Phased Income Drawdown explained
- to provide greater flexibility and control over the drawing of income from your pension
- to give greater death benefits than are available under the secured pension route
- to leave your options open regarding how you draw your money
Drawdown put simply is leaving your pension pot invested and drawing an amount from it every year as an income. In an ideal world the fund would grow at a rate which doesn’t eat into the capital. This, however is dependent on the size of your fund and the amount required each year. At the beginning of any given year, you decide how much income you require. You can make this up by taking part of your tax free cash entitlement and drawing an income with part of the remaining fund.
Example. Income require £15,000
Mr Smith age 60 with a Pension pot of £300k growing at 5%, income of £15000 pa.* Pension pot stays at £300k.
The above example gives an idea of the simple theory of a drawdown policy. Now to make it more interesting we shall look at phased drawdown.
Lets say you have just started drawdown and have the same amount as in the above example. You have stated you do not need the full tax free cash entitlement of £75,000 (25% allowed of total fund) immediately but you want to make sure you at least benefit from it.
So with a fund size of £300,000 and, for example, an existing income of £20k per year, any additional income will be charged at 20% therefore the £15k income from the fund will reduce to £12k after tax.
An advantage of phased retirement to reduce the above tax position is to rather than take all the £15,000 as income from the fund, utilise some of your £75,000 tax free cash entitlement.
£15k income made up of £10k tax free cash and £5k taxable cash, this means you are reducing your income tax burden from £3k to £1k. You may want to reduce it further and take £15k as tax free cash. The theory behind the phased option though is to spread this over a number of years, it will help people who do not have any other taxable income as it will also enable you to reduce your tax burden on the actual income from the drawdown plan.
Phased income is quite complicated but can be used for many people in many different ways. It should always be considered when looking at your retirement options. A retirement specialist will have knowledge of all the complexities and be able to provide a tailored solution to your income needs taking into consideration your tax position and needs.
*(this is simplified charges etc and timing has to be taken into account)