Tax treatment depends on your circumstances and is subject to change
Pension drawdown
Everything you need to know
Pension drawdown allows you to take money from your pension while keeping it invested. This gives you flexibility in how you access your retirement savings. With pension drawdown, you can take lump sums or set up a regular income, while the rest remains invested.
Pension drawdown has become an increasingly popular option since the Pension Freedoms legislation was introduced in 2015.
Here is a detailed guide covering everything you need to know about pension drawdown.
What is pension drawdown?
Pension drawdown, also known as flexi-access drawdown, gives you the flexibility to withdraw your pension savings while keeping the rest of your pot invested, giving it the potential to continue growing.
With pension drawdown:
You can take as much or as little from your pot as you want from age 55 onwards. There are no limits or caps.
You can take lump sums or set up a regular income.
Any money left in your pot remains invested so it has the potential to grow.
You keep ownership and control of your pension savings.
You can pass on any unused funds to beneficiaries when you die.
Pension drawdown differs from buying an annuity, where you surrender your pension pot in exchange for a guaranteed income for life. With drawdown, your savings stay invested. Drawdown offers flexibility but it also means that your income isn't guaranteed. Your pension pot could fall in value if investments perform poorly.
Withdrawing pension money early is not right for everyone as it will leave you worse off in retirement. That’s why it makes sense to get help from a regulated financial adviser before making any decisions.
Withdrawing pension money early is not right for everyone as it will leave you worse off in retirement. That’s why it makes sense to get help from a regulated financial adviser before making any decisions.
Am I eligible for pension drawdown?
To use pension drawdown, you need to have a defined contribution pension. With these pension types, your pot builds up from contributions and investment growth. This includes:
Personal and stakeholder pensions
Self-Invested Personal Pensions (SIPPs)
Most workplace pensions
You can't normally use drawdown if you have a final salary pension (also known as defined benefit schemes). These schemes promise you a guaranteed income based on your salary and years of service.
However, you may be able to transfer your defined benefit pension to a defined contribution scheme and access drawdown that way. Generally, this is not the best option because of the valuable guarantees you will be giving up. Get regulated financial advice before making any final decisions.
You can't normally use drawdown if you have a final salary pension (also known as defined benefit schemes). These schemes promise you a guaranteed income based on your salary and years of service.
However, you may be able to transfer your defined benefit pension to a defined contribution scheme and access drawdown that way. Generally, this is not the best option because of the valuable guarantees you will be giving up. Get regulated financial advice before making any final decisions.
The earliest you can access pension drawdown is age 55 (rising to 57 in 2028). To use drawdown with a workplace pension, check the scheme's rules as some have a higher minimum age. Certain public sector schemes don't allow pension drawdown, like the NHS, teachers, civil service, and police pensions.
How does pension drawdown work?
You can take sums as and when you want with no limits. Withdrawals above your 25% tax-free cash allowance count as taxable income.
Contact your pension provider to set up drawdown. You may need to transfer pots or move investments first.
You can take up to 25% of your pension tax-free as a lump sum if you haven't already.
Any money left in your pot remains invested, giving it the potential to grow. Review investments regularly as you approach retirement.
Your provider deducts income tax from drawdown withdrawals before paying them to you, using PAYE. You may need to complete a self-assessment tax return.
Check if your drawdown strategy is on track or whether you need to make changes. A financial adviser can help with reviews.
With pension drawdown, it's important your pot maintains growth potential while also being managed to account for risks as you make withdrawals. This is where financial advice can prove invaluable.
What is an annuity?
An annuity is an insurance product. You can buy an annuity with some or all of your pension pot in exchange for a guaranteed income either for life, or for an agreed number of years. The differences are:
Lifetime annuity - exchanging your pension pot for a guaranteed income for life.
Fixed-term annuity - exchanging your pension for a guaranteed income for a period of time. At the end of the term you are provided with a maturity value (a guaranteed amount that is agreed when you take out the annuity), to bring your pension fund back under your control.
An annuity is not right for everyone, and the amount of income you receive will depend on the provider you choose. It is important to get regulated financial advice to see what options are best for you.
Pension drawdown vs annuities
Pension drawdown and annuities are the two main ways to access defined contribution pensions. But there are clear differences:
Drawdown
Drawdown allows flexible access
With drawdown your income isn't guaranteed.
Your pension pot could fall in value with drawdown. Equally, during periods of strong stock market returns, the value of your pension should rise.
Any unused drawdown funds can be passed on.
Drawdown has ongoing investment fees.
Drawdown needs more planning and management than annuities.
Annuities
Annuities provide a fixed income.
Annuities pay you a regular guaranteed income for life.
Annuities transfer risk to the insurer. If you sell your pension to buy an annuity, the rate of your income is fixed regardless of how well markets perform.
Annuities typically have limited death benefits.
Some annuities have set-up costs.
Annuities do not often require as much planning and management as with drawdown.
While drawdown offers more flexibility, annuities provide a secure income. Consider your income needs, life expectancy, health, and attitude to risk when deciding.
Many people use a combined strategy, securing some income with an annuity while keeping the rest in drawdown. Financial advice can help identify the right mix.
Tax-free cash and pension drawdown
A key feature of pension drawdown is the ability to take up to 25% of your pot as a tax-free lump sum from age 55.
If you have multiple pensions, the 25% tax-free cash allowance applies to each pot individually. So you could take 25% tax-free from one pot and withdraw the rest via drawdown.
Taking all your tax-free cash at once reduces your remaining pension pot size. This cuts future investment growth potential. It may be more tax efficient to take tax-free cash in chunks over time.
Some final salary pensions allow you to take tax-free cash in exchange for a lower income. Get advice before doing this as you'd be losing valuable guarantees.
While tax-free cash can be appealing, remember that pension savings are intended for retirement income. Taking too much too soon can leave you short later on.
Tax and pension drawdown
It's important to understand how tax applies to pension drawdown:
25% tax-free - as long as you have an eligible scheme, you can take 25% of your pension tax-free from age 55.
Taxable withdrawals - any other drawdown withdrawals count as taxable income. These get taxed at your marginal income tax rate.
PAYE - generally, income tax on drawdown gets deducted before you receive payments, using PAYE. Higher rate taxpayers may need to reclaim overpaid tax.
Annual allowance - your annual allowance refers to the maximum amount that you can save into your pension pot for the tax year. The current allowance is £60,000 (2023/24) or your total annual salary, whichever is lower. Contributions over this don't qualify for tax relief. Taking money from your pension could trigger the Money Purchase Annual Allowance.
Money purchase annual allowance (MPAA) - once you withdraw more than your 25% tax-free lump sum from your pension, the Money Purchase Annual Allowance kicks in. This restricts the amount you can contribute to your pension each year and still receive tax relief to £10,000.
Self-assessment - HMRC may ask you to complete a self-assessment return if you flexibly access a pension.
A financial adviser can ensure you withdraw money tax-efficiently and avoid potential pitfalls.
Death benefits and pension drawdown
A key benefit of pension drawdown over annuities is that any unused funds can be passed on when you die. Beneficiaries can then take the money tax-efficiently:
Tax-free inheritance - pension savings aren't normally liable for inheritance tax when you die.
Pre-75 - beneficiaries can take withdrawals completely tax free if you die aged under 75.
Taxed post-75 - if you die aged 75 or over, withdrawals are taxed at the beneficiary's marginal income tax rate.
Flexible access - beneficiaries can take withdrawals or income at any time or leave the pension invested tax free for inheritance.
Two-year limit - death benefits must normally be claimed within two years of notifying the provider.
To pass on your pension tax efficiently, you should nominate beneficiaries - your pension provider will have a nomination form. Keep this updated. Some pensions have guaranteed death benefits - get advice before transferring an existing pension with valuable guarantees.
Pension drawdown charges
Like all pensions, drawdown comes with fees and charges:
Set-up costs
Transfers or new drawdown plans may come with set-up charges.
Annual charge
Drawdown providers levy an annual administration fee, often around £150-£200.
Ongoing costs
You'll pay annual management charges to investment funds your drawdown pot is invested in. These vary but are often 0.5%-1%.
Adviser fees
Taking financial advice involves fees, often a percentage of your pot or a fixed project fee. Ongoing advice also comes with charges.
While it's tempting to chase lower fees, this shouldn't be the only consideration. Getting the right investment strategy tailored to your goals is more important for good outcomes.
Drawdown risks
While pension drawdown offers flexibility, there are also risks:
Fund volatility - generally, a proportion of our pension savings are invested in stock markets, which go up and down in value every day, sometimes by considerable amounts. This is what fund volatility refers to.
Sequencing risk - if markets fall early in drawdown, it impacts funds available later.
Running out - taking high withdrawals could empty your pot during your lifetime.
Tax bills - exceeding annual allowances due to large withdrawals can generate tax charges.
Scams - criminals may try to persuade you to invest in high-risk schemes. It is important to stay vigilant.
Inheritance - beneficiaries have just two years to claim death benefits, so funds could be lost.
A good drawdown strategy focuses on maintaining investment growth while allowing sustainable withdrawals. This requires planning, care and regular reviews - a financial adviser can help manage risks.
A good drawdown strategy focuses on maintaining investment growth while allowing sustainable withdrawals. This requires planning, care and regular reviews - a financial adviser can help manage risks.
Who is pension drawdown suitable for?
Health and life expectancy - if you have average life expectancy or are in good health, drawdown can provide long-term income.
Income needs - drawdown suits if you only need modest withdrawals or have other secure incomes. Annuities may be preferable if you need a guaranteed income.
Investment experience - being confident making investment choices is important for drawdown to work well.
Attitude to risk - you need to be comfortable with the risk of market fluctuations and pots falling in value.
Sources of retirement income - drawdown works best if you have different income sources to balance it.
While drawdown is flexible, it requires management. If you're not sure about making complex investment choices, a financial adviser can put a tailored drawdown plan in place for you.
10 common pension drawdown questions
You can take 25% of your pot tax-free. Other drawdown withdrawals count as taxable income. Generally, tax is deducted before you receive payments using PAYE, based on your income tax band.
If you die aged under 75, benefits passed on from drawdown are usually tax-free. Your nominated beneficiaries can take withdrawals or income from your remaining drawdown funds completely tax free.
Yes, most defined contribution pensions can be moved to drawdown, either with your existing provider or by transferring to another provider. Some rules vary between workplace pensions, so check with your scheme.
You get 25% of your pension tax free. After this, any lump sums you take from drawdown count as taxable income. So, if you take a £10,000 lump sum after your tax-free cash, £10,000 is added to your taxable annual income.
No, there is no limit on how much you can take via pension drawdown, provided you are 55 or over. However, taking large sums could move you into a higher tax band. There are also implications for future income, so taking too much could be risky.
Yes, you can still pay into a pension if you're taking drawdown - although you may trigger a lower annual allowance. Your provider will be able to tell you how payments could affect your allowances.
Pension drawdown counts towards your total income when assessing means-tested benefits entitlement. Taking large sums could impact the amount you receive. A benefits specialist can help with how pension withdrawals affect your entitlements.
Yes, in general investment risks are higher with drawdown compared to buying an annuity. This is because your savings remain invested and could fall in value. Managing risk is key - a financial adviser can help.
There's no limit or cap on the annual income you can take from drawdown. How much income you can sustainably withdraw depends on factors like pot size, remaining life expectancy and investment performance. Taking regulated financial advice can help determine an appropriate withdrawal rate.
Capped drawdown still exists for people who began withdrawing pension savings pre-April 2015. Moving to flexi-access drawdown could allow you to take higher, uncapped withdrawals. However, this also brings increased risks like higher tax bills. Take regulated advice before deciding.
These are just a handful of the questions people have around pension drawdown. A financial adviser can help answer any other questions you may have.
Next steps for pension drawdown
If pension drawdown sounds like it could be right for you, some recommended next steps include:
Seek advice - get financial advice to see if drawdown suits your situation. Look for a regulated adviser.
Review your pensions - understand what pensions and options you have.
Consolidate pots - combining multiple pensions can make drawdown easier to manage.
Compare drawdown providers - shop around for a provider offering drawdown suited to your needs and goals.
Analyse withdrawal needs - how much income do you need? What tax might you pay?
Understand investment choices - ask about fund options and portfolio strategies to meet your goals.
Set up withdrawals - liaise with your provider to set up lump sums or income payments.
Manage tax - understand how to remain within allowances.
Review investments - rebalance funds as needed and adjust risk approaching retirement.
Review strategy yearly - check if your drawdown approach remains appropriate.
By following these steps, you can start pension drawdown armed with the knowledge needed to make the most of your savings during the retirement you want.
In summary
Pension drawdown offers unparalleled freedom and flexibility versus other pension options. However, it is important to consider the potential risks that can come with drawdown.
To make pension drawdown work best for your situation takes research, planning, and regular reviews. The decisions involved are complex, from withdrawal rates to fund choices and tax implications.
For most people, accessing financial advice from an authorised adviser is key to successfully navigating drawdown. An adviser takes on the burden of planning, tax, and investment management, allowing you to enjoy financial flexibility while minimising the risks you face.
So, in summary, while pension drawdown is flexible, it involves active planning, adjustments, and decisions as you enter retirement. These complexities are easier to navigate with expert financial guidance.
The details provided in this article are for general information only and are in no way deemed to be financial advice. All of the material is correct as of the publication date, but could be out-of-date by the time you read the article.
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Pension Access is a trading name of Harbour Rock Capital Limited which is registered in England & Wales as a Limited Company, No. 10290349. Authorised and regulated by the Financial Conduct Authority, No. 754580. Registered Offices: Affinity House, Beaufort Court, Sir Thomas Longley Road, Rochester, Kent, ME2 4FD. Telephone: 0800 009 3388. Email: pensionaccess@harbourrockcapital.co.uk
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