If you’re like most Britons, you’ve spent years quietly working away and contributing to your pension pot on the basis that, when you finally retire, you can do what everyone else does. As Danny Knight explains, you couldn’t be more wrong.

Once upon a time, retiring was easy. Britons basically worked throughout their adult lives and contributed to either a company pension scheme or a private one. If they were lucky, their company would also make contributions and, if they were really lucky, their company might even offer them a hugely generous type of scheme called a defined benefit (DB) pension.

However, the great majority of us simply made contributions to a pot and when we reached retirement, we ticked a box and took a lump of the pension tax free and the rest went to buy an annuity. More often than not, Britons wouldn’t even shop around for their annuity – they’d literally just take the first one they were offered. So your pension pot basically disappeared once you reached retirement.

It was a simpler time that’s for sure, but then real life reared its ugly head and, in 2015, every aspect of retirement planning in this country changed forever.

Fairy-tale ending

Today, there are no more ‘tick box’ options for those retiring in this country: annuities have gone from being the standard vanilla product that suited all-comers to being a breathtakingly expensive option suited to a small minority or just to a small proportion of the average retirement plan.

Meanwhile, far from disappearing in a puff of smoke when you enter retirement, your pension pot is now something that you need to nurture for the rest of your days. If you do a good job on this, it’s also something that you can now pass on to your loved ones when you finally cash in your chips.

Crash, bang, wallop

Although annuities had been quietly dawdling toward obscurity for decades, it was the global financial crisis of 2008 that changed everything. To rescue financial markets, central banks around the world were forced to cut interest rates to all-time lows and to pump trillions into markets in the form of quantitative easing.

These unprecedented measures helped to deliver a quick recovery and have underpinned rising stock markets ever since. However, because annuities are linked to interest rates, reducing them to record lows effectively killed off the annuity once and for all.

In recognition of this and the danger it presented to retiring Britons, the government introduced a whole tranche of new ‘pension freedoms’ in 2015 which Britain’s Chancellor of the day, George Osborne, described, without hyperbole, as “the most radical change to how people can access their pension in almost a century.”

They introduced a host of new options and greatly increased the flexibility with which Britons could access their pension pots. Most importantly, they finally removed the requirement to buy an annuity by age 75 which, whether they recognised it or not, transformed the average British retiree into a portfolio manager.

The value of investments and the income they produce can fall as well as rise. You may get back less than you invested.

Pension freedoms: The big changes Since the advent of the pension freedoms:

– Anyone over the age of 55 can access their pension pot as they wish – regardless of their total pension wealth;
– As previously, up to 25% of a pension pot can be drawn tax free, but retirees can now also choose to cash in their whole pot (subject to the tax rules);
– What was known as ‘income drawdown’ – namely choosing to take an income from your pot rather than buying an annuity – has been called ‘flexi-access’ drawdown;

– There are now three main ways in which to access your pension

  1. Take your whole pot with the first 25% tax free and the remainder taxed at
    your highest marginal rate;
  2. Take smaller lump sums at convenient intervals with 25% of each tax free and the remainder taxed as income;
  3. Take up to 25% tax free and use the remainder to generate a regular taxable
    income, through flexi-access drawdown or an annuity while still saving up to
    £4,000 a year into your pension plan (even after you start to draw the benefits).

A problem with wood and trees

Importantly, the new regime also made a whole laundry list of changes to other areas, including contribution levels, and they abolished the ‘death tax’ on pension assets – making the pension wrapper one of the most tax-efficient ways in which to pass on pension wealth to your beneficiaries (because
pensions have always been free of inheritance tax).

For those hoping for a quiet, carefree retirement this is a lot to take on. Unless you have a background
in actuarial science or investment management, the very best thing you can do as you approach retirement is to seek out a professional adviser who can take you through all the relevant considerations and create a flexible, robust solution that can adjust to your changing needs in retirement and which complements your other investments, whatever they might be.

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