If you are looking to retire in the near future but don’t want to lock into a lifetime annuity just yet, income drawdown can offer a flexible alternative. Income drawdown allows you to take your tax-free lump sum and then choose whether you also draw an income and, if so, how much.
Your pension remains invested, which can be appealing to those who don’t intend to draw any income for a few years. There is the possibility the pension will grow allowing you to take more income from it in the future. However, the value of your pension can fall as well as rise making drawdown higher risk than an annuity. If markets perform very badly you could be left with little money to provide an income when you need it.
Income drawdown is therefore only suitable for those who can afford to, and are willing to take the risks. It is a complex product so if you are at all uncertain please contact a financial planner for advice.
Despite the risks drawdown is proving increasingly popular. This is particularly the case with investors who have a secure form of income elsewhere such as a final salary pension or an existing annuity. These investors probably can afford to risk keeping part of their pension invested in income drawdown and could benefit from an increased income as a result. Whilst the income is not secure, it is one way of potentially protecting against inflation particularly if you have other secure sources of income to fall back on.
Another reason drawdown is becoming so popular compared to an annuity is the associated death benefits. Drawdown allows your funds to be passed to surviving friends or family in the event of your death, subject to a 55% tax charge. Your pension is often one of your biggest assets so this is an appealing option.
In standard income drawdown you can choose how much income you draw, altering it between zero and a capped maximum (which is intended to be roughly equivalent to the income an annuity would offer from the same pension pot).
However there is a second option called flexible drawdown. This option removes the income cap for some investors allowing them to take as much income as they need from their fund in retirement. To qualify for flexible drawdown you must meet set criteria including already being in receipt of a secure pension income of at least £20,000 per annum.
Drawdown can be used by itself, or alternatively you could split your pension and use drawdown alongside an annuity, combining flexibility with a secure income. When selecting an income drawdown plan it is important to look at the charges applied to your fund. Charges vary drastically from company to company and excessive fees will eat into your future income.