is highly tax efficient, especially in mitigating inheritance tax (IHT) and passing assets and wealth to younger generations.
This page is for information only and whether any option, or a mix of options, is suitable will depend on your personal circumstances.
Some options are higher risk than others.
If you would like Independent Financial Advice from a pensions expert so that you consider all options, tax implications, death benefits and estate planning, please let us known. Website www.astutemm.co.uk; phone 01202 263856 or email email@example.com
This article was written by Daniel Weldon, IFA and Director of Astute Money Management, experts in financial advice and pensions.