Income Drawdown

We strongly recommend that you seek independent financial advice if you are considering income drawdown. We also recommend that as a general rule of thumb that you do not consider income drawdown if your available funds amount to less than £100,000 after taking any lump sum.

Income Drawdown Research.

To allow you to find out whether income drawdown is right for you we have given an overview of the arguments for and against. In addition you will find a number of useful links to allow you to further your research.

Income drawdown or pension fund withdrawal is an alternative to purchasing an annuity

There is an alternative to buying an annuity immediately when you wish to start drawing income from your pension fund. You can delay purchasing the annuity until age 75 at the latest. Until then you take an income directly from your pension fund. This is called income withdrawal or income drawdown.

You can choose to take a tax-free lump directly from your pension fund, this must be before you start to draw an income from the fund. The remaining income you draw out is taxable.

Income drawdown can be used with some personal pensions and some employer's schemes. Some employer's schemes will require you to firstly transfer your pension rights to a personal pension. There is normally a charge for this.

It is important to note that with income drawdown there is extra cost and extra risk involved compared with buying an annuity straight away. Because the bulk of your savings remains invested in the stockmarket growth is not guaranteed, and the value of you pension fund could go down as well as up. For this reason, it is normally only suitable if you have a pension fund of over £100,000, after withdrawing any lump sum, or you have other assets or sources of income.

If you feel you understand and accept the risks, there are a number of reasons for considering income drawdown.

• You may wish to vary the amount of income you take from your pension fund. Maybe you need a cash lump sum, but you have little or no requirement for an income at the time.
• You may wish to leave the bulk of the pension fund to your heirs in case of you dying before you reach 75. This sum would be taxable.
• You feel you can get a better return on investing your pension fund yourself than with putting it into an annuity. This would normally mean share-based investments, and you would need to accept the usual risk of stockmarket investments
• You feel that the current annuity rates do not give good value. But please note that future annuity rates could fall.

Other important features

Another important feature to note about income drawdown is that the Inland Revenue limits the maximum and minimum income that you may withdraw from your pension fund. The maximum is roughly 120% of a level annuity for a single person, although like annuity rates this can change. There is no minimum amount you have to withdraw.

Your income drawdown plan must be reviewed by your investment company every five years. This is to ensure that you remain within the maximum limits. You may be forced to take a cut in your income if you are drawing the maximum.

It is recommended that you review your income every year, as well as your planned decision on when to make the final annuity purchase.

You may wish to combine a phased retirement plan with an income drawdown plan. This allows you to draw an income from part of your pension fund on one date leaving the rest of the fund intact. You can increase the amount you withdraw, so long as you stay within the set minimum and maximum limits, or start to draw an income from another part of your pension fund. This option can be very complicated, and we advise you to take professional advice and speak to an independent financial adviser.

If you choose to withdraw a large portion of your investment fund, and investment returns are low, you may use up too much of your pension fund, so that when you come to buy an annuity, you can only afford a small income for the rest of your retirement.

A brief example

Tony retires at 55 years of age. He will have £300,000 left in his pension fund after withdrawing a tax-free lump sum. As he feels annuity rates are fairly low for someone of his age, he is considering income drawdown. His financial adviser calculates that the maximum he can withdraw is £21,000 per year. This amount applys for five years, when it is recalculated, and will probably change.

It always pays to take advice if you want to know more about the benefits of each individual plan.

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