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Wednesday, 3 October 2012

Options when you take your personal pension

There are several ways to turn your personal pension fund into a regular income for retirement. Following changes to pension laws in April 2006, new rules make your options simpler and more flexible.

When can you take your personal pension?

From April 2010, the minimum age at which you are able to take your company or personal pension increased from 50 to 55.

However, you may still be able to take your pension before age 55 in certain circumstances. For example if you are unable to work due to ill-health. Your pension administrator will tell you what your scheme allows.

Options since 2006

Following changes made to pension rules in April 2006, there is now more choice for how and when you can take your pension benefits. Bear in mind, pension schemes are subject to individual rules so you'll need to check with your pension administrator what your particular scheme allows.

A more generous tax-free lump sum

You can take up to 25 per cent of your pension savings in a pension scheme as a tax-free lump sum when you retire. However, that lump sum is only tax-free if it is less than 25 per cent of the 'lifetime allowance' for that tax year.

For the 2012-2013 tax year the lifetime allowance (tested against your total pensions savings) is £1.5 million. If your total pensions savings exceed the lifetime allowance you can take the excess as a cash lump sum. This is subject to a 55 per cent tax charge.

Lump sums from small pension funds

You may be able to take your whole pension savings as a cash lump sum, with 25 per cent tax-free. To qualify, your total pension savings from all sources must be £18,000 or less.

Drawing an income from your pension

You have the following options (after you've taken any tax-free lump sum):

  • use the (remaining) fund you've built up to buy an annuity (a regular income payable for life) from a life insurance company; this does not have to be the same company that you have your pension plan with 
  • draw a taxable income directly from your pension fund, as an 'drawdown pension'

Tax on pension income if you've exceeded the lifetime allowance

If your total pension savings have exceeded the lifetime allowance, the excess amount is taxed at 25 per cent. Income taken from your pension pot will then be taxed at your usual Income Tax rate. The exception is where you take the excess as a lump sum – see above.

Buying an annuity

Income you get from an annuity, depends on the size of your pension fund and how long the annuity is expected to be in payment. It also depends on the pension provider. Because you don't have to buy an annuity from your own pension provider, it's important to shop around to get the best deal.

Common types are:

  • level – pays the same income every year
  • increasing – increases your income every year by either a fixed rate or a rate linked to inflation
  • investment-linked – linked to investment returns usually based on the performance of a fund managed by the annuity provider
  • joint-life – pays an income to your partner if you die before them
  • enhanced – pays a higher rate if you have an illness that is likely to affect your life expectancy

Getting advice on pensions

Unless you have a sound understanding of personal pensions, you should consider getting professional advice on the options available. You can get general information free of charge from many organisations. Read 'Getting information and help with pensions' to find out more.

However, only advisers authorised by the Financial Services Authority (FSA) can offer you pensions advice. They will look at your circumstances and recommend the most suitable product for your needs.

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