There are many things to consider before accessing a pension. Jonathan Watts-Lay, Director, WEALTH at work, has outlined the top 5 things employees should know.
Our research with the Pensions Management Institute indicates that Trustees have taxation fears for their pension scheme member’s at retirement, with eight out of ten (81%) believing that members are not equipped to deal with the taxation implications of accessing their pension.
This is not surprising when we consider research from the Pension Policy Institute (PPI) Evolving Landscape report which highlighted that 200 times more in tax can be paid, depending on the way individuals decide to take money from their pension. Ultimately, tax planning should be at the heart of any pension transaction or many could find themselves paying more tax than they need to.
2. All assets should be considered
When looking for sources of income, many individuals don’t realise that they could be better off looking at other taxable savings and investments first, rather than the tax-free environment of their pension. Also, if they take money out of their defined contribution (DC) pension whilst they are still working, they may fall foul of the Money Purchase Annual Allowance (MPAA). Triggering the MPAA will mean they will only get tax relief on the first £4,000 of pension contributions. Any contributions made above this limit will be subject to income tax, making it very difficult for individuals to rebuild their pension pot.
Before accessing their retirement savings, individuals will need to think about if they will have enough money to last the duration of their retirement. A 65 year old female’s average life expectancy is 87 years, whilst a 65 year old male’s life expectancy is 85 years. However, research has found that most people live longer than they expect. For example, The Institute for Fiscal Studies found that those in their 50s and 60s underestimate their chances of survival to age 75 by around 20%, and to 85 by around 5% to 10%. It’s no easy task working out how long retirement saving will need to last and how to best achieve this, so support around this will be crucial.
4. Risks surrounding defined benefit transfers
Since the pension changes, we have seen a rise in individuals wanting to transfer their defined benefit (DB) pension schemes into DC pensions to access their savings. The sums involved are reaching new highs – in July average DB transfer values reached a record high of £261,500. In total £32bn was transferred out of DB schemes into DC funds throughout 2019 and £127bn in the last five years.
However, pension transfers are complex – there are many things to consider before making any decisions, including whether the transfer amount represents good value and the associated risks of managing the DC pension savings and retirement income.
Although regulated financial advice must be sought for DB pension transfers valued at £30,000 or above, the FCA has warned that pension transfer advice is often substandard. Less than half of the transfer recommendations reviewed by the FCA in 2018 were considered right for the customer.
Rather than leaving individuals to go it alone when sourcing DB transfer advisers, many employers and Trustees are now facilitating employee and member access to reputable advisory firms that have appropriate qualifications, an exemplary regulatory record and transparent and fair pricing.
5. Pension scams
Scams have been on the rise following the coronavirus outbreak. In July, Action Fraud reported that over £11.3m had been lost to coronavirus-related scams, with it previously stating that pension scams had been among the most common type of fraud during the crisis. More needs to be done to highlight these risks and how they can be avoided.
Jonathan Watts-Lay, Director, WEALTH at work, comments;
“As we can see, there are many considerations to avoid common pitfalls and risks surrounding pension withdrawals. These are especially prevalent during the current climate when the temptation to make rash decisions could prove irresistible for some.”
He adds; “Ultimately employers and Trustees have a key role in stepping up and ensuring employees and members make informed choices when accessing their pension. Many are now seeing the benefits of putting robust processes in place including facilitating access to financial education, one-to-one financial guidance, and an introduction to a regulated financial advice firm which has been through a thorough due diligence process. This approach should ensure an improved process, leading to better outcomes for all.”