In our weekly series, readers can email in with any questions about retirement and pension savings to be answered by our expert, Rachel Vahey, head of public policy at investment platform AJ Bell. There is nothing she does not know about pensions. If you have a question for her, email us at money@theipaper.com.
Question: I want to retire in two years at 60. I am paying into a defined contribution (DC) pension which I will then transfer into a drawdown account when I stop paying into it. When do I have to tell my pension provider I am intending to retire early? Will I pay any fees for this?
Answer: You have decided to use your DC pension pot to provide you with a flexible retirement income through drawdown, rather than use it to buy a guaranteed income for life through an annuity.
There are pros and cons for each route. For example, an annuity pays out a regular guaranteed income for the rest of your life, but unless you build in a regular increase, it can lose value in real terms each year.
Also, payments will stop when you die unless you select protection options, for example a continuing income for a loved one at a reduced rate. (Choosing either of these options means the starting annuity income will be lower.)
Drawdown offers you greater flexibility to vary your withdrawals, but it also leaves you responsible for managing its investment and deciding how much income to take so that your pension lasts throughout retirement.
It doesn’t need to be a binary choice though; you can use your pension pot to provide both or perhaps use drawdown now and buy an annuity with those funds at a later date.
You generally do not need to tell your pension provider two years in advance that you intend to access your pension. However, it may be sensible to contact them now so you have plenty of time to understand the process, the options available and any charges that may apply.
One thing you will want to check immediately is if your DC pension investment aligns with your intention to keep most your fund invested when you move into drawdown.
If you are paying into a workplace pension, then many workplace default funds move investments into bonds and cash as retirement approaches. That approach was logical when most retirees were expected to buy an annuity at a fixed retirement date.
It is less well aligned in a market in which most individuals expect to remain invested and draw an income over many years.
However, if you want to take your full tax-free cash amount in two years’ time, you may want to move part of your fund into cash or other lower-risk investments if it’s important to you to protect that capital value.
You can access your pension from the age of 55 (rising to 57 from April 2028). It would be unusual, although not unheard of, for a DC provider to impose a penalty for taking benefits before the scheme’s normal pension age, but it’s best to check with the provider, especially if it’s a workplace pension.
You should also check if your DC pension offers drawdown, again especially if it’s a workplace pension. If drawdown is available, compare your current scheme with alternatives, such as a platform pension, looking at factors including charges and the range of investment options on offer.
Costs could include a fee for setting up drawdown, as well as ongoing account and investment charges. Because drawdown requires you to manage investments, look at the charges for buying or selling investments. Also make sure the available investment range is broad enough to support your chosen retirement strategy.
Before deciding what to do also check whether your existing pension includes any valuable guarantees or benefits. A small number of DC pensions, for example, offer a guaranteed annuity rate that could provide a better income than is available on the open market, and that might change your decision about taking drawdown. Transferring could also mean giving up these benefits.
Once you enter drawdown, you will be responsible for choosing and managing your investments and deciding how much to withdraw. Free, impartial guidance is available from Pension Wise through MoneyHelper. You may also wish to work with a regulated financial adviser, who can help you make decisions that reflect your circumstances and retirement plans.