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One of the questions we hear time and again is will I run out of money in retirement? Everyone’s circumstances are different and nobody can predict the future so there is no definitive answer.
If your chosen retirement option is an Annuity then you may eliminate the risk. They deliver a fixed pension income for life but it comes at a cost (see below).
If you are attracted to the pension drawdown option then there is a risk you could run out of money in retirement. You will need to understand the potential threats to your retirement income and how you could deal with those threats. You need to decide if you wish to take on a level of risk in return for the potential benefits of drawdown.
You will need a plan that covers a range of future possibilities. You can prepare your own plan or work with a financial adviser. Our retirement planning guide will give you an overview of the key points you will need to consider.
Ideally, you should have a plan in place long before your retirement. You need to consider how much is in your fund now and the projected value of your pension at retirement (including your state pension entitlement). You need to work out your expected short and medium term spending; what is the minimum income that you need? And what investment returns you expect both in the run up to and throughout retirement.
As you get older, the purchasing power your assets may reduce because of inflation. If you buy a new car as you approach retirement you will need to factor in replacing it as it will age as you do. If you own your own home it will probably need some maintenance throughout retirement and your white goods are likely to need replacing. Your plan should, therefore, include something to cover repairs, and replacement of these things.
There are several problems with any planning exercise but that should not put you off. Even if you never finish a plan thinking through what could happen and how you may deal with it is a useful exercise.
You could die within a year of retiring or you could receive your telegram from the Palace. You could need long term care or be fit and well until you “pop your clogs” on your 102nd birthday. You have no way of knowing and that makes planning difficult.
We have written about the potential economic and political risks to a pension fund elsewhere on this blog. You should consider those risks and how you might deal with them (they can change!).
If you have a financial adviser they can run through various scenarios with you and the potential impact on your pension fund. We suggest you concentrate on what you can control. How much you withdraw from your pension fund and when you make that withdrawal.
Once you are 55 you can make withdrawals from your pension drawdown fund as and when you like, you may even withdraw the full amount. After the 25% tax free allowance your pension will be taxed at your marginal rate of tax (20%, 40% or 45% depending on how much income you have).
We have written about (theoretical) safe withdrawal rates from a pension fund elsewhere. The long held rule of thumb is that taking annual withdrawals of 4% of the value of your pension fund should give you a degree of confidence that your pension fund will not run out during retirement.
The 4% figure makes a wide range of assumptions and has come under attack by a number of financial experts over the years. It takes no account of an individual’s specific circumstances and should be used as no more than a general guide.
The 4% figure is a flat rate, it does not cover the more realistic case of an individual taking more in the early years of retirement than the later years.
It is important to understand the implications of taking income from a drawdown fund when financial markets have fallen. With the capital value of the fund falling taking withdrawals further depletes the fund making it much harder to recover to the original capital value when markets recover.
There are a number of possible solutions to this problem. The first is to hold sufficient cash to avoid taking income from the drawdown fund when markets fall , reduce your income or use other investments to provide your income. Maintaining a well balanced portfolio and reviewing it regularly to make sure that it meets your requirements will help.
Fees and charges also have an impact on the value of a pension fund and should not be underestimated. Choosing the wrong drawdown arrangement with higher than average fees can deplete a pension fund by tens of thousands of pounds over the long term.
You may reduce your exposure to investment risk at any time by using part (or all) of your remaining drawdown pension fund to purchase an Annuity. This will secure a guaranteed income for life.
In August 2016 annuity rates hit an all time low and they have struggled to recover since. It is important to time the annuity purchase appropriately and research the best rates available at the time. Annuity rates can vary considerably depending on the provider and the performance of financial markets at the time. Your health will also have an impact on the level of annuity you can secure.
If you have a plan then it should be possible to measure your current position against that plan and take appropriate action. Your financial adviser (if you have one) and/or drawdown provider should provide regular updates on the performance of your investments. The quality and regularity of these reports can vary depending on the provider.
A good financial adviser will prompt you to consider action if it is appropriate. If working without advice you will need to review reports, spot trends and consider market conditions yourself.
Whatever your situation there is usually a solution although some of the options may be unpalatable i.e. continuing to work part time or reducing your expenditure. Building a suitable pension fund over a working lifetime is the ideal scenario. Of course, the realities of life often get in the way and it is not always possible to build the pension fund you want or need. This makes it vital to have a plan and to monitor progress closely against your objectives.
Should you have any questions about managing your pension fund in drawdown call us on 0800 043 8341 and we will be happy to help or open a Chat. If you prefer, complete the form below and we will call you back.
This blog is intended to provide a general review of certain topics and its purpose is to inform but NOT to recommend or support any specific investment or course of action. The past is not a guide to future performance. The value of investments can go down as well as up and you may not get back the full amount you invested. Tax and financial regulations can change. Any figures quoted above are correct at the date of publication.
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