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Income Drawdown

Income Drawdown is an alternative option to buying an annuity when you retire. It provides the ability to draw a variable income from your pension fund up a maximum amount while continuing to invest the fund.

For some people, the greater flexibility of income offered by Income Drawdown and the ability to avoid having to buy an annuity in today’s low-rate environment while at the same time drawing a tax-free lump sum from the pension fund has significant advantages.

Income Drawdown also offers a choice of death benefits for dependents. A spouse can receive 100% of the fund on the plan holder’s death if taken as income. Alternatively, any lump sum death benefits under an income drawdown plan would be subject to a 55% tax charge, but be free from inheritance tax.

Since April 2011, there have been two types of Income Drawdown: Capped Drawdown and Flexible Drawdown. The main difference is the level of income you can take. As the name would suggest, Capped Drawdown limits the amount of money that can be taken. Flexible Drawdown allows more income to be taken if the Minimum Income Requirement (MIR) is satisfied.

To satisfy the MIR, you must have a guaranteed income of £20,000 per year from a state pension, a Lifetime Annuity or an Occupational Pension. No other type of income is acceptable.

If the requirements of the MIR are met, then under Flexible Drawdown rules there is no limit to the income which can be taken from the Fund in a single year, but it is subject to tax at your highest rate.

There are a couple of other differences between the two types of Income Drawdown: currently Funds with Protected Rights cannot be used for Flexible Drawdown (although this is under review). Also, if you want to enter into Flexible Drawdown, no contributions can have been made in that tax year, and all future contributions must come to an end, otherwise a tax charge will be incurred.

It is worth making a couple of other general points about Income Drawdown. Unlike an Annuity, Income Drawdown doesn't provide a guaranteed income from the funds available. Investments can go up and down, and so there are more risks attached to Income Drawdown, though the levels of risk can be set to suit your requirements.

Also, Income Drawdown is generally considered not suitable for anyone with a fund under £50,000 due to the inherent charges involved. However there are now plans available where the charges are minimal, opening up the market to even smaller funds. Typically, though, most Income Drawdown customers have funds in excess of £100,000.

In time, as personal circumstances change, someone who has opted for Income Drawdown may well decide to purchase an annuity to provide extra security for their remaining years. This can be done at any time.


When should I consider using Income Drawdown?

There are a number of occasions when you might want to consider Income Drawdown:

  1. If you do not want to buy a Lifetime Annuity, perhaps because you think Annuity rates will rise in the future or you may qualify for an Enhanced Annuity in years to come
  2. When you want to keep control of the fund, and to continue to invest it with the hope that it will grow in size and allow you to have a rising income. Of course, there is no guarantee that this will be the case
  3. If you want more options on death than an Annuity will allow. For example, if you want a lump sum to be available to your spouse
  4. If you want more flexibility in the level of income than an Annuity will allow, or indeed you want to take even larger amounts of your fund as income which Flexible Drawdown allows
  5. If you want to take the tax free lump sum and no income

When is Income Drawdown not suitable for me?

Income Drawdown is not right for everyone. In fact there are a number of occasions when it is unlikely to be suitable, for example:

  1. Income Drawdown does not provide a guaranteed income; the only way to do this is to buy an Annuity. If you want a guarantee, either on your capital or income, then an Income Drawdown plan is unlikely to be right for you
  2. Income Drawdown is not suitable for small pension funds, although there are no hard and fast rules. If your fund is less than £50,000, you might want to consider alternative options
  3. If you are looking for a simple retirement solution. Income Drawdown requires regular monitoring and reviews of how the investments are performing; this takes time and may incur costs. If you require a simple solution, Income Drawdown may not be for you.

What happens if I die?

The options on death are the same for both Capped and Flexible Drawdown:

  1. The remaining fund could be used by the surviving husband or wife to buy a Lifetime Annuity or indeed any other retirement product like, for example, an Investment Linked Annuity or Fixed Term Annuity
  2. The surviving spouse could continue to draw an income from the plan
  3. A lump sum, less a tax charge of 55%, could be taken

How much income can I take from Capped Drawdown?

The maximum income you can take is set by the Government Actuary’s Department and is known as the GAD rate. It is based on your gender, age and long term gilt rates. However, as a rule of thumb, it is generally equal to the same income which you could get from a single life, level Annuity.

With Capped Drawdown you can decide to take no income whatsoever. This is particularly useful for people who want to access their tax free lump sum but do not require an immediate income.

The maximum income you can take from Capped Drawdown is therefore anywhere between zero and 100% of the GAD figure.

Before the age of 75, the maximum income which can be taken is reviewed every three years. After age 75 it is reviewed annually.

Advantages and Disadvantages of Income Drawdown