Cashing in your pension, or unlocking it, is the process of accessing your pension pot as a lump sum. In April 2015, this option was made available for every scheme member over 55.
Below is a quick summary to explain (1) how pension legislation is changing and (2) what this means for pension holders.
Since April 2015, those who qualify for flexible access (anyone over the age of 55) have been given the opportunity to withdraw their pension and use their pot however they see fit.
Previously, an annual fixed income of £12,000 was required in order to access benefits, this is no longer required.
Many pension holders who are over 55 will be currently considering cashing in their pension. It is important however to note that only a certain type of pension member will benefit from accessing their pot.
Defined Benefit / Final Salary Pensions and Cashing In
In general, members of Final Salary Pension Schemes will have to transfer their plan into a Personal Pension in order to cash their pension in or access benefits in a flexible way.
Wanting to take early retirement
The first and most obvious reason for cashing in your pension or accessing it in a flexible way is to retire early.
Defined benefit (DB) schemes will generally penalise individuals who opt for retirement early. Some schemes may even not permit early retirement.
If you fall into this category, then flexible access could be a very attractive and sensible option. This may allow you to restructure your benefits or take a cash sum to allow you to retire early.
For some members, it may be a greater priority to pay off a mortgage, or give money to loved ones, than receive a steady income upon retirement. In these situations, it can be incredibly useful to access your pension fund when you need it – rather than waiting for another date in the future for a regular pension you do not need.
Members with dependants
One of the most common reasons that pension holders will opt for flexible access is in circumstances where there are dependants involved.
Some defined benefit (DB) schemes are not always favourable in terms of death benefits. For example, it is unlikely that a spouse will receive the full value of a pension in the event of the pension holder’s death and a typical pension in payment will half. This is an important consideration if you are not in the best of health, or if you are single and wish to leave benefits to someone who is not covered under the scheme rules such as your children.
Accessing the pension fund early, however, could give you an opportunity to invest your money in line with your wishes and not in line with the scheme rules. It comes as little surprise, then, that many individuals with long term health problems will consider opting for flexible access.
In addition to this, there are also circumstances in which flexible access can be very beneficial for tax purposes.
You will have the facility to adjust your income in line with your personal allowance, tax rates and other income to avoid paying unnecessary tax. You can for example you use the Pension Commencement Lump Sum (PCLS) which is tax free to form part of your income which could help you avoid higher rates of tax.
There are a number of pension members who should be wary of cashing in their pension. It is by no means suitable for everyone and it is generally an irreversible decision. The risks can be significant and could adversely affect your retirement, in particular if you are dependent upon the income to meet your outgoings, it is unlikely that we would recommend you consider cashing in your pension.
Final salary pensions are generally viewed as the ‘gold standard’ solution because they provide a guaranteed pension for life. If a final salary pension is transferred and cashed in, then this lifetime income stream is lost. If you depend upon this income, cashing your pension in with a view to spending the proceeds is unlikely to be the recommended course of action.
If a pension is ‘cashed in’ in its entirety, three quarter of this pension will be subject to income tax. This means that the taxable fund will work through the various tax bands and you could have a significant tax charge that is entirely avoidable if you cash a pension in over a number of tax periods. Even if it is suitable for you to cash a pension in, it may not be sensible to take the entire pension in one go.
There are a number of circumstances in which it makes good financial sense to cash in your pension.
The criteria for flexible access is intended to be available to everyone over age 55. Nevertheless, that does not mean cashing in a pension is the right choice for everyone.
Any major decision of this kind should only be made after consultation with a pension expert. This is a service that we are proud to offer, so if you would like to learn more then please get in contact today.
Disclaimer: Final Salary Pensions are suitable for the vast majority of members. Transferring from a final salary pension scheme is an irreversible decision and it could have a detrimental effect on your retirement planning. The detail on this website is for information purposes only and is not to be taken as a personal recommendation. Before taking any action, you should take financial advice from a suitably qualified independent financial adviser. Any potential advantages of transferring from a defined benefit scheme to a defined contribution scheme are often outweighed by the costs, risks and loss of benefits involved.
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