Making the wrong financial decisions at retirement can turn out expensive if they mean missing out on income and tax breaks.
The big decision is whether to go for a fixed retirement income from an annuity or to opt for taking money when needed from pension drawdown.
Financial advisers are warning choice is good – especially after Chancellor George Osborne’s rehash of pension options at retirement – but can also be confusing with so many firms offering different products and solutions.
Besides decisions about how to take pension cash, inflation and the effects a rising cost of living can have on spending power need considering as well.
Andy James, head of retirement planning at Towry has worked two examples to show how annuity and drawdown can give different results for the same retirement saver.
How advice can boost income
In the first example, the widowed saver with two children has a £500,000 fund on retirement at 65 years old.
The saver buys an annuity without advice that pays £26,456 a year at current rates but, says James, inflation erodes his spending power by half when he reaches his 85th birthday. When he dies, the annuity dies with him and his children inherit nothing from his life savings.
Going down a different route, the saver takes a £125,000 tax-free 25% lump sum and gifts £25,000 to his children as a potentially exempt transfer under inheritance tax rules (IHT). The rest goes into ISAs and managed funds.
Over the years, he draws an annual income of £30,600 from withdrawing his investments, and also manages to give each child £3,000 a year tax-free from IHT.
“These examples show how taking advice and making informed financial decisions can give a vastly different retirement income outcome,” said James. “Not only has our retiree had more cash in his later years, but he has passed £85,000 without any tax to his children.”
Watch out for guaranteed annuity rates
Meanwhile, Stephen Berry, personal finance specialist at NFU Mutual, also warned pensioners not to delay their financial decisions.
“Choice is leading to confusion, but hundreds of thousands of people could lose any guaranteed annuity rate written into their pension policies,” he said.
“The valuable guarantee is in many pensions taken out before 1990, and anyone with one of these plans should check their policy to make sure they do not lose money by procrastinating about what to do.”
Berry also pointed out that guaranteed rates are age-sensitive and sometimes aligned to specific birthdays.
