You could get a bigger income from your pension pot…if you are prepared to risk leaving your pension fund invested in the stock market. You could take an annual income which could be hundreds of pounds higher than you would get from an annuity with the best annuity rates.
Unsecured pension (USP), previously income drawdown, allows you to draw an income directly from your pension fund and without the need to purchase an annuity. (Reminder; an annuity converts your pension pot into a guaranteed income for your time in retirement.)
No doubt you could be pleased about this if you hate the idea of sacrificing your depleted pension pot to an annuity provider and being stuck with low annuity rates for the rest of your life. Clearly, USP sounds like a good solution. But is it?
With USP (income drawdown), your pension fund remains invested in the hope of providing more capital growth over time. The idea is that the fund performs sufficiently well to provide you with a better income than you would have got from a pension annuity.
Many people use USP for a period of time, before buying an annuity with their remaining pension fund later on. This is because retirees can only leave their money invested in a pension until the age of 75.
But if you want, after you turn 75, you can still avoid buying a pension annuity by choosing an Alternatively Secured Pension (ASP) instead. ASP is broadly similar in many ways to USP. It enables you to carry on taking an annual income from your invested pension fund well into your retirement.
The income you take from USP is covered by limits set by the Government Actuary’s Department (GAD), allowing you generally to take up to 120% of the income that would typically be provided by a conventional annuity for someone of your age, gender and size of pension fund. You can vary the income taken between zero and the maximum.
The maximum income a male aged 65 can take from USP is currently £8,160 a year. But if he chose the very best conventional annuity rate available on the market today, he would get an annual income of just £7,375 a year. So, with USP he could be up to £785 better off each year. This is based on a £100,000 pension fund.
USP is more flexible than an annuity. The income you take can be varied. If your pension fund performs well, the extra capital growth you get may allow you to draw a larger income than you would get from an equivalent pension annuity.
Death benefits are much more generous under USP. They can provide a pension for your dependants, pay them a lump sum, or a combination of both. Lump sum death benefits do, though, attract a 35% tax charge. By contrast, annuity income is completely lost on your death unless you pay for a guarantee, and even then it will only pay out for a maximum of 10 years if you die sooner.
Delaying your annuity purchase could be beneficial. That’s because annuity rates will be higher as you get older, so you should enjoy an age governed uplift when you come to buy one.
If you’re currently invested, your pension fund is likely to have suffered losses over the past months, and, by buying an annuity now, you would crystallise those heavy losses. If you believe the stock market might recover over the next decade, it may be better to remain invested.
A pension annuity offers a guaranteed income for life, and you will not get that sort of peace of mind with USP, and, the charges are generally higher for USP than an annuity.
Annuities are pretty simple to understand. USP takes an effort from you in to understand and choose investments and monitor performance. You will almost certainly need the help of a specialist.
That’s quite a lot of pros and cons to mull over, and USP is only one of many retirement options open to you. It is really only suitable if you have a pretty large pension fund to start with, mainly because of the investment risks involved and the ongoing charges.
