Seeding Change

Independence

Bearing Fruit

Introduction

Achieving financial independence is the moment when our hard work pays off and we take the step into retirement – in one way or another.

Choosing to cease work is likely one of the most intimidating financial decisions we can make. If you have previously made a financial plan, you may have been waiting for this day for some time. For others, planning may not have been a priority and stopping work altogether a difficult moment to imagine.

At Path, we can review your existing retirement provision, and via cash flow modelling, stress test your retirement income sources to give you a clearer picture if stopping work is the right decision for you.

Leaving work

For some of us, leaving work is a decision that may have been made for us – for example, our health may suffered, or we have taken time out to help with grandchildren or aging parents.

Ageism in the workplace is a very real factor, with women viewed as less attractive and less competent than their male counterparts. Male bosses, on the other hand, particularly those over the age of 60, are viewed as a steady hand leading the ship. Women are more likely to take time away from the workplace to provide unpaid care for family and returning to a job after the age of 60 is difficult, no matter how much experience and how many transferrable skills you have gathered in the course of a long career.

Combined with the Pensions Gender Pay Gap, women feeling ‘forced’ from work can face financial detriment in the longer-term, with a much wider gap between retiring and secure income such as the state pension coming into payment at state pension age, and on average lower pension savings than men.

Phasing retirement

Phasing in retirement as an option for clients is becoming more popular for us in the financial planning world, with more individuals choosing to reduce their hours, switch to a role with less responsibility or moving to part-time hours.

With the arrival of new pension flexibilities in 2015, gone are the days of having to choose between working or taking your pension in full. Accessing your pension pot via various methods – be it Flexi-Access Drawdown, Uncrystallised Funds Pension Lump Sum, or simply taking a tax-free lump sum – it has never been easier to reduce your hours and use your savings, investments, and pensions to ‘top up’ your income as and when you need.

Phasing in retirement can be a more manageable transition from working to retiring in full, and allow us opportunity to understand what we want to do when we stop working altogether, what hobbies we would like to prioritise and if our retirement goals are achievable. Think of it as Retirement Lite!

The benefits of phasing in retirement also takes the pressure off your invested assets, allowing smaller amounts of income and savings to be taken in addition to a regular paid income – and improving the overall sustainability of your retirement income in later years. 

Retirement income sources

By this stage in our lives, we will likely have a combination of investments, pensions or workplace entitlements that we can use to provide our retirement income.

Given the tax-efficiency of pension savings, it is better to begin accessing your taxable or tax-free investments first, such as your cash savings, ISAs and General Investment accounts, or a combination of all.

Defined contribution pensions can also be accessed from your minimum pension age (55 rising to 57), bridging the gap between other income coming into payment, for example, the state pension or a defined benefit scheme.

It is worth taking stock of your total financial circumstances before plunging into your various accounts. Taking advantage of your various allowances each year, such as your Personal Allowance, or Capital Gains Annual Exemption, will allow your finances to be structured tax-efficiently, minimising the amount of tax you may need to pay, and reducing the overall withdrawal rate from your total investment portfolio.

Some of us will be lucky enough to have entitlements under defined benefit schemes, pension arrangements that will pay a guaranteed income for the rest of our lives. Defined benefit schemes can be accessed early, much like invested pension policies, although caution must be exercised. Defined benefit arrangements will usually apply an early retirement factor, where benefits will be reduced by a specified amount, to cover the extended number of years that the policy will need to be paid for.

If you have alternative assets you can draw from, you may want to consider leaving these types of policy until normal retirement age and early retirement factors will no longer apply. A higher level of guaranteed income offers a higher degree of security later on.

How you take benefits and structure your retirement income can be complicated and will wholly depend on your personal circumstances. At Path we can help you model the various options available and help you pick the right options for you.

Income sustainability

Life expectancy is on the rise – for a 60-year-old female, the average life expectancy is currently age 88, with a 1 in 4 chance of reaching 96 [1]. Women on average also live longer than men.

For those of us who will not receive a guaranteed income in retirement, 28 years is a very long time to make a pension pot last for.

There are a number of essential factors to take into consideration when thinking about taking your retirement income:

• How much you have saved within your pension and how long this is likely to last
• How much income you need, for both essential expenditure and discretionary spending
• How much risk you are willing to take, and the impact of a financial loss on your income in later years
• If you have any other assets that could be used to provide income or capital
• Other secure benefits such as the state pension – will you get the full entitlement or are there gaps in your National Insurance Record?
• Your personal circumstances and health are a factor as your longevity will impact on how long benefits will need to last

For some, an annuity purchase is a sensible approach, using pension funds to secure a worry-free guaranteed income that remains in place for life.

For others, it may be the case that you are planning on spending more in the early years, winding down later on where your income requirements will fall, and a flexible approach that allows you to increase or decrease your withdrawals would be more suitable.

While modelling your income is important, stress-testing your plan is essential. If growth rates are lower than expected, markets fall significantly, or long-term care is a possibility, will your retirement provision be enough to see you through?

The State Pension

For many women, the State Pension will often make up the majority of their retirement income.

Previously, the state pension for women came into payment at age 60, although changes in 2010 and 2018 increased the state pension age to 65. This has had a significant impact for some women, with an ongoing investigation into whether adequate information was provided regarding the change in state pension age and the negative financial impact this has had on women in retirement [2].

The current state pension depends on your National Insurance Record – you will need at least 10 years of contributions to receive any state pension, with 35 full years in order to qualify for the full UK State Pension. State pension payments are currently £179.60 per week (£9,339.20 per year) for the current tax year.

The UK State Pension is at the lower end of pension income sources, when compared to other OECD countries – in fact, we are 28 out of the 36 countries used within the comparison [3], below the majority of European countries and others such as the United States, Japan and New Zealand.

Previously, there were options to inherit some State Pension from your partner if you both reached State Pension age before 6 April 2016. There are limited death benefits if you both reach State Pension age after this date, usually only if you were married prior to this date and your partner had Additional State Pension or Protected Payments.

There is a widely held view that the State will provide sufficient income in retirement – it is actually almost £1,000 less than the minimum living standard as estimated by the PLSA [4]. Relying on the state in retirement is simply not an option for most individuals in the UK.

Taking lump sums from your pension

With a good financial plan in place, sensible modelling and realistic retirement goals, there is opportunity to use some of hard-earned savings to help out family – our children and grandchildren for example – or to clear debts, renovate our homes or pay for that dream holiday.

For most defined contribution pensions, retirees can access up to 25% of tax-free cash from their pension savings, to use for ad-hoc capital spending or helping out our loved ones.

While our children may have reached a degree of financial independence, our grandchildren may be more in need of support. Rather than wait until we pass away, a large number of us would like to help as early as possible – and accessing tax-free pension benefits can provide a substantial lump sum to help towards education costs, property deposits or a wedding.

Others in retirement may wish to use funds to improve their homes, particularly to accommodate changing needs as we get older, or travel to see family and more of the world.

But it is best to approach this with some caution – while it feels good to help out those we love, and finally have enough to pay for those larger capital expenses, taking large lump sums early in retirement could be detrimental later on, significantly reducing the value of your pension that needs to last a lifetime.

Widows pensions

With women reaching retirement with significantly less savings than men, a number of us expect to be reliant on our partner’s retirement provision.

Defined benefit schemes will usually come with an established spouses’ or widows’ pension, quite often ranging from a third, to half of the deceased spouses’ pension in payment. Other schemes may be more generous, and some may not have any spouses’ provision at all.

If you have chosen an annuity as the most suitable retirement income, you can make provision for a spouse or dependent at the time of purchase, including a guaranteed period and a pension income to inherit (which could be up to 100% of your retirement income). However, additional benefits within annuities come at a price and can reduce the amount of starting income you will receive.

For defined contribution schemes, there is not automatic spouses’ pension – pensions can be passed on to nominated beneficiaries via an Expression of Wish form.

It is essential to keep nominations up to date – the Expression of Wish form provides guidance to a pension administrator in passing on benefits, but they will take steps to make sure this is appropriate and check if there is reason to pay benefits to a different beneficiary.

Pension scheme rules will also depend on how benefits are paid – most offer a lump sum payment on death. While this may be appropriate for some, it could negatively impact your tax position, and the loss of future growth compared to other options that offer the ability to leave sums invested for your future.

Reviewing your pension arrangements in later life, as your circumstances change, is still a good idea – whether simply checking if your nominations are up to date, or switching to a policy that offers more freedom for your partner in future.

[1] https://www.ons.gov.uk/peoplepopulationandcommunity/birthsdeathsandmarriages/lifeexpectancies/articles/howlongwillmypensionneedtolast/2015-03-27
[2] https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/1005948/Women_s_State_Pension_age_-_our_findings_on_the_Department_for_Work_and_Pensions_communication_of_changes_Final.pdf
[3] https://researchbriefings.files.parliament.uk/documents/SN00290/SN00290.pdf
[4] https://www.plsa.co.uk/Press-Centre/Press-Releases/Article/PLSA-launches-Retirement-Living-Standards