Since the introduction of the so called ‘Pension Freedoms’ in 2015 pension drawdowns have become the preferred method of accessing pension investments for many people.
A pension drawdown arrangement allows you to access your pension in a more flexible manner than purchasing a set income for the remainder of your life which is what a lifetime pension annuity does. Pension providers have launched flexible drawdown products with lots of different features, benefits and options but however they are marketed they will fall into one of two categories
Where the return from your pension investment is set at the outset and you know exactly how much you will receive over a pre-determined period of time. These products permit you to access your Tax Free Lump Sum which is normally up to 25% of the total pension investment and draw whatever income is required from the remainder or leave it for a set period of time (usually a minimum of 3 years) with the certainty of knowing exactly what the return is by the level of income provided or the guaranteed maturity value if the money is left alone.
These types of arrangements are suitable for people who want the certainty of knowing exactly what their pension investment will return regardless of stock market conditions or life expectancy and suit the more cautious investor.
Where the return from your investment is not guaranteed and there is a degree of investment risk. These products also permit you to access your Tax Free Lump Sum and either draw income from the remainder or leave it for a period of time but with no certainty as to what return will be achieved.
These types of arrangements are suitable for people who prefer to apply a degree of risk to their investment. Because of the inherently complex nature of risk and reward and the danger that pension money can be lost we recommend that Independent Financial Advice be taken by anyone wishing to invest in a Non-Guaranteed Drawdown arrangement.
There are certain rules which apply to whichever method of pension drawdown is selected, the basic one’s are:
- Normally up to 25% of the initial investment can be taken as a tax free lump sum.
- Income drawn after any tax free lump sum has been paid is treated as ‘Earned Income’ and subject to income tax and paid under normal PAYE rules with tax deducted at source. This applies whenever the money is taken.
- Any death benefit is paid free of tax if the plan owner dies before age 75.
- Any death benefit is subject to tax (currently 55%) if the plan owner dies after age 75.
- When taxable income is drawn after any tax free lump sum has been paid the amount that the plan owner is allowed to invest into a new pension investment reduces to £4,000 per annum.