Mr Watts is 56 years old and starting to consider retirement. He currently earns £45,000 per annum and received an annuity quote from his current provider. Mr Watts’ pension is valued at approximately £620,000 and expected to provide an income of £24,500 gross per annum after paying his a tax free lump sum of £155,000. However, this will not provide any death benefits to his family if he dies after the first 10 years, and the income will stay level for his life.
Our Client’s Needs
Mr Watts has asked for an explanation of the changes to pension rules following the budget announcement in March. While the income that the annuity is expected to provide is suitable, it’s not the same as his current salary and he’s heard that an annuity might not be the best option available.
Income drawdown has been available to retirees for some time; however, the maximum income limits are now far greater. In addition to this, from 2015 the income limits will be completely removed.
After assessing Mr Watts as being willing to take a moderate risk with his pension investments, we have advised that he could enter income drawdown rather than purchase an annuity. He would be able to draw an income from his fund of £34,875 gross as well as taking the tax free lump sum. This is £10,375 greater than the available annuity.
For this income to be sustainable, we recommended an investment strategy designed to provide liquid capital of £35,000 per annum with the remaining fund targeted to keep pace with inflation. We also agreed to manage this on a regular basis to ensure that Mr Watts is on track to meet his goals.
From 2015 the income limit will be removed completely and Mr Watts will be able to draw as high an income as he likes, the risk being that the income is taxable and it is likely that taking a high income will erode the value of the pension. However, it does mean that in years where expenditure may be higher, Mr Watts can withdraw more from the fund and in other years draw less.
By taking our advice, instead of purchasing an annuity Mr Watts has achieved:
- A higher income – though not guaranteed for life, an initial income of £34,875 against £24,500.
- Retained control of his pension capital – he will keep the pension capital invested rather than paying the entire sum to an annuity provider for a lifetime income.
- Greater death benefits for his spouse or children – his wife could continue income drawdown in the event of his death or the fund could pay out as a lump sum, less 55% tax. The annuity on offer pays no death benefits after the first 10 years, benefits could be added at outset but this would reduce the income paid to Mr Watts significantly.
- From 2015, the ability to take out as much of the pension as he likes – this allows him to cover fluctuating expenditure or make large one-off purchases, like a car or boat.
- Potential for his fund to grow in value – if pension investments grow, he and his family will see greater benefits in the future, compared to a fixed-sum, sole life income.
- The opportunity to purchase an annuity in the future – if annuity rates are higher or if his health is impaired, an annuity may become more attractive in the future.