Advantages & Disadvantages of Income Drawdown
Income Drawdown is just one of a number of options for accessing your tax free lump sum and taking an income from your pension.
Whether you use Capped or Flexible Drawdown, it is important that you know the advantages and disadvantages before you invest, so just what are they?
- You will be able to access up to 25% of your fund as a tax free lump sum
- Using Income Drawdown means you will not have to purchase an Annuity to provide your income. This is particularly useful if you think Annuity rates may rise in the future or of you believe you will qualify for an Enhanced Annuity in years to come
- Using Income Drawdown the fund will remain invested in a tax efficient environment and if performance is good, there may be scope for increasing the level of income which you take in an effort to combat the effects of inflation
- The minimum income you have to take from an Income Drawdown plan is zero. This is useful if you want to access your tax free lump sum and do not need or want to take an income
- The level of income you take can be changed to meet your needs. Whilst there is an annual limit, provided you work within this you can have almost unlimited flexibility, even taking ad hoc lump sums
- The options on death are generally considered to be wider than those offered by other, Annuity-based retirement solutions. For example, on your death, your spouse could take a lump sum, less a 55% tax charge, and continue in Income Drawdown or use all of the fund, with no tax deduction, to invest in an alternative options, like an Annuity
- If you do not have a spouse or financial dependent, a lump sum, less a 55% tax charge, can still be left to a person of your choosing. You can also decide to leave your fund to a charity, which would mean that the tax charge is not payable
- If you qualify for Flexible Drawdown by satisfying the Minimum Income Requirement (MIR), then you will be able to access even more of your fund each year than is allowable under Capped Drawdown
- Unlike an Annuity, your fund remains invested, which means that the value can rise and fall in line with the underlying investments chosen by you or your adviser
- Any fall in the value of the fund could cause your income to drop in years to come. Alternatively if the value falls and you continue drawing the same level of income your fund is likely to depreciate in value even quicker
- Income Drawdown does not come with the same income guarantees as an Annuity and should not be considered for risk-averse investors
- If you decide to buy an Annuity in the future, there is no guarantee that the fund will be sufficient to buy the same level of Annuity which you could have had at the outset
- If you are using Income Drawdown in the hope that Annuity rates may rise in the future, it is possible that the reverse could happen and they fall further. Furthermore if you are delaying an Annuity purchase in the hope that you will qualify for an Enhanced Annuity in the future, it is also possible that you remain healthy and this option is not therefore available
- Income Drawdown is only suitable for larger pension funds, generally above £50,000
- On death any lump sum payable to your spouse or financial dependants would be subject to a 55% tax charge
- The maximum income you can take from an Income Drawdown plan is set by the Government Actuary’s Department (GAD) based on your age, gender and long term gilt yields. If gilt yields fall then it is possible at the regular reviews, which must take place every three years before the age of 75 and yearly thereafter, that the maximum level of income you can take will fall
- Income Drawdown can be a complicated arrangement and requires regular monitoring of the investments used to ensure that they are producing sufficient performance to match your desired levels of income. In addition a mandatory review must be completed. These reviews can incur additional costs, which must be factored into your calculations
Income Drawdown is a more complex retirement solution than an annuity; however, for the right person it does offer significant advantages over other retirement options.
If you are considering Income Drawdown as an option, we would always suggest that you take advice, not only on whether it is the right solution for you, but also with regard to the provider, how the plan is set up and how the money is invested.