Fall in income drawdown

Investors are taking a more cautious approach to drawing cash out of their pension funds as a result of the economic climate, according to new research.

Just over a quarter of financial advisers said their clients had been withdrawing less money from income drawdown pension plans in the past year, in a survey carried out by the Financial Times and Skandia, the investment group.

Investors can currently access their pension funds at the age of 50 – although this is set to rise to 55 from next April. They can either buy an annuity – in which case they receive an income for life, but the pension money is locked away with an insurance company – or they can choose income drawdown, which leaves their pension money invested in the stock market.

The survey found that the most common reason cited for choosing income drawdown was that people did not want to hand all their pension money to a life company via an annuity.

Income drawdown plans were also favoured for their flexibility. They allow investors to alter the amount of income they can take from their pension investments, ranging from no income at all to 120 per cent of the maximum income that they would have received if they had bought an annuity. This amount is calculated annually, although the amount actually drawn can be changed more frequently – for example, an investor can opt to receive no income at any point.

Many of the advisers surveyed said the ability to alter the amount received was important to their clients. A third of people in income drawdown currently take no income from their investments, according to the survey.

Laith Khalaf, pension adviser at Hargreaves Lansdown, said that investors often preferred to take no income and rely instead on the 25 per cent tax-free cash from their pension.

Buying an annuity also gives investors this tax-free cash option, but they have to commit the remaining 75 per cent of their funds to the annuity purchase.

With income drawdown, though, investors can take the cash if they need it before retirement – perhaps to pay off bills or to supplement their income – and leave the rest of their pension invested.

A flexible drawdown option is also useful for self-employed people who have variable earnings. They can choose, for example, not to take pension income in years where their earned income is higher.

Others may opt not to take income (or to take lower levels) after stock market falls have dented the value of their pension.

Khalaf said it was “very wise” to opt to take lower levels of income when markets are falling. “You can take a high level of income from drawdown but, if you do that, you’re exacerbating the risk of depleting your fund,” he warned.

Some people, in contrast, want to deplete their funds as fast as possible. These tend to be investors with other sources of income, or those using income drawdown to reduce their inheritance tax bill.

Unlike an annuity, what is left in an income drawdown on death, up to age 75, can be passed to heirs with a 35 per cent tax rate.

Nick Fletcher, of London-based advisers Saunderson House, says that inheritance tax planning is a “major motivation” for the majority of his clients who opt for income drawdown.