What is income drawdown?

Income drawdown is one of your options for using your pension when you reach retirement. It means leaving your pension money invested and taking cash as and when you need it. It’s the main alternative to buying an annuity with your pension money.

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If you have a defined contribution pension, there are several things you can do with your pension pot when you reach retirement.

You can take up to 25% as a lump sum without paying tax. If you take out more than this you’ll have to pay income tax.

You can choose to use the rest of your pension money to buy an annuity, a product that guarantees a certain income for the rest of your life (or for an agreed period).

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Alternatively, you can move your money into income drawdown, which means your pension money remains invested, and you can take taxable income from it as and when you want. If you do this without taking the 25% tax-free lump sum first, you can get 25% of each withdrawal tax-free.

 

How does income drawdown work?

Income drawdown funds are usually invested in a combination of shares, cash, and bonds, and you can withdraw money from the fund to keep you going during your retirement.

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As of April 2015, all new income drawdown products are ‘Flexi-access drawdown’, which means you can choose how much money to take from your pension each year. However, you will need to pay income tax on this pension money once you’ve taken the 25% tax-free amount and you’ve exceeded your personal tax-free allowance for the year.

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What are the advantages and disadvantages of income drawdown?

There are pros and cons to income drawdown. On the plus side, it’s a flexible way of taking a retirement income and if markets are buoyant, your pension pot could increase in value. Income drawdown can look like a particularly attractive option when annuity values are very low. Plus, if you die before 75, your beneficiaries can inherit the money in your pension drawdown product without paying tax, whereas most annuities can’t be passed on when you die.

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The downsides include the possibility of your pension losing value if the investments perform poorly and the fact that your pension money could run out if you withdraw too much or you live longer than you expect. In contrast, an annuity guarantees a fixed income, so it’s much more predictable.

Bear in mind that if you choose income drawdown, you can later decide to use your remaining pension money to buy an annuity.

PensionBee puts you in control of your retirement saving by combining and transferring your pensions into a new plan that you can easily manage online. 

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