Pensions and Tax
09 May 2023
Question by Jeff
I am over 55 so can I get 25% of my pension tax free. Should I use that to buy a caravan, I think I will have enough at retirement, or should I consider a loan?
Answered by Holly Mackay
There’s a really funny mindset around pensions, which is that the second we can get our hands on this money, lots of people instinctively want to take it out. Maybe it’s because there is so little trust in the industry? Or it all feels so opaque that we just want to get our hands on it. The problem is that too many people just take the money out because they can – and then don’t have a plan for it.
People in their late 50s today might have another 40 years ahead of them, so we really need to get an idea of how much we need to fund our retirement. A very rough rule of thumb is that you can take 4% out of your pension each year without lowering the sum invested – the idea is that this amount will be made up in stock market returns every year. So if you had £100,000 in a pension, you could take out £4,000 every year and it would stay at around £100,000 moving forward (clearly with lots of ups and downs on the journey, so it’s not gospel!).
If you take out 25% in your 50s then BANG, that’s a big hit on the pension and you’ve reduced your skin in the game by a quarter. Imagine making a snowman and starting with a ball of snow a quarter smaller than someone else’s – it would take you a lot longer. It’s the same with investments and pensions. So buying your caravan today would make you less strong in the future.
Could you take a loan? Depends on the interest rate. What other debt you have – do you have expensive credit card debt to pay off first? How anxious do you get about debt? Lots of factors. Sometimes loans can be financially sensible but there are a lot of variables to consider and the interest rate and Ts and Cs are obviously key.
I think to answer your question, you need to be a bit clearer on what you might need in retirement. Look at your State Pension, any Workplace Pension, and any Private Pension or other savings – and see what that total is. For a very rough idea you could then go to the Money Advice Service (free government-funded service) and use their annuity calculator to see what your total pension savings in Workplace and Private Pensions would get you as an annual income. And add this to your State Pension. Is it enough? (This is very rough – you may choose ‘drawdown’ over an ‘annuity’ but that’s a whole other subject!)
Another option is to book your free appointment over the phone with PensionWise – again funded by the government. They can’t give advice or tell you what to do but they can talk you through your options.
The trade-off is this – the longer you leave money in your pension, the more it will grow for you, and the stronger you will be. But expensive debt is not often efficient. I hope this helps frame the question. Sorry I can’t be more emphatic! I hope when you get the caravan you will send me a picture!