Can you afford to retire before State Pension age?

When do you want to retire? Are you dreaming of giving up work before you start collecting your State Pension? With news that the State Pension age is rising and suggestions the government needs to raise it quicker, it’s a question more workers may be thinking about.

With 15th September marking Pension Awareness Day, now is the perfect time to consider whether your pension contributions are aligned with your plans. The sooner you start planning retirement, the more likely you’ll be able to make dreams a reality.

Changes to the State Pension age

Recently, the State Pension age for men and women equalised at the age of 65. However, further rises are planned and the State Pension age remains under review. By 2028, the State Pension age will be 67 and it’s likely to rise beyond this. It’s important to understand when you’ll receive the State Pension and to keep track of how legislative change will have an impact. You can check your State Pension here.

Whilst there are already steps in place to increase the State Pension, you may have seen recent news suggesting that it needs to increase at a much faster pace.

According to think tank the Centre for Social Justice the State Pension age should reach 70 by 2028 and 75 by 2035. The organisation argues getting more people in their 50s and 60s to continue working could boost the economy by £182 billion. It also notes the cost of providing the State Pension, which accounted for 42% of all welfare spending last year, a bill that is rising. Over the last 30 years, the cost of the State Pension has increased by over £75 billion, reaching £92 billion.

If you’d hoped to retire sooner, the State Pension age increasing could derail plans. The Centre for Social Justice paper is simply a suggestion, but you may not want to work up to the point the State Pension age is currently set.

3 steps to calculating if you can retire before receiving the State Pension

So, how can you retire before State Pension age? It’s a goal that requires careful financial planning. Fortunately, if this is your target, Pension Freedoms mean than you’re likely to have more options that you would in the past. Most people are now able to access their pensions from the age of 55, well before they can expect to start receiving an income from the State Pension.

However, simply being able to access pensions earlier in life doesn’t mean you can afford to retire sooner. Your pension provisions are likely to need to provide an income for the rest of your life. Making withdrawals sooner could leave you in a financially vulnerable position in your latter years.

You’ll need to take three essential steps to begin understanding if it’s possible to retire on your current provisions before you’ll receive the State Pension and how to make up a potential shortfall.

1. Set out your goals

Calculating if you can afford to retire before the State Pension age means you first need to set out what you hope to achieve. There are two key questions here; when do you want to retire? What will your lifestyle and spending look like in retirement? Understanding how much income you’ll need annually and your life expectancy are crucial to assessing how your savings stack up.

2. Understand your current pension savings

With an idea of how much you’ll need to retire sooner, you’ll need to look at how much you already have in your pensions. Remember to assess all the pensions you hold and factor in likely investment returns between now and your intended retirement date. With these figures, you’ll be able to see the level of income your pension will provide if you retire at different points.

3. Assess how other assets may be used

Pensions are often the key to creating an income in retirement, but they’re not the only option. You may have other assets that can be used to fund retirement, such as savings, investments or property. How could these be used to supplement pensions? Knowing you have other assets to fall back on can give you the confidence needed to move ahead with plans. You also need to ask whether you’d be comfortable using other assets for retirement income. Perhaps you’d hoped to leave property as an inheritance or savings to pay for potential care costs.

Identifying a shortfall

As you assess your pension savings, you may find that you’re in a better position than you thought. However, you could also find a gap between your ambitions and savings. If this is the case, identifying the shortfall is the first step to creating a financial plan that combines your aspirations and financial situation. This is where financial planning can help you understand what steps may help.

  • Could you work longer than initially planned and still retire before receiving the State Pension?
  • Would a phased approach to retirement appeal to you?
  • Could you reduce your monthly outgoings or cut back on big-ticket spending?

If you hope to retire before reaching State Pension age and would like to understand the impact this will have on your financial security, please get in touch.

Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change in the future.

4 things to consider when managing pension investments in retirement

Since 2015, retirees have had far more control over their pensions. Rather than purchasing an Annuity, more are choosing to leave their pension invested. This has benefits and can help you build a flexible income, but there are things to keep in mind too.

Figures from HM Revenue and Customs (HMRC) revealed that in the second quarter of 2019, retirees withdrew £2.75 billion from their pension flexibly. It represents the greatest amount withdrawn in a single quarter since Pension Freedoms were introduced. In total, £28 billion has been withdrawn flexibly over the last four years.

From the age of 55, you’re now able to start accessing your pension whether you’re ready to retire or not. One of the options open to you is Flexi-Access Drawdown. This is a pension product that allows you to make withdrawals that suit you, altering the amount and choosing the time. The capital that remains in the pension is typically invested. As a result, more retirees are now having to consider how to manage investments.

The pros and cons of Flexi-Access Drawdown

Before we look at managing investments in retirement, it’s important to recognise that Flexi-Access Drawdown isn’t the right option for everyone. As with all financial decisions, there are pros and cons to weigh up, as well as alternatives to explore.

Pros:
  • You’re in control of the income you take and when you make a withdrawal
  • As the money remains invested, there is potential for the value of your pension to increase
  • You can choose the level of investment risk you take with your retirement savings
  • It can provide you with a tax-efficient way to pass on wealth if your estate may be liable for Inheritance Tax
Cons:
  • You will need to take responsibility for ensuring withdrawals are sustainable
  • Investment can decrease in value and short-term volatility may have an impact
  • You will need to consider life expectancy when calculating how much can be withdrawn, as well as considering what will happen should you live longer than average
  • You will need to understand how withdrawal levels and when you make them will affect your tax position

If you have any questions about the pros and cons of Flexi-Access Drawdown, please contact us.

Flexi-Access Drawdown is still relatively new but analysis looking at the last four years suggests many retirees will have profited.

According to Aegon, an individual with a £400,000 pension taking a £20,000 annual income from day one of the Pension Freedoms would have seen their pot grow by £62,000 after four years in the ABI Global Equities sector. This is despite the impact of £80,000 of income payments. The same retiree invested in the UK Equity Income, Mixed Investment 20%-60% Shares sector average and Global Fixed Interest, would have seen some erosion to the capital. However, crucially, such erosion was less than the total income taken in all three cases.

The analysis illustrates how leaving a pension invested can deliver returns for retirees, but it should be noted that this will depend on individual circumstances and the assets the pension is invested in.

So, if you do decide to go ahead with Flexi-Access Drawdown, what should you keep in mind?

1. Risk profile

As your pension remains invested, it’s important to consider the amount of risk you’re taking. Traditionally, it was common to decrease the level of risk as your approached retirement age, when it was then withdrawn. However, longer retirement and changing lifestyles mean this isn’t always suitable for those considering how to access their pension today.

As with all investment decisions, the level of risk you take with your pension should consider a range of factors. This may include your overall attitude to risk, other assets you hold, how long you expect to be accessing the pension for and when you’ll make withdrawals. There’s no single solution to the level of investment risk you should take when retired, it’s one that should consider your personal circumstances.

2. Impact of volatility

Investments will experience volatility. But how should you respond to this when you’re withdrawing an income from it?

If you choose to, you can continue taking an income as you planned, despite volatility. However, this can mean your savings are depleted far more quickly than you planned and place future financial security at risk. Should investment values fall, for example, you’ll need to sell more units to achieve the same level of income. In turn, this can mean investment returns don’t meet expectations.

Adjusting the income taken in line with investment performance can help you stay on track and ensure your pension will continue to support you throughout retirement.

3. Financial safety net

Having a financial safety net is often cited as important during your working life and it’s no different when you retire. How will you cover unexpected bills or expenses? If investment performance falls, will you be able to reduce the income taken from a pension and still maintain your lifestyle?

If your retirement income is invested, it’s important to understand the financial safety net you have in place. It can give you peace of mind and the confidence to fully enjoy your retirement. A financial safety net is likely made up of different assets, but may include an emergency savings fund, the State Pension or a guaranteed income from a Defined Benefit pension.

4. Life expectancy

Using Flexi-Access Drawdown means you’re responsible for making sure your pension lasts for the rest of your life. That can be a daunting prospect and your life expectancy should be directly linked to the level of income you take. There are two important things to keep in mind.

First, most people at retirement age underestimate how long they’ll live for. According to a report from the Institute of Fiscal Studies, those in their 50s and 60s underestimate their chances of reaching age 75 by around 20% and their chance of reaching 85 by 5-10%. It’s a mistake that could mean you run out of money during your later years.

Second, whilst looking at average life expectancy can be useful, you should keep in mind many people exceed this. Thousands of people celebrate their 100th birthday every year in the UK and it’s a trend that’s on the rise. Your financial plan should consider what will happen if you lived longer than average, as well as how to pass on wealth that remains.

If you want to discuss how Flexi-Access Drawdown may suit your retirement plans, please get in touch.

Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change in the future.

The value of your investment can go up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.

What to do if you think you’ll never retire

More people are paying into a pension than ever before. Yet, millions are still worried they’ll never be able to retire. If you have concerns about the retirement lifestyle you will be able to afford, there are often steps you can take to improve this.

First, the good news: the number of people saving enough for retirement has hit its highest ever level, according to Scottish Widows. Almost three in five Brits are deemed to be putting enough aside for retirement, calculated at 12% of an individual’s income. However, a worrying number expect they’ll never be able to afford to give up work. Around a fifth of people believe they won’t be financially secure enough to retire, equating to eight million individuals.

With fewer Defined Benefit (DB) schemes available, which offer a guaranteed income for life, individuals need to take more responsibility for their retirement finances. But the research indicates a large portion of the population don’t have confidence in the steps they’re taking.

Peter Glancy, Head of Policy at Scottish Widows, said: “While the past 15 years alone have proved that things have been changed for the better, auto-enrolment alone won’t avert a pension crisis in the UK. Government and industry need to take the next step together and also stop pretending the long-term savings challenge can be solved in isolation.”

6 things to do if you’re worried about pension savings

In recent years, the responsibility for creating a retirement income has shifted to individuals. The number of Defined Benefit (DB) pensions schemes has been falling. Also, Pension Freedoms mean retirees are now often responsible for how and when they access pension savings. As a result, it’s natural to have some concerns about how your retirement provisions will provide for you.

If you’re worried you won’t be able to afford retirement or are unsure of the lifestyle you’ll be able to enjoy, these six steps may help.

1. Assess your current savings

Whilst the Sottish Widows research highlights millions are worried about retirement, it doesn’t state how much these people have put away. It may be that some are in a better position than they believe, particularly when looking at the long term.

The first thing to do is look at the amount you have already saved. The majority of workers will have several pensions due to switching jobs; getting a current value for them all is important. This will give you a figure to assess whether or not you’re on track. Remember, most pensions are invested, and the value will hopefully grow between now and when you hope to retire. Providers will give you a projected value at traditional retirement age, however, this cannot be guaranteed.

2. Check contributions

Next, how much are you contributing to your pension? If you’ve been auto-enrolled into a pension by your employer, the minimum you contribute is currently 5% of qualifying earnings. However, you can choose to increase this. The end goal for pension savings can seem daunting, but it’s worth remembering your employer will also be contributing at least 3% and you’ll benefit from tax relief. These two incentives can significantly boost the amount you’re putting away.

With a baseline for how much you’re already putting away, you may want to consider increasing contributions. Even a small rise in how much you put away each month can have a big impact. When saving for life after work, a pension is often the most efficient way to save. Some employers will also increase their contributions in line with yours.

3. Don’t forget the State Pension

It’s not just your Personal and Workplace Pensions that will provide an income in retirement. For many, the State Pension will be the foundation. Once you’ve factored in how much you can expect to receive from the State Pension, the amount you need to take responsibility for can seem far less challenging.

The State Pension alone won’t usually provide you with enough to secure the retirement lifestyle you want. But it does provide a level of security and maybe enough to cover essential outgoings. How much you’ll receive will depend on your National Insurance record. To qualify for the full amount, paying out £8,767.20 annually in 2019/20, you’d need to have 35 qualifying years on your National Insurance record. You can check how much your State Pension is likely to be here.

4. Calculate other sources of income

Whilst pensions are the most common way to create an income in retirement, they’re not the only option. Other assets you’ve built up throughout your working life can also be used and may be important to your personal financial plan. Yet, when initially looking at how affordable retirement is, you may have missed these out.

Among the assets to consider are savings, investments and property. How these assets can be used in retirement will depend on your situation and goals, but it’s important they’re not overlooked. Even if you don’t intend to use them in retirement, knowing you have assets to fall back on if necessary, can give you the confidence needed to approach this important milestone.

5. Consider the costs of retirement

If you think you can’t afford to retire, what are you basing this on? If you’re looking at your current expenditure, you may be overestimating how much you need. Most people find their necessary income falls in retirement as some significant costs decrease. You may, for instance, no longer have a mortgage to pay or save each month on travel costs once you’re not commuting.

The cost of retirement is individual and is linked to your plans. Taking some time to figure out how much you need can help you identify if there is a shortfall or where adjustments can be made if needed. According to Which? research, the average retired household spends around £27,000 a year. This is made up of basic areas of expenditure (£17,800 annually) and some luxuries.

6. Speak to a financial adviser

We often find that people are in a better position than they think when they consider the above five factors. We’re here to help you pull together the different sources of income that can be used in retirement and understand how they’ll provide for you. Using cashflow modelling, we’ll be able to demonstrate how your current provisions will last throughout retirement and how changes to your saving habits will have an effect in the short, medium and long term. If you’re worried about financial security in retirement, please get in touch.

Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulations which are subject to change in the future.

Equity Release will reduce the value of your estate and can affect your eligibility for means-tested benefits.

How to make sure your pension lasts a lifetime

Thousands of retirees are shunning Annuities when they reach retirement age. Instead, they’re taking advantage of the opportunity to access their pension savings flexibly. It can be a fantastic way to match your income and lifestyle, but figures suggest many are withdrawing unsustainable amounts.

There are many benefits to taking your pension flexibly. However, you need to keep in mind that you’ll be in control of when withdrawals are made and at what point it may run out. If it’s an option you go with, ensuring sustainability and building an income stream that will last a lifetime is crucial.

How much are people withdrawing from their pension?

The latest figures from HM Revenue & Customs (HMRC) indicate the average pension withdrawal in the UK is £7,254 each year. That may not sound like a lot, but when you consider the average pension entering drawdown is between £80,000 and £123,000, it’s a sizeable chunk. This means the average retiree using Flexi-Access Drawdown is accessing their pension at a rate of between 6% and 9% annually, far higher than the recommended percentage.

Of course, the figures only give a snapshot of the state of pensions across the UK. For instance, retirees may be running down smaller pensions or know they have other sources of income or savings to fall back on. However, overall it suggests pensioners are taking too much too quickly out of their pensions.

What is a sustainable amount to withdraw from pensions?

The general rule of thumb that’s often cited in response to this question is 4% annually. But given increasing life expectancy, some people suggest it should be lower than this to ensure long-term sustainability.

In fact, research indicates that withdrawing 4% a year means there’s a 25% chance that a pension will be completely depleted within 30 years. It’s not uncommon for modern retirees to spend 30 or 40 years in retirement. If your pension was depleted and you had another ten years left to live, would you be able to cope financially? For this reason, it’s important to understand what’s sustainable for you, whilst balancing it with aspirations.

There’s another problem with the often mentioned 4% annually figure; it assumes retirement spending is static.

Retirement today is rarely linear. Depending on plans, there’s likely to be points where you’ll take more or less income to reflect lifestyle changes. Perhaps you’ll spend more in the first couple of years of retirement, fully enjoying the extra free time you have, before settling into a more relaxed lifestyle that requires a lower income. However, ten years down the line you may decide to provide financial support to family, book a once in a lifetime holiday or take up some form of work, changing the amount you need to take from a pension. As a result, defining a sustainable withdrawal level is often far more complex than it first appears.

Making your pension last a lifetime

Whilst calculating a sustainable level of income to withdraw from a pension can be difficult, it should be considered essential if you choose to use Flexi-Access Drawdown. So, what can you do?

  • Consider longevity: No one wants to think about dying, but life expectancy plays an important role in pension planning. Thinking about how long you’re likely to be in retirement for is a step in the right direction for making sure your pension lasts a lifetime. It’s worth noting here that many people in their 50s and 60s underestimate their life expectancy, potentially placing them in financial difficulty in their later years.
  • Think about your ideal lifestyle: As mentioned above, some retirees will see their required income rise and fall throughout their life. Having a rough idea of the lifestyle you want and whether it’s likely to change as the years go by can help you plan for these peaks and dips. Taking out more at certain points may be viable if you reduce income at other times.
  • Frequently review plans: Whilst the above is important, plans can and do change. What you want from retirement now may turn out to be vastly different from what you want in five years. For this reason, it’s essential to keep coming back to your withdrawals and value of pensions.
  • Maintain some investments: In the past, it was common to lower investment and risk as you entered retirement to reduce exposure to volatility. However, investing can be a way to deliver returns on a pension, increasing how much can sustainably be withdrawn. When you look at how long retirement will last, it’s likely you can take a long-term investment approach with at least some of your pension savings. Of course, investing needs to be weighed up with other areas of finances, as well as overall attitude to risk.
  • Plan for scenarios out of your control: The unexpected can still happen in retirement. What would you do if investment volatility meant pension values dipped in the short term? How would you pay for an unexpected, large bill? Could you cover the cost of care? Building some leeway into your financial plan and withdrawal levels to cover the unexpected can make your strategy more sustainable.
  • Work with a financial adviser: It can be hard to understand how your wealth will change over time, and numbers on a page can offer little context. Working with a financial adviser to discuss your initial retirement plans and reviewing regularly can provide you with a plan you have confidence in. Tools like cashflow planning can also help you visualise how different withdrawal rates will have an impact.

As you approach retirement, it can seem like there are many complicated decisions to be made, not least how much to withdraw from your pension. We’re here to offer you guidance and support as you plan your retirement finances in a way that suits your aspirations, priorities and lifestyle.

Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation, which are subject to change in the future.