Why is my projected pension income so low?
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I am retiring later this year so have started to look at what my pension company is offering. I have a valuation from last year that says I have £475,000 in my fund but the income I might get is much lower than I thought. Why is the estimate so low?
Jeremy Woodruff of Smith & Pinching responds:
The documentation produced by many pension providers causes confusion and concern for many people. The problem is that they use assumptions that may not be appropriate for your circumstances.
There are two principal routes you might take for your pension income. The traditional route in the past was to use your pension fund to purchase an annuity – an income for life. Typically, pension statements will use annuity rates to project pension income. Annuities still have their place for some retirees, as they give a guaranteed income and are not subject to the vagaries of financial markets. The trouble with annuities is that they are a one-off purchase and the risks of ongoing investment of your money are therefore with the annuity provider and this is reflected in the income rate you are offered.
The second route is to use flexible drawdown – the more popular choice these days. It involves putting your pension savings into an investment plan and taking withdrawals direct from the plan for your income, leaving the rest invested. Importantly, you can take different levels of income at different times in your retirement.
Drawdown allows your fund to continue to benefit from investment growth, but it also leaves it vulnerable to falls in value when markets are turbulent, and you could potentially deplete your fund down to zero, particularly if you live a very long life and/or markets perform lower than expected. Income projections using drawdown tend to be significantly higher than those for annuities.
Another question to answer before you start to take your retirement income is whether or not you wish to take a tax-free lump sum from your fund before arranging your income. You can take up to 25pc of the fund in this way – either all at once or in stages with a gradual transfer into drawdown. Your pension company’s valuation may make assumptions about the amount of cash you wish to take at the outset.
The right combination of tax-free cash and income for your specific requirements is a complex calculation and I strongly recommend that you take independent financial advice from a Chartered Financial Planner at this critical point in your life.
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Any opinions expressed in this article do not constitute advice. A pension is a long-term investment. The fund value may fluctuate and can go down. Your eventual income may depend on the size of the fund at retirement, future interest rates, tax legislation and on the individual circumstances of each investor.
For more information, please visit www.smith-pinching.co.uk