Annuity? Drawdown? Take your state pension now or defer it to later? We do the retirement sums
If you're planning to give up your day job in the next 12 months, there are a number of things you need to do to ensure a smooth transition from work to retirement.
The main things to consider are when to retire and how to finance your life in retirement. You can expect a pension from the state, but hopefully you will have other pension savings too – perhaps through a workplace scheme, or a fund you have been saving into privately. Working out what this is all worth is a good place to start.
Adding up your pension pots
The first step is to try and calculate what your income in retirement will be – ask your private pension providers, employer(s) or an independent financial adviser for a statement showing how much you have saved and how much you would get a year as income if you invested it in a typical annuity.
This will help you decide whether to convert all or part of your pension into income and, indeed, whether now is the right time to retire. The earliest age you can get a personal or stakeholder pension is usually 55, depending on your arrangements with the pension provider or pension trust.
Next, see what state pension you would be entitled to. This is based on the national insurance contributions you have paid or been credited with during your working life, and can be made up of different parts. You may qualify for both the basic state pension and an additional state pension. The basic state pension is worth up to £107 a week until April 2013, and £110 after that. This will change in April 2017 – at the earliest – to a single-tier state pension worth £144 a week in today's terms.
To find out how much state pension you will get, call the Pension Service on 0800 731 7898 or, if you are more than four months from state pension age, apply for a forecast online. If the amount is less than the full rate, you may be able to increase your basic state pension by paying voluntary national insurance contributions for past years.
Claiming your state pension
The state pension age is changing – most dramatically for women, (see the government's calculator to work out exactly when you will get yours). It will be 66 for both men and women by 2020, and 67 by 2028; it is then due to go to 68 by 2046, although this will probably happen sooner.
You should get a letter from the Pension Service, four months before you reach state pension age, inviting you to claim your state pension or to defer it. Remember, the government doesn't pay it automatically: you must tell it you wish to begin receiving your state pension, either by going online or by phoning 0800 731 7898.
If you do wish to defer receiving your state pension you can earn extra money. It will increase by 1% for every five weeks you put off claiming – or 10.4% for every full year you put off claiming. You do not need to tell the government you want to defer, just wait and claim the pension later.
Turning your pension fund into cash
Usually, you'll have the option to take up to 25% of your private or workplace pension as a tax-free lump sum and will need to use the rest to provide a regular income. But if all your pension funds total £18,000 or less, you can usually take the whole amount as a lump sum – although you have to be at least 60 to do this.
Bear in mind that the more you take as a tax-free lump sum, the less will be left to provide you with an income for the rest of your retirement. "With final salary schemes, typically you are offered the choice between a higher pension or a lower pension plus a lump sum. Which is better will depend on how much pension you have to give up to get the lump sum," says Tom McPhail, of advisers Hargreaves Lansdown.
"With money purchase pensions you then have a choice as to how you draw your income – you can either buy an annuity, or use drawdown or use a combination of the two (you can also start with drawdown and then move to an annuity purchase later).
With an annuity, you hand over all or part of your pension fund to an insurance company in return for a regular income until you die. The amount you receive depends on how long the insurance company expects you to live – the longer it expects to pay out for, the less it will offer to pay each year.
Rates on annuities have fallen in recent years, so it is vital to shop around for the best deal, rather than accepting the first quote you get. If you are a smoker or have another medical issue, you should expect a greater income than if you are healthy. It is therefore very important to disclose any medical history you may have, as this will help you qualify for a higher annuity payment.
If you opt for drawdown, you leave your pension invested and withdraw money each year to pay for your living expenses. We have a guide to the pros and cons of each option. It's wise to take advice on which would best suit your circumstances.
Telling your employer
Most jobs no longer have a default retirement age, so you will need to tell your employer when you want to call it a day. This usually works the same as it is does for when you wish simply to leave your job, in that you'll be required to do so in writing, but many companies have a retirement notice period of at least a month.
If your income in retirement is less than you expected, you might choose to delay handing in your notice, or to see if you can switch to part-time working.
Retiring overseas
If you are retiring abroad, you'll need to contact the International Pension Centre (0191 218 7777) and, for tax reasons, HM Revenue & Customs. You'll need to check whether the UK state pension can be received in the country you are moving to, and whether your benefits will increase year-by-year.
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