Advantages
The following are a number of advantages of pension drawdown that highlight the benefits of deferring taking a pension annuity until later:
An individual will be able to take a tax free cash lump sum immediately from their income drawdown plan to spend or invest as they wish. This option is not available through the phased retirement option but is available through annuities and open market option.
The level of income which may be withdrawn can be varied from a minimum of 0% to a maximum income of 150% based on a comparable annuity using the GAD tables.
Subject to the above limits, the individual will be able to plan in advance the level of income that they wish to take each year from income drawdown, so that they can take into account any other sources of income which may be available to them.
The pension fund value (less any income withdrawn and associated charges) will continue to be invested until the individual decides to purchase an annuity. Depending upon investment returns, which can fall as well as rise and are not guaranteed, this may provide the opportunity to achieve sufficient growth to improve the ultimate benefits when the individual decides the time is right to purchase annuities.
The individual can structure their income to mitigate the liability to personal Income Tax. By reducing their income in some years, they may be able to avoid higher rate tax liability.
If the individual thinks the rates will improve they can delay purchasing annuities with no upper age limit.
The individual may be able to use a pension fund withdrawal as part of their Inheritance Tax planning by using varying levels of income, within prescribed limits, and using all or part of the income to make gifts to take advantage of annual exemptions.
On the death of the member the remaining vested pension fund can be returned to the individual’s beneficiaries and remain in pension drawdown, free from Inheritance Tax and Income Tax.
Potential death benefits may be greater than under the conventional annuities route.
Before making a decision regarding pension drawdown learn more about pension annuities, compare annuity rates, and secure a personalised annuity quote offering guaranteed rates.
Disadvantages
The following are a number of disadvantages of pension drawdown that highlight the benefits for taking a pension annuity earlier:
Charges within an income drawdown plan are higher than conventional pension annuities due to the requirement for regular reviews and investment advice to ensure the pension fund does not run out of money.
Death benefits payable as a lump sum that are not paid to the individual’s spouse may be liable to Inheritance Tax.
The value of the pension fund may go down as well as up and poor investment performance could result in the individual not having a sufficient fund available to purchase annuities equivalent to the amount they would have received at outset.
There is no guarantee that annuity rates will improve in the future. They could be lower when the individual decides to purchase their pension annuity than the current rates. The eventual pension may be lower than if the individual had bought a pension annuity at outset.
High withdrawals may erode the value of the pension fund, if investment returns are not sufficient to make up the balance this may reduce the amount of any potential pension annuity.
Due to the effect of mortality drag the value of the pension fund may not achieve the required level of growth to maintain income levels at the same level to those achieved through the purchase of a pension annuity purchased at outset.
There is no guarantee that the individuals income will be as high as that offered under the pension annuity (or compulsory purchase annuity).
Drawdown suitability
The following are a number of reasons why an individual would consider income drawdown rather than to purchase a pension annuity:
Income drawdown could be attractive if an individual wishes to access the tax free lump sum but does not require a pension income, possibly because they continue to receive an income from employment.
If an individual has alternative secure income such as a final salary pension and can afford to experience fluctuations in the income level from pension drawdown.
If an individual is willing to accept a higher risk from pension drawdown over a longer period of time to benefit from continued investment growth, possibly because they have other significant assets and investments.
If an individual’s existing pension scheme requires a spouses pension as part of the retirement benefit but the member is single, pension drawdown could be one option to consider. If an individual is in poor health, income drawdown can be considered in addition to impaired health annuities to provide a pension income.
Capped Drawdown is no longer available, and any client who is in one will automatically come under the new Flexi Access Drawdown rules with effect from 6th April 2015.