Since then annuity rates have fallen to their lowest level yet. So what considerations do you need to take into account if you are about to retire?
Are Annuities Poor Value?
Annuities pay a guaranteed income for life which, in effect, means they return your capital plus any interest earned (allowing for the deduction of costs and charges) at regular intervals over your remaining lifetime.
With interest rates as low as they currently are the level of income you can get from your capital, if you choose to purchase an annuity now, has been reduced. For example, a 65-year-old with a pension pot of £100,000 who takes their tax free lump sum of £25,000 can now expect their remaining pension pot of £75,000 to purchase a single life level pension of just £3,712 per year. At that rate, if the 65-year-old lives for 20 years they won’t even see a return of all their initial capital outlay.
If you are considering taking Income Drawdown rather than purchasing an annuity at retirement it is important that you understand the benefits and risks of Income Drawdown. To find out more read our Retirement Options Guide.
Income Drawdown
There is now far more flexibility in the way you can take an income from your pension that lets you decide whether to take an annuity now or defer the decision until later.
If you are impacted by low annuity rates you could opt to take income drawdown and defer the decision to purchase an annuity until later however it’s important to understand that there is no guarantee annuity rates will improve in the future.
Income Drawdown allows you to draw an income direct from your pension whilst the rest of your pension fund remains invested.
Savers withdrew £8.2 billion from their retirement pots in the first full year of pension freedoms, according to the Association of British Insurers. £4.3 billion has been taken in lump sums averaging £14,500 per payment, and a further £3.9 billion has been accessed using drawdown with an average withdrawal amount of £3,800.
Don’t Withdraw Too Much from Pensions
When considering Income Drawdown, it’s important to be aware of the rate of investment return you are able to generate from your investments and not be tempted to draw too much cash early on. If you’re thinking of using this way of drawing your pension for the long-term then you need to be confident that you can manage your investment strategy to produce a return that will provide you with a sustainable income throughout your retirement.
According to Morningstar’s Emma Wall the first full-year figures from the ABI suggest that the majority of pension savers are thinking sustainably, with 57% of the 79,734 people who accessed their pension pot withdrawing 1% and a further 20% of those withdrawing between 1% and 2%.
However, some investors have been tempted to withdraw too much too soon – some even took out 10% or more from their pension pots in the first year of pension freedoms. Those withdrawing such significant amounts need to be confident that they can replenish their pension with a significant investment return, or have other financial provision.
As a rough rule of thumb, if you’re looking to take more than the average FTSE All Share yield then you may be taking too much risk and may erode your capital too soon.
Past performance is not a reliable indicator of future results. Note that current yield may not reflect historical yields.
Source: Bloomberg as at 12th August 2016
Where to get help
There are numerous ways you can access your pension following the introduction of pension freedoms. If you have reached the point that you are considering your retirement options, it really does make sense to get some free guidance from the specialist team at Pension Wise, a government funded guidance service, or speak to a financial adviser to help you talk through the options available.
For more information about Income Drawdown using the TD SIPP, visit our pension page.
Taking income direct from your SIPP instead of buying an annuity from an insurance company can be complex. You need to consider the investment returns that you may be able to achieve and the level of income that you wish to take.
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