The options for income in retirement depend on whether you are dependent on State pensions, where they are nil, to that fixed by the employer in defined benefit schemes in terms of final salary, or in private schemes, mainly defined contribution, where you have some choice.
The majority of private schemes, and some others, depend on annuities issued by Insurance Companies who in exchange for your funds, guarantee to pay you an agreed amount until you die and is the most favoured choice. This is a form of co-operative where the survivors benefit from the death of other members, However if you are unfortunate to die early, then your fund disappears before you receive any real benefit.
You can specify a dependent, usually your partner, to receive all or part of the agreed pension amount upon your death and you can also specify a guaranteed period, usually 5 or 10 years for which payments are made. In practice this is well worth doing and the reduction in pension are usually not large.
Recently other options have become available; fixed term annuities are now available where the annuity is paid for a number of years and then renewed for a further period. The annuity amount and the surviving fund amount are agreed at the outset and at renewal, you can renegotiate or withdraw the residual fund and put it elsewhere, or if you die, to your estate. This sounds great but probably rates offered will be poor.
Drawdown is another option, but is only possible with funds of £50,000 or more, usually higher. It has to be agreed and reviewed annually with the Revenue, to ensure funds don’t run out; so setting up and running costs are high. You can delay taking an annuity until 75, with talk of increasing this age, and just take the investment income from the fund.
One of the main problems at present is that annuity rates are at their lowest rate ever and investment returns are uncertain. So the golden rule, like everything else today, is shop around, do not accept the first offer made by your insurance provider, get other quotes, go back and negotiate or argue for a better rate and check the timing.
Annuity rates vary almost weekly and so may your Fund value, therefore check what is happening; your best quote offer may be prepared to find the best time to cash in, especially if the fund is large and you could possibly manage on fund income short term.
Do not hesitate to ask for different quotes; 5 and 10 year guarantee term; with and without partner; level annuity or increasing to meet inflation at 2.5 or 5%; with and without Tax free lump sum, etc. ; ask for advice. You should also explore enhanced annuity due to medical conditions, which can increase values by as much as 20%. Also remember that the rate is based on the longest living partner.
Annuity rates are poor, ranging from 3.5 to 4.0% for an inflation proofed one up to 6% for a single level annuity and this is one of the main reasons pension performance is low. Increased life expectancy and poor Gilt returns are given as the main reasons, yet if one does the calculations on population and fund decline, one finds that even on latest population projections, a 4% investment return will sustain an annuity of 6% inflation proofed at 2.5%.
Insurance Companies appear to ignore the fact that funds have earning potential. At a straight drawdown of 6%, the fund alone will last almost 17 years, add a 4% income and this increases to over 25 years; include population decline even at a slower rate and you are moving close to a hundred and almost past caring, if alive.
An increase of 2% from 4 to 6%, increases the pension income by 50%, or reduces contributions required by the same amount. The tax free lump sum, although attractive increases contributions by a third and this money could give a better return if used to reduce debts or mortgage.
In any event, it is not a good idea to depend on this bonus to clear outstanding debts at retirement; it is more prudent to manage if possible this reduction from 50 or 55 on, leaving this as a contingency amount for location or other costs or investment. A good area at present is the Feedback tariff on renewable, especially solar, which can give an 8 to 10 % return guaranteed for 25 years, plus the free energy generated.
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