Would-be retirees making mistakes in at-retirement decisions

Employees close to retirement are making five major mistakes when taking at-retirement financial decisions, which could end up seeing them losing thousands of pounds from their pension pots.

Financial education provider, Wealth at Work, has highlighted the mistakes in an attempt to raise further awareness of the need for more at-retirement support and advice.

Not shopping around is one of the main mistakes being made, according to Wealth at Work.

In July, the FCA’s Retirement Outcomes Review stated that 94 per cent of individuals who go into income drawdown do so without taking advice, and accept the drawdown scheme offered by their existing pension provider without shopping around first.

Wealth at Work warned that employees could end up losing considerable amounts of money every month after missing out on income drawdown solutions that have a choice of investments that are more appropriate for their needs, or that have cheaper charges.

Consumer magazine Which? found last year that the difference between the cheapest and most expensive drawdown plans was £12,000 lost in charges over a 15-year period.

The second mistake is the practice of withdrawing cash and leaving it in a bank or savings account.

The company said that individuals could be losing out on valuable tax benefits available in their pension scheme, meaning that they are at risk of paying more tax, due to the withdrawn money forming part of their estate for inheritance tax purposes.

This move also sees them missing out on the benefits of staying invested in their pension for longer.

Another miscalculation involves people taking income from their pension, when they might be better off using their other savings which are not growing tax free instead.

Wealth at Work said that retirees who have other assets such as separate savings, shares and cash, should convert these into income, and leave their pension to grow tax-free until needed.

The fourth misstep is taking income from a pension while still working to supplement a salary. People would probably be better off leaving it until retirement, and therefore making best use of their available tax allowances.

The provider says that many employees do not realise that usually only the first 25 per cent of their pension pot taken is tax-free and that the remainder is taxed at their marginal rate.

So by taking income from their pension when their overall income is lower, such as in retirement, employees can minimise the tax that would be due.

The final false move is cashing in a pension in one go and suddenly becoming a higher rate tax payer for the first time.

Wealth at Work has taken the example of someone who is normally a basic rate tax payer and earns £40,000 a year to illustrate this mistake.

If this person then decides to take retirement and cash in their DC pension pot of £40,000 in the same tax year, then 25 per cent of the pension (£10,000) would be tax free, but tax would be due on the remaining £30,000.

Their taxable income for that year would then be £70,000, meaning that they would become a higher rate tax payer.

Given current tax thresholds, £20,000 would be taxed at 40 per cent, creating a total tax liability of £10,000 on the pension.

The company advises people to stagger their pension withdrawals over a couple of tax years if they can to avoid unnecessarily becoming a higher rate tax payer.

Wealth at Work director, Jonathan Watts-Lay, said that it can be daunting for employees when deciding what to do with their pension and far too easy to make costly mistakes.

“Most have spent their working life saving into their pension, and this is too big a decision to let them sleep walk into it,” he stated.

Thankfully, he added, many employers are now seeing the benefits of putting robust processes in place to support their employee’s at-retirement decision-making.

“This includes offering services such as financial education seminars and one-to-one financial guidance over the telephone, in the months or even years before retirement, as well as facilitating an introduction to a regulated financial advice firm which has been through a thorough due diligence process.

“This should cover key aspects including the regulatory record of the advice firm, the qualifications of its advisers, its pricing structure and ideally a firm which is a workplace specialist. This approach should ensure an improved retirement process leading to better outcomes for all.”

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