approaching retirement face some tough decisions, that have not
been made easier by the tact that annuity rates have fallen
again and are now close to the lowest levels they have ever
rates have at least halved over the past 20 years, primarily due
to increased longevity. In 1990 a man retiring at 65 with a
£100,000 pension pot would have been able to secure a pension of
around £15,650 a year for life. Today the same pension pot will
only provide around £6,500 a year. [Source: Prudential, July
These very low rates mean that many people are forced to rethink
their retirement strategies and review the assumption that they,
at retirement, will collect a large tax-free cash sum to spend
as they wish.
According to Prudential, July 2011, around eight out of ten
people retiring last year took a tax-free lump sum from a
company or personal pension scheme.
The amount you can take can differ between schemes, but
generally most pensions allow a take of 25 per cent of
their fund tax free, the rest being used to secure an income,
either via a traditional annuity or an income drawdown plan.
have in the past seen their tax-free lump sum (also known
technically as a Pension Commencement Lump Sum, PCLS) as
something akin to a windfall, to be spent today rather than
tucked away for the future.
their PCLS money and spend it on home improvements, a holiday or
buying a new car.
climate it could however well turn out that a significant number
of people later may regret taking this lump sum and are forced
to live a "cautious" retirement with worries about having
sufficient long-term income.
The days of a once-in-a-lifetime holiday or buying a shiny new
car may be gone and be replaced a need to make savings- and
investment decisions with the lump sum in order to supplement an
already meagre retirement income.
It is not hard to see why many pensioners are finding that their
money does not go as far as it once did. Low interest rates have
affected any income they receive from savings accounts, low gilt
rates reduce future annuity payouts and they are constantly
seeing living costs soar.
Should you take your lump sum now?
impossible to give a simple Yes/No answer to this question
unless details of your individual situation are known. And,
ultimately the decision is of course yours irrespective of any
advice you may get one way or the other.
For many this decision will be based on whether or not they
really need the 25 per cent capital sum immediately. They may
have debts to pay or need urgent liquidity, in which case the
PCLS may provide a very welcome rescue.
other considerations that need to be taken into account are what
income is needed in retirement. If the tax-free lump sum is
spent, will there be sufficient funds in your pension pot to
produce the income you need later in life?
Those lucky enough to have a "goldplated" final salary scheme
(which are still common in the public sector) or additional
final-salary benefits from private company schemes, will clearly
have an easier choice.
With some of the older types of public sector schemes a separate
entitlement to the PCLS is build up and not taking this lump sum
will not result in getting a bigger pension.
With defined contribution or so-called ‘money purchase schemes’
the choice of whether to take the cash or not is more
straightforward, would you rather have some of the cash today or
a promise to get a higher pension in later years?
For those who decide to take the money, preferring not to gamble
on their own longevity, and sill receive some retirement
benefits it may pay to ensure that the money is invested tax
well be a tax-free lump sum now, but please remember, that if
you simply stick it in the bank or building society you will
find that any interest you receive on it will be taxed. ISAs or
other tax-efficient arrangements are obvious choices to place
your PCLS as these wrappers ensure that no income tax (and in
the case of ISAs, capital gains tax) is paid.
option is income drawdown plans, which give you the option of
taking the lump sum, after which you are not required to take
any further income until you need it.
This way, your remaining investment
will still be within the pension wrapper, and any additional
growth will be tax-free. This is only really a suitable option
for those with sufficiently large funds and who are prepared to
take on some degree of investment risk.