I recently read an article in the financial press that said that the UK pension market was now worth more than £2.5 trillion. That’s an extraordinary figure. For comparison, the total Gross Domestic Product (GDP) of the UK, pre-Covid, was only £2.17 trillion.
Given the size of the market, and that nearly everyone in the UK has a stake in it, it’s understandable that there’s an absolute abundance of media outlets giving advice about how you should manage your income once you’ve retired.
Much of the advice is sensible, but I do see some howlers that could create financial problems for anyone following them.
Here are five common myths about retirement, and why you shouldn’t believe them.
1. Your retirement age is the age you get your State Pension
For our parents, it probably was the case that they retired at the same time they reached their State Pension Age (SPA).
Final salary schemes were based on a stated retirement age that equated to your SPA – 65 for men and 60 for women. Personal pension arrangements were also written to a specified retirement age.
Things started to change after the 1995 Pension Act started the process of equalising the State Pension Age. Then, subsequent legislation made it possible to start drawing from your pension fund at age 50 – subsequently increased to age 55 (and age 57 from April 2028).
Finally, Pension Freedoms, introduced in 2015, added a further layer of flexibility to retirement planning, meaning your retirement can be a far more fluid concept.
Your SPA can still be a handy milestone when it comes to your retirement income planning, but it doesn’t have to be your retirement age. It’s worth checking when you’ll receive your State Pension as it provides a handy guaranteed income that you should consider as part of your wider retirement income planning process.
2. Retirement means stopping work
A study, last updated in June 2020, shows that 15% of the UK workforce are over 70. Clearly, some people are in the position of having to continue working for one reason or another. But many people happily work beyond their normal retirement age.
After all, if you enjoy working and it contributes positively to your quality of life, why stop?
Working keeps you active – both mentally and physically – and can provide a source of social interaction that some people don’t have at home. Additionally, many employers value the experience and know-how that older people can provide.
By continuing to work while starting to take money from your pension fund, you can create a flexible situation where you “phase” your retirement. You may find this preferable to abruptly stopping work one day and starting your retirement the next.
However, bear in mind that if you do start drawing income from your pension fund, you’re limited in the amount you can continue saving into a pension by the Money Purchase Annual Allowance (MPAA) – in the 2021/22 tax year, it is £4,000.
To fill any potential savings shortfall, you can make contributions to other tax-efficient savings products such as ISAs. Also remember that even if your spouse or partner isn’t working, they can still contribute up to £3,600 gross to a pension arrangement with the same tax advantages as if they were earning.
3. You should stop paying into a pension when you retire
It’s perfectly understandable to believe that once you stop work, you should stop making contributions into your pension fund.
However, given that they are an incredibly tax-efficient way to save, it’s often a very good idea to continue contributing into a pension arrangement. You can do this up to age 75.
As a basic-rate taxpayer, every £100 contribution to your pension only costs you £80. That equates to 25% growth on day one, without you having to do anything. If you’re a higher- or additional-rate taxpayer, you benefit from even greater tax relief.
Then, when you come to start taking money from the fund, you can take 25% tax-free.
Yes, you’ll pay tax on the rest, but a simple “back of an envelope” calculation shows that the tax-relief makes this an advantageous way to save money.
As we’ve said previously in this article, your contributions will be limited by the MPAA to £4,000 but, given the tax advantages, it’s still worth considering paying into a pension to top-up your retirement fund if you’re able to.
You should note that pension contributions after you retire should come from your pension income – or any other income you may have – and not from your tax-free lump sum.
4. You should follow the “4% rule” for retirement income
When it comes to drawing income from your pension fund after you’ve retired, it’s very likely that you’ve heard about the “4% rule”.
This states that you should withdraw no more than 4% of your fund at outset and adjust that amount for inflation for each year. By doing that, history suggests that you shouldn’t run out of money in your retirement.
It sounds great in theory, and it may work for some in practice. But there’s no one right answer for everyone.
Managing your income in retirement should be far more fluid than that because it’s likely, if not absolutely certain, that your circumstances will change during your retirement years.
For example, you may well find that your outgoings are higher immediately after you retire as you are still very active and look to tick things off your bucket list. Your income requirements then start to fall as you become less active, with a possible increase later as you may need access to long-term care.
Additionally, you may need access to lump sums of money for various reasons, such as helping a child or grandchild onto the housing ladder or paying for renovations to your property.
Rather than stick rigidly to a “rule”, it’s much better to take a more flexible attitude and regularly review your fund and income strategy to ensure you can meet your needs.
5. You should switch to low-risk investments when you retire
It’s perfectly understandable to become ultra-cautious about your investments after you retire. And it’s easy to see why the idea of sudden market volatility having an adverse impact on your retirement fund can be worrying.
However, low-risk investment generally means lower returns, which could have just as big an impact on your income in retirement as a sudden downturn.
You also need to consider how long your fund will need to last.
According to the Office for National Statistics, a 66-year-old man has an average life expectancy of 85 years and a woman the same age has a life expectancy of 87. Furthermore, there’s a 25% chance of that man celebrating his 92nd birthday and the woman her 94th.
By taking too little risk, you could find yourself not having enough income to live the life you want. You may also find that any growth on your investments is outstripped by inflation – which can be a bigger risk to your income in retirement than market volatility.
Not all your pension fund will be invested the same way. It’s likely that some may well be in low-risk investments, but it can make sense to retain some risk elsewhere.
The key is to review your investment strategy regularly to ensure you’re on track. This will enable you to make any required changes.
Get in touch
To find out about planning your retirement, and ignoring pension myths, please give me a call on 07769 156 250.
A pension is a long term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Pension income could also be affected by interest rates at the time benefits are taken.
The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Investments should be considered over the longer term and should fit in with your overall attitude to risk and financial circumstances.
Accessing pension benefits early may impact on levels of retirement income and your entitlement to certain means tested benefits.
Accessing pension benefits is not suitable for everyone. You should seek advice to understand your options at retirement
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