At retirement you usually have the option of taking up to 25% of your pension as a tax-free lump sum. For some this is invaluable, allowing them to pay off debt, or perhaps splash out on a holiday or some other luxury.
However for others this creates a dilemma. If you simply want the greatest income possible it is tempting to leave the 25% in the pension and use the entire fund to buy your annuity income. The downside to this is that the income from an annuity is taxable whereas
the lump sum is tax-free.
One option could be to take the tax-free cash lump sum and use that money to buy a Purchased Life Annuity (PLA). Purchased Life Annuities are another tax efficient way to provide additional income to help supplement your pensions in retirement.
In simple terms an annuity provides a person with a regular income. Most annuities are bought with the proceeds of a pension fund. However, it is also possible to buy an annuity with all or part of your tax-free cash sum or other savings. Annuities bought with your own
money are known as Purchased Life Annuities (PLAs).
In exchange for a lump sum, a PLA will pay you a set level of income either for a fixed term, or for your lifetime. You can choose an income which is fixed, or one which increases annually to offset the effect of inflation. There are also joint life and other guarantee options
available to protect your spouse should you die first.
The income is tax-efficient since, unlike a pension annuity where the full amount is taxable, only part of the income from a PLA is taxable. HM Revenue and Customs (HMRC) treats part of the income from a PLA as a return of the original purchase price. This is known as the capital element and tax is not charged on this part. The remaining income is taxed as savings income at the basic rate of 20%, with higher rate tax payers paying up to a further 20% and additional rate tax payers up to 30%.