Preparing for Modern Retirement

Pension Freedoms has given us more and more options to help you achieve your retirement goals.  The key to a long and financially sound retirement is understanding all the options you have at the point of and during retirement.

Preparation is the key. This will help you be in the best possible position when you decide to give up traditional working life.

Here at Choice Financial Solutions we can help you get the most out of your retirement provisions.

Putting wellbeing and fulfilment at the centre of your plans

One of the biggest things to have changed during retirement is quite simply the lifestyle that retirees today aspire to. There are still those that plan to take it easy from the outset. However, many have plans, bucket lists or goals that they hope will take centre stage.

Of course, aspirations vary hugely from person to person. Yours might even change at points during your retirement.

According to research, when asked what they were most looking forward to in retirement, those approaching the milestone responded:

• Travel (47%)
• Taking up a new hobby or continuing with old ones (29%)
• Supporting children and grandchildren financially (21%)
• Buying a holiday home (15%)
• Moving abroad (15%)
• Starting a business (10%)

The above list gives just a snapshot of what your hopes for retirement might be. Perhaps, for you, spending time with grandchildren as they grow up is important. On the other hand, you might want to undertake some voluntary work.

The key thing to note as you plan your retirement is that it can be what you make it.

To build the retirement lifestyle you’ve been dreaming of, your aspirations need to be placed at the heart of your plans.

When planning for life after work, we have a tendency to focus on the money side of things. This is hardly surprising as throughout your working life you’ve probably been reminded of the importance of saving into a pension.

Also, noted the changes to the State Pension age, and monitored investment to track the income they’re projected to deliver.

While these are crucial steps, we rarely look at the emotional and wellbeing aspect of retirement.

However, without considering your aspirations, you risk leading a retirement life that isn’t as fulfilling as you would hoped. Therefore, you should start your retirement planning by thinking about your priorities, values and ambitions for the next chapter of your life.

Of course, your goals for retirement do need to be balanced with the provisions you’ve made.  Reconciling these two elements of retirement planning can be challenging. You may find that adjustments need to be made.

Although, more often than not, we find that those approaching retirement are actually in a better position than anticipated. This then provides them with even more freedom to turn dreams into a reality.

The rise of phased retirement:

Is it right for you?

The most favoured approaches to a phased retirement are:

• Working fewer days (70%)
• Reducing hours worked per day (44%)
• Flexible working arrangements (33%)
• Increased holiday entitlements (20%)

The above options provide you with ways to work flexibly while still maintaining your current job or a traditional position. However, there are other routes to phased retirement too. Perhaps you want to work on a freelance basis, taking full control of when you work. Or perhaps you could turn a hobby into a profitable business.

The combination of technology and businesses wanting increased flexibility means you’re in a far better position to create work that suits your retirement than previous generations.

Why would you continue to work in retirement?

If you’re looking forward to giving up work entirely and enjoying having plenty of free time on your hands, the thought of continuing to work probably couldn’t be further from your mind. But it’s an option that appeals to many for a variety of reasons.

For some, money will play a clear role in this. Perhaps you do not have enough retirement provisions to meet your aspirations. Therefore, working for longer in some form provides you with a way to increase income in the short and long term. However, it’s not just money that’s driving the decision. The research indicates the transitional approach was embraced across all income bands.

Our career makes up a big part of our identity. After years of building up your skills and experience, you may not feel ready to let go of your position entirely just yet. Work also provides us with a focus, structure and social aspects. You may decide they are still important to you, even as you want to scale back your work commitments.

When you factor in improving life expectancy, it’s not surprising that more people are choosing to work during retirement either. Modern retirement can 20, 30 or even 40 years. Therefore, it may be possible to mix continued career development and goals with the increased leisure time you want.

The financial implications of continuing to work

When you’re deciding the work-life balance that is right for you as you move towards retirement, there’s another factor to consider; money. While finances shouldn’t be the sole focus of your decision, it’s an area that does need to play a role.

If you will continue to work will you:

• Need to supplement the income you earn?
• Will you access your pension savings?
• Take a tax-free lump sum from your pension?
• Will you defer or claim your State Pension when it’s available?

If phased retirement is for you, Pension Freedoms do give you more flexibility to blend an income from work with retirement provisions. However, you will need to carefully consider the tax implications of how you access any savings. Also, the sustainability of the withdrawals you’re making.

The Personal Allowance for the tax year is £12,570 in 2021/2022. If you receive income above this amount, including money taken from your pension, you will be taxed. On the other hand, if you’re earning an income from work and accessing pensions, it can be easier to slip into higher tax brackets than you realise.

Another implication is your pension annual allowance. If you choose to carry on working, you may still be paying into a pension. This is fine. However, if you choose to start withdrawing benefits from a pension, your Annual Allowance will decrease to £4,000 annually. It means you may have limited opportunity to replace the funds withdrawn.

Understanding the potential tax implications of continuing to work can help you get the most out of your money. This is where Choice Financial Solutions can help.

Understanding your retirement provisions

Once you’ve set out how you want your working life to look as you approach retirement, you need to look at the provisions you’ve built. This is a crucial step for all retirement plans, whether you want to carry on working in some form or not.

While money shouldn’t take over your retirement, it’s undoubtedly important. After all, it would be difficult to fund your goals without it. Most people in retirement find they have multiple sources of income. While useful in many ways, it can make it difficult to understand how it will support you. However, breaking it down into different key areas can help you see what you can expect to receive.

Below are five areas to look at when calculating your retirement provisions. On the other hand, they may not all be applicable to you.

Working income

First, if you’re following the trend for working during retirement, the income you earn should be factored in. How much it will support you will depend on the balance you want to strike. If you decide a phased approach is right for you, it can improve financial security in the short and long term.

However, you should be mindful of how reliable your income from work will be. For instance, if you choose to try your hand at freelance or launching a business, your income may fluctuate during the year. Understanding how your work decisions may affect the money coming in allows you to put a contingency plan in place where necessary.

Another key thing to define is how long you intend to work for. This doesn’t have to be set in stone. You can change your mind at a later point. However, having a long-term plan can help you decide how best to access other retirement provisions. Also, calculate how long they will support you for.

State Pension

For many, a State Pension will provide a foundation for their retirement income.  To qualify for the full State Pension, you must have 35 years of National Insurance contributions on your record.

For 2021/22, the weekly State Pension is £179.60. This is just over £9350 annually. It’s a sum that’s unlikely to cover your plans for retirement. However, it does provide you with something to build on. Also, a stable income that you can rely on.

If you choose to work or have other forms of income, you may decide you don’t want to access your State Pension straightaway. It can be a worthwhile decision in the long term. For every nine weeks you delay claiming, your State Pension will increase by 1%.

Make sure you check both your State Pension age, which is rising, and your NI record before you start making retirement plans.

Defined Benefit Pensions

A Defined Benefit Pension scheme, sometimes referred to as a Final Salary Pension, is often considered to be the ‘gold standard’. This is due to the often generous income it delivers on retirement. Also, the auxiliary benefits and the fact the responsibility to meet income commitments falls to the trustees.

When you join a Defined Benefit scheme, the calculation that will set the income you receive in retirement will be pre-defined. It will usually be based on three key factors:

• The number of years you paid into the scheme.
• Your salary – either a career average or your final salary.
• The accrual rate – this is the fraction of your salary that’s multiplied by the number of years you’ve been a member to calculate retirement income.

To remain a member of the scheme, you will need to pay in a portion of your salary each month. This is often higher than that of the minimum for alternative Defined Contribution schemes.

However, you’re typically compensated for this in two ways. First, is the guaranteed income offered, which is usually linked to inflation. Second is the auxiliary benefits, which will often include a spouse or dependent’s pension to improve your family’s financial security.

To understand the projected value of your Defined Benefit pension and how it’s calculated, you can contact the scheme directly.

As the trustees take responsibility for a Defined Benefit pension, you essentially only have two choices when you come to claim it. You can either remain a member, receiving a defined income for the rest of your life, or opt out.

If you opt out, you give up the security a Defined Benefit pension offers in return for a lump sum of cash. The cash can be placed into a Defined Contribution pension. This transfer is known as a Cash Equivalent Value Transfer. It’s rarely a good idea to leave a Defined Benefit scheme. It is a decision that needs to be thought about carefully, with professional advice taken, beforehand.

Defined Contribution Pensions

Defined Contribution pensions are the most popular way to save for retirement. Since the introduction of auto-enrolment in 2012, ten million people have begun saving into a Defined Contribution pension. Most employees will now be offered a Defined Contribution pension.

A Defined Contribution pension is a pot of money that’s typically invested with the plan to grow over your working career. In most cases, contributions come from three sources:

• Employer contributions
• Employee contributions
• Tax relief

This money deposited can typically be invested in a range of funds. If you haven’t chosen a fund, it will be placed in the default option.

Investment gains are reinvested to generate returns of their own. Therefore, you will benefit from the compounding effect. While there are minimum contributions set under auto-enrolment, you can choose to increase these or deposit lump sums to boost retirement savings.

When calculating the total value of your Defined Contribution pension at retirement, it’s important to keep in mind that it’s invested. Markets fluctuate, and so will your pension value.

Over your working life, your pension will benefit from market rises and suffer from the lows too.  That’s why it’s important to look at the long term when forecasting your pension value.

You should receive an annual statement from your Defined Contribution provider. If you haven’t, contact them directly. This will show you your contributions, current pension value, and projected value at the point of retirement. Therefore, providing you with the information needed to understand the income it will deliver.

Since 2015, you have had far more options for accessing your pension at retirement. We look at these in more detail in the next section.

Other assets

Pension savings typically make up the core part of a retirement income. However, you probably have other assets you will use at some point too. When you’re weighing up your retirement provisions, including these can help to build a more complete picture. You may intend not to use these assets. However, understanding the value and how accessible they are can provide you with more confidence as you step into retirement.

Among the assets you may have to fund retirement are:

• Cash savings
• Investment portfolio
• Property
• Inheritance

What do Pension Freedoms mean for your income?

When Pension Freedoms were introduced in 2015, they represented the biggest shake-up to the industry in a generation. They aimed to give more flexibility during retirement, allowing you to build an income that suits you.

The change reflects trends in retirement, including taking a phased approach to leaving work and remaining employed for longer.

You now have more choice than previous generations did. However, alongside that comes the responsibility to ensure you choose the right option for your lifestyle. In addition, that your provisions will last you a lifetime.

Choosing how to access your pension can be difficult and there are many pros and cons to weigh up before making a final decision.

Since 2015, Defined Contribution pensions have been accessible from the age of 55. When you reach this point, there are essentially five options to choose from.

Leave your pension where it is

You are not obliged to take your pension at any point in your life. Therefore, it can remain where it is for as long as you like. If you choose this option, it will typically remain invested. However, pension funds will usually reduce the level of risk you’re exposed to as you approach retirement. Consequently, potentially decreasing the investment returns.

If you do not plan to take your pension at the start of retirement, this may not be the best approach for you. If this is the case, you can change which fund your pension savings are invested in, and therefore the level of risk, by contacting the provider.

There are many reasons you may choose not to access a pension right away. Perhaps you do not need it as you continue to work or prefer to use other assets.

Also, there is one clear benefit to doing this. It’s an effective way to pass on wealth. For Inheritance Tax purposes, pensions are not considered part of your estate. As a result, if you leave your pension to a loved one, it’s not liable for Inheritance Tax.

If you pass away before the age of 75, there’s no tax due at all on an inherited pension. After the age of 75, your beneficiary will pay Income Tax at their usual rate.

Withdraw lump sums

You can take lump sums from your pension as and when you choose to from the age of 55. If you’re planning to fund big one-off purchases, it can be an effective way of doing so.

However, you should have a plan for how you will use the money. Holding it in cash accounts will  often mean it loses value due to the impact of inflation. Furthermore, you will also need to ensure that your pension will continue to deliver the income needed to support you for the rest of your life.

A key thing to keep in mind with this option is tax. Usually, only the first 25% can be withdrawn tax-free. Beyond this threshold, it will be liable for Income Tax. If you’re taking out a large amount above the tax-free allowance, the amount of tax you’re liable for can be significant. As a result, it may not be the most efficient way to access your pension.

Purchase an Annuity

Purchasing an Annuity used to be the standard step retirees took when they reached the milestone before Pension Freedoms were introduced. It’s a way of securing a guaranteed income throughout your life.

You take the money accumulated in your pension and use it to purchase this guarantee. The level of annual income offered will vary between providers. Therefore, it is important to shop around.

To calculate how much you’ll receive, a provider will look at a range of factors, such as:

• Your age
• The amount you have in your pension
• Health and lifestyle

There are many different options when purchasing an annuity. This can affect the level of income you’re offered too. For example, do you want an income to rise annually alongside inflation? Should you die, would you want an annuity that would provide for your spouse? Think carefully about the type of Annuity product you want before you decide. You can not change your mind once purchased.

Purchasing an Annuity means your retirement income is less flexible than alternatives. On the other hand, the trade-off for this is security. You don not have to worry about running out of money in later years.

Take an adjustable income

Pension Freedoms introduced a flexible way to take your income. These are known as Flexi-Access Drawdown. This allows you to adjust the amount you withdraw to suit you or even halt withdrawals. If you want to change how much income you take from your pension over time, this can be a good option. For example, you may decide you want to take less income initially as you plan to continue working. Then take a greater level for a few years as you enjoy your freedom before settling into retirement.

Typically, your pension will remain invested if you choose this option. This is both an advantage and a drawback. The clear advantage is that it has an opportunity to continue generating returns. On the other hand, your pension will still be exposed to investment risk and can fluctuate. This means you need to take more of a proactive approach to monitoring pensions. Also, the level of income that is withdrawn.

Not all pension providers will offer this option. If yours doesn’t and it’s right for you, a pension can be transferred to another provider.

Empty your pension

Should you choose to, you can completely empty your pension too. In some circumstances this may be the best option. For example, if it’s a relatively small pension and you have other pensions to use to create a long-term income. However, in many cases, this isn’t the best course of action.

Firstly, withdrawing your entire pension could mean your future income is placed at risk. Second, it’s not tax-efficient. Usually, only the first 25% is tax-free. After this, you will be taxed at the standard Income Tax rate. For example, if you have an annual income of £14,000 from other sources and choose to entirely withdraw a £100,000 pension, the withdrawal would be taxed at £23,530.

Blending your options:

While there are broadly five options to choose when accessing a Defined Contribution pension, you don’t have to pick just one. Many retirees find that creating a hybrid solution is the best option for them and their retirement plans.

You could initially withdraw a lump sum, taking advantage of the tax-free allowance. Next, you may then decide to purchase an Annuity with a portion of what’s left, providing some financial security. Then leaving the rest where it is until your later retirement years.

Understanding your options and the impact it could have on your future can be difficult. We are here to help you decide how to access your pensions.

Balancing aspirations with pensions

Once you have considered the lifestyle you want to achieve and the retirement provisions you have made, it’s time to bring the two together. This is an area we can help you with.

Balancing retirement goals with savings can be challenging. However, it is important for building a plan that works for you. We are here to help you make sense of both sides of the retirement plan. Consequently, giving you the confidence in your finances to meet your aspirations.

Using cashflow planning, we will help you see how your wealth will change over time in relation to the retirement decisions planned. For example, we can give you a visual representation of how:

• Working part-time will affect your income.
• Taking a lump sum from your pension will impact long-term financial security.
• The impact volatile investment markets could have if you used Flexi-Access Drawdown.
• How long your savings will last with your ideal retirement lifestyle.