Income in Retirement

As you approach retirement and need your pension savings to provide an income, there are several complex options to consider. You might prefer the certainty of a set income for life offered by an annuity, or the flexibility of drawdown, which allows you to choose how much and when to take your income. Ultimately, a combination of both may be the best solution. Before making any decisions, it's important to weigh up the pros and cons of each option.

Annuities

An annuity provides a guaranteed income for life, unaffected by investment market fluctuations. Those with certain health conditions may qualify for an enhanced annuity. At the outset, you can choose options to tailor the annuity to your needs, such as:

• An income that increases annually to keep pace with inflation.

• Providing an income for your dependents if you die.

• Building in a guarantee to ensure the annuity continues to be paid to your beneficiaries if you die within a specified period.

However, the options you choose will affect the amount of income you receive. More guarantees typically mean a lower income. Additionally, annuity rates tend to be lower when interest rates fall, potentially resulting in less income than expected. The income is generally fixed and cannot be adjusted, so if your circumstances change, you may need to find other sources to supplement your income.

Professional, regulated advice should always be sought before purchasing an annuity to ensure it meets your long-term needs.

Drawdown

Drawdown offers greater flexibility and control over how your money is managed in retirement. You can leave your money invested in your pension pot and withdraw from it whenever you want. Typically, you can take up to 25% as a tax-free lump sum, either immediately or in stages, and make withdrawals as needed. This allows you to decide how and when to draw your pension savings. If your investment growth exceeds your withdrawals, you may increase your future income or leave a larger inheritance.

The downside of drawdown is that if you withdraw too much too soon or if your investments don't perform well, you may not have enough left to provide an income throughout your retirement. Unlike an annuity, there is no guaranteed income. You need to understand how to invest your pension savings and how potential losses or gains might affect you in the future. Additionally, you need to consider the tax implications of any withdrawals.

As with annuities, professional advice should always be taken to ensure that drawdown is appropriate for your retirement planning needs.

Lump Sum and Death Benefit Allowances

There is a limit on the total amount of lump sums and lump sum death benefits you can receive tax-free.

The Lump Sum Allowance is the maximum amount you can take from all your pension schemes as tax-free cash – it is usually £268,275, but it may be higher if you hold a protected allowance. The Lump Sum and Death Benefit Allowance is typically £1,073,100, but it may also be higher with a protected allowance.

You can use all or part of the money remaining in your pension drawdown pot to buy an annuity at any time.

Unused Pension Funds

Currently, if you die before age 75, you can usually leave any remaining funds to your beneficiaries without Inheritance Tax (IHT), subject to certain allowances. If you die after age 75, your beneficiaries may have to pay tax on the money.

However, in the 2024 Autumn Budget, it was announced that with effect from 6th April 2027, any unused pension savings will be included in IHT calculations if your estate exceeds the tax-free thresholds – irrespective of age. These changes won’t affect anyone who has already accessed their pension savings. The details of how these changes will work in practice are still to be finalised.

Which retirement income option is best for you?

For many, a combination of both drawdown and annuity may provide the best balance, offering security of income and control over withdrawals. Ultimately, any plans should be tailored to an individual's needs and circumstances. Always seek professional advice to ensure all necessary factors are considered before deciding on your retirement strategy.

Please note:

This article is for general information only and does not constitute advice. The information is aimed at retail clients only.

This information is based on our current understanding of taxation legislation and regulations. Any levels and bases of, and reliefs from, taxation are subject to change and tax implications will be based on your individual circumstances.

A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by interest rates at the time you take your benefits.

Accessing pension benefits early may impact on levels of retirement income and your entitlement to certain means-tested benefits and is not suitable for everyone. You should seek advice to understand your options at retirement.

FP2025-011 – last reviewed January 2025