Apart from paying off my mortgage with my pension I can't decide whether to maximise the lump sum or maximising the monthly income and tax liability. Any thoughts?

I am about to retire on a defined benefit pension. Apart from paying off my mortgage I can't decide whether to maximise the lump sum (losing the link to the CPI and having the headache of investing it in a lump) or maximising the monthly income and tax liability. I think it's probably somewhere in the middle but would appreciate some thoughts.

Hi Paula

It's a really good question and it sounds like you have a good idea on some of the pros and cons already. Here's a few things to consider.

Other than paying off your mortgage as you mentioned, taking a bigger lump sum depends on what plans you have in retirement and whether taking the maximum lump sum will still leave you with plenty of income to cover all your normal expenses. You've worked hard to get this pension so if the lowest income is enough to live on, you could take a lump sum to have a holiday, home improvements etc. There's always a balance to be had between investing well and spending/enjoying your money.

It might also be dependent on what other savings and investments you already have. It might be good to have some extra emergency funds accessible if you don't currently have much saved for this purpose.

On a less cheerful note, it might be worth considering a bigger lump sum if you want to leave money to family. A defined benefit scheme will usually only pay 50-60% of your pension income to your spouse and will also make some provisions for children until they reach 18 (each scheme varies so check the terms on yours). However, if you take a larger lump sum, that's out of the pension and can be given during your lifetime or on death to whomever you want to. The downside is that the lump sum would be in your estate and depending on your other assets, could be liable to inheritance tax.

You might also have to consider whether you're a spender or a saver - if you're not good with budgeting and are worried that you might fritter the money away, it might be better to take a smaller lump sum and a bigger income.

You've already mentioned the tax issue with taking the bigger income/smaller lump sum - it might mean that your income is over the annual allowance of £12,570 so you have to start paying some tax or your income is already over this limit and you have to pay more tax or possibly even a higher rate of tax.

You mentioned the headache of investing the lump - hopefully with the help of the right financial adviser, it shouldn't be too much of a headache and should also provide a sounding board for some of the options I've mentioned. You could in a very flexible investment that could provide an income or lump sums in future but continue to have the potential for a good rate of return. You could invest £20,000 per year within an ISA so this would be tax efficient from an income and capital gains point of view.

Overall, it's hard to get the "perfect" outcome with a defined benefit pension as none of us knows how long we'll live for and therefore how long we'll benefit from the income the pension provides. The decision will come down to your circumstances and what you already have saved but I hope this is useful to give you some ideas. If it means you end up treating yourself because you have plenty to cover your normal expenses, then that's no bad thing!