The key factors that determine your income in retirement are: when you retire; the level of tax-free cash you take; and how you access your defined contribution pots – in other words, do you stay invested and draw an income from your funds, or buy an annuity. There are some important levers available to you in planning your income for retirement – though bear in mind there is unlikely to be one best solution. Generally speaking, the two main options you have to increase the level of income you receive at the point of retirement are either to defer taking the income to a later date or reduce the level of your tax-free lump sum.
Tax-free lump sums: If you do not need all of this lump sum then it usually works out better for you in the longer term to reduce the level of tax-free lump sum from your defined benefit pension and take a higher income, albeit that income will be subject to income tax rules.
Your state pension and defined benefit pensions: There are strong protections in place to protect the level of income from these two arrangements and generally they will keep pace with inflation. If we use the PLSA retirement income standards explained above, your full state pension which is currently worth £10,600 a year and defined benefit pension of £4,000 a year will together provide an income which is likely enough to cover your minimum income needs. You could consider deferring this income if you are willing and able to work a little longer or have other assets you could use for spending in the meantime, and you are in good health so likely to see the financial benefit. The current state pension rules increase the income by 5.8 per cent each year you delay which means that if you deferred your state pension income for one year until you are 67 then the income would commence at £11,214 per annum. There could be a similar option on your defined benefit pension, and these are often more generously revalued than the state pension.
Your defined contribution pot: From a £100,000 pot, you would be able to take £25,000 of that as a tax-free lump sum if you wish to do so. You do not have to take this all in one go unless you need the money and could, for example, take £8,333 for each of the first 3 years to top up your income in a tax efficient manner. No investment growth is assumed during this period to keep the example clear. By adding this to your income from your state and defined benefit pension, you could receive £22,933 a year in the first three years. This figure is very close to the moderate-income standard above. In this scenario you would have a £75,000 pot left over which you could keep invested in an income drawdown arrangement or buy an annuity with from age 69.
The options above are not the only ones available to you. There are a wide range of alternative plans to meet your spending needs in retirement, and if you are unsure, you can contact us here to tailor a solution to your individual circumstances. For instance, someone with a particularly large debt burden may wish to take more tax-free cash to pay this off. You should also consider any additional assets you may have, such as a home that could be used to fund retirement through equity release, and the retirement income of a spouse.