Matching retirement income with different phases

There are essentially three phases of retirement, according to Mark Stopard, head of product development at Partnership.

Firstly, there are the active/newly retired. Mr Stopard says these people may still be working part-time, fulfilling retirement ambitions such as travel and are actively enjoying retirement.

Secondly, we have the comfortably retired. Generally, Mr Stopard says they have stopped work [unless they have no choice], are starting to feel more physical/mental limitations and are enjoying a quieter life.

The third stage is the long-term retired. These people are entering the final phase of their lives, and Mr Stopard says they are likely to have age related physical or mental limitations and may well need support to live their day to day lives.

Mr Stopard says: “Different people enter each of these phases at different points (i.e. they don’t hit 75 and immediately become comfortably retired) often due to health/lifestyle conditions and socio-economic factors.

“Generally, when determining what retirement income is best suited to which phase, advisers determine how active a role the retiree is able to play/wants to play. For example, will someone who is long-term retired be able to manage a buy-to-let property?”

Part-time work is likely to feature in the early phase of retirement in order to keep as much of a client’s savings intact and growing for the latter stages of retirement when working may be less practical, Adrian Walker, retirement planning manager at Old Mutual Wealth, points out.

Mr Walker says: “If they are able and want to carry on working part time that will reduce the amount of income that needs to be generated from pensions or investments in the early years.

“Risk appetite and how the capital used to provide immediate and short-term income will be taxed are also important considerations.

“Some clients will be happy accepting some investment risk and accessing their pension savings via the new flexi-drawdown rules, whereas others will want to lock in a guaranteed income via an annuity. A combination of the two will suit others.

“Similarly income taken from Isas is tax-free, while taxable payments from untouched pension savings will generate a tax liability normally on 75 per cent of such payments.

“Advisers are well versed at analysing client needs and this becomes even more important now that the range of options for accessing pension savings is wider.”

Inheritance

Another consideration is the fact the new pension freedoms make pensions one of the most effective ways someone can pass on remaining savings to beneficiaries, says Old Mutual’s Mr Walker.

Not only has the taxation treatment on remaining money purchase savings generally become more beneficial, but Mr Walker points out there are wider choices for beneficiaries as to how to receive those savings, as a lump sum or by keeping the monies invested, but accessible through a flexi-access drawdown facility.

If they die before the age of 75 their beneficiaries will pay no tax if the fund was within the deceased client’s lifetime allowance, he adds.

If they die post 75 their beneficiaries will, in the 2015 to 2016 tax year, pay 45 per cent if taking the value as a lump sum, or just pay tax at their marginal rate of income tax if using the flexi-access drawdown facility.

Therefore Mr Walker says it could make sense to use other sources of savings, particularly if they are in assets that would be liable for inheritance tax, to provide more immediate income needs before accessing pension savings.

Isas, other savings and property for example could all be liable to inheritance tax, if passed to individuals other than a surviving spouse or civil partner, and so Mr Walker points out these could be used in the early phase of retirement, leaving a pension to last.

Risk transfer

Ian Wilkins, head of UK distribution at Franklin Templeton Investments, says as the new pension reforms transfer longevity risk from the annuity provider to the DC saver, investment options that target a specific investment outcome and which deliver income and growth with lower volatility will be the favoured by many.

Ultimately Simon Massey, wealth management director of MetLife, says whatever type of investment vehicle or income option is picked understanding a client’s capacity for loss is fundamental to the decision.

There is evidence that clients are concerned that conventional drawdown presents too many risks, especially in volatile markets, he points out. He adds there has been considerable ‘sequence of returns’ research undertaken to highlight the impacts of turbulent stock markets on conventional drawdown products.

Potentially he says we will see savers look to more flexible retirement income solutions early on in their retirement and then switching to more secure retirement income solutions as they get older.

Mr Massey says: “The key point about pension freedoms is that they provide greater flexibility for savers as people now no longer have to make a decision by a certain age.

“That flexibility is important because retirements are now more U-shaped or J-shaped with a need for a higher level of income at the start which then drops before rising again later in life when people need care.”

Andrew Tully, pensions technical director of MGM Advantage, says it isn’t as simple as saying one product is best at one stage of life and one product is better at another time.

Everyone is different and Mr Tully says they will have different needs throughout their retirement.

He says: “That is why taking professional financial advice is so valuable as advisers are best placed to work through an individual’s needs – now and in future – and work out the best solution for them.”