One in five over-55s has spent or plans to spend their retirement tax-free money on home renovations such as conservatories, new kitchens and attic renovations, new research finds.
After remodeling, which topped most wish lists, 16 percent of over-55s choose to buy a new car and 15 percent choose to pay off mortgages or other debts.
Taking a tax-free lump sum of up to 25 percent from your retirement fund is a popular retirement benefit, although you can choose to leave some or all of it alone to increase your income later in life.
What do YOU want (or should) spend 25% tax-free pension money on?
About 14 percent of the over-55s surveyed by Standard Life reserved the money for daily expenses, 13 percent for a short vacation and 7 percent for a trip of three weeks or more.
Another 7 percent chose to reduce current cost-of-living pressures, 5 percent to buy real estate and 4 percent to give gifts to children and grandchildren or to support them with the cost of living.
Standard Life found that 20 percent of people still working full-time or part-time would use tax-free retirement money to pay their mortgage or other debts, compared to 12 percent of those who weren’t working.
The pension giant surveyed adults in May 2000, weighted to be nationally representative.
It asked the 280 over-55s, the age at which you can normally start tapping into your retirement (raised to 57 in 2028), how they plan to use or what they’re already doing with their 25 percent tax-free money.
If you have a large pension pot, there was a major change after the deletion of the lifetime benefit in April 2023 – the total cap of £1,073,100 people can have in their pension pot without facing tax penalties.
The 25 per cent tax-free lump sum is now capped at £268,275 – a quarter of the old lifetime benefit limit.
However, if you have fixed protection associated with a rather more generous lifetime benefit, your higher 25 percent lump sum may apply even if you start paying your pension again.
Fixed protection is a complicated area and it’s best to get professional financial advice.
> This is how you defend your pension against the tax authorities: Eight tips from the experts
How do tax-free lump sums work?
Many people approaching retirement age may have a mix of defined contribution and defined benefit pensions.
Defined contribution pensions: These take amounts from both employers and employees and invest them to provide a pot of money in retirement.
People over 55 can withdraw 25 percent of their pension pot tax-free in advance, or choose to gradually withdraw it in parts.
By not withdrawing the entire lump sum at once, as your pot grows in the future, you will have more tax-free cash available to withdraw over the longer term.
Defined benefit plans salary-related pensions: Final salary or career average pension offer a guaranteed income after retirement for the rest of your life.
Your options for a 25 percent lump sum vary depending on the generosity of your arrangement’s terms and conditions, so you’ll need to check the specific details.
Our columnist Steve Webb explained how lump sum payments work and how you can determine if they are value for money.
You have the option of transferring a final salary pension to a withdrawal plan that is invested, although financial experts say this is rarely a good idea and the government has taken steps to prevent people from giving up valuable retirement benefits without realizing it.
If your last salary pension is worth more than £30,000 it is mandatory to get paid financial advice before giving up.
Dean Butler: One of the great benefits of retirement is that you can take a quarter of your pot without paying tax on a single penny
What you should pay attention to before withdrawing or spending your tax-free lump sum
“One of the great benefits of a pension is that you can take a quarter of your pot without paying tax on a single penny of it, up to a maximum of £268,275,” says Dean Butler, general manager for retail at Standard Life.
“If you’ve tracked your contributions over the course of a number of years and grown your pot, it could add up to a significant amount of tax-free money by the time you come to withdraw your savings.
It’s interesting to see how people choose to make the most of this hard-earned boost. At this point it seems that many are deciding to invest in some long overdue home improvements – perhaps motivated in part by being cooped up during the years of lockdown staring at everything that was wrong with their home.”
He adds, “You don’t have to withdraw all of your tax-free cash at once if you don’t want to. It’s good to take some time off first to see how you can get the most out of it.’
Butler gave the following tips for those on a defined contribution base, although some of them will also be useful to those on a defined benefit pension.
1. Think about your entire pension: It may be tempting to spend the money right away, but remember that your retirement savings should be able to fill your entire retirement – hopefully happily ever after.
Taking too much at once, or too soon, can mean you may run out of money later on.
2. Consider Future Investment Growth: ‘Having your pension savings invested for a longer period of time gives you the opportunity to grow even more, so it may make sense to postpone your savings as long as possible in order to benefit even more in the future.
3. Think about being as tax efficient as possible: By taking your tax-free lump sum payment in parts over time, you can withdraw your pension savings in a tax-efficient way and you can spread the payment over several years.
Some people also choose to use their tax-free fixed amount to reduce their working hours and to take a phased retirement.
If you cut back, you can use part of your tax-free lump sum payment to top up your reduced salary.
4. Watch Your Tax Deductions: It’s good to know that before you can access any taxable income from your pension scheme, the total amount you can pay in any tax year and still get tax breaks is £60,000, or your total salary, whichever is lower , and that you then pay tax for anything above this amount.
However, once you start taking taxable income, it will drop to £10,000 a year for most people.
This is a very important consideration when designing plans for withdrawing your retirement savings, especially if your plan is to continue working and paying after you start withdrawing your money.
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