Preparing Financially for Retirement

Afford Retirement
I think I can say with some certainty that there is no single answer or one size fits all when it comes to preparing financially for retirement, organising one’s affairs to make it possible to live off less. This blog focusses on those of us who have more modest investments and have probably built between £200,000 and £500,000 in some form or retirement fund.

Can I afford to retire?

I think I can say with some certainty that there is no single answer or one size fits all when it comes to preparing financially for retirement, organising one’s affairs to make it possible to live off less. I think I should say up front, that this blog post and indeed, this site generally, isn’t aimed at those folk that have or are likely to retire on a defined benefit scheme or a large final salary pension, or who have managed to build sizable retirement funds… This blog focusses on those of us who have more modest investments and have probably built between £200,000 and £500,000 in some form of retirement fund.

How do defined contribution pensions work?

It might be worth reminding ourselves of how defined contribution pensions work…

In a defined contributory pension, or as it’s sometimes called, a money purchase scheme. The individual contributes regularly into a fund through their working life, normally through their employee’s PAYE, in so doing creating a pot of money that can be used to provide an income in retirement. Unlike final salary or defined benefit schemes (which promise a specific income, often linked to inflation), the income you might get from your own money purchase scheme, depends on factors including:

  • The amount you pay in
  • The fund’s investment performance
  • The choices you make at retirement, particularly what age you choose to start drawing down on your fund.

Private pensions

If you have a pension or pensions that you set up yourself, maybe due to self-employment, it will of course have been up to you to decide how much you contributed through your working life… Over time, the value of your pot will change with its value at any time will depending on:

  • How much you’ve been paid into it
  • The length of time that each contribution has been invested
  • The investment growth over this period
  • The charges deducted from the scheme.

Ways to access pension pots

From the age of 55 (rising to 57 from 2028), we have the option of accessing our pension pot(s) through one or more options – you can select your own strategy depending on your age and your own life choices. Income you take from a pension, just like income from work, is taxable, but you can elect to take up to 25% of your pot as a tax-free lump sum at the start.

The main options for accessing your defined contribution are:

  • Keeping your pension savings where they are and draw on them later.
  • Use your pension pot to buy a fixed term annuity.
  • Use your pension pot to provide a flexible retirement income – also known as pension drawdown.
  • Take a number of lump sums – usually the first 25% of each lump sum withdrawal from your pot will be tax-free.
  • Take your pension pot in one go – typically the first 25% will be tax-free, and the rest is taxable.
  • Mix your options – select any combination of the above, using different parts of your pot or separate pots. 

Clearly, there is no “one size fits all” when considering financial strategies and how and when you may decide to initiate draw down. The decision to withdraw from paid employment and start to draw a pension can literally be life changing. This decision, and the path you choose to take, will depend on various factors, many of which will be unique to you and your particular circumstances.

Affordable retirement

If, as I’ve outlined above, you have a modest investment portfolio, then it’s imperative that you’re thoughtful and realistic about your options and life goals, before you gallop off into the sunset to “live the dream”. It is particularly important to calculate your outgoings – how much you currently spend every month or year, and in so doing ensuring that your lifestyle is sustainable for the foreseeable future. With world events as they are in early 2023 and the impact of pandemics and wars on markets and economies, flexibility is also useful. So it might not be the best time to burn all bridges to your working life keeping your options open, maybe for a return to work on a part-time basis?

Therefore, whatever financial strategy or path you decide to take through retirement, it needs to be a “considered” path and one that is sustainable over the longer term. Future blog posts will expand on these themes and delve a little deeper into retirement finances. Also, the different strategies and options that might be available as we move into the “third age” and what is hopefully the most exciting and rewarding period of our lives.

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