Falling pension values are now forcing more people to defer, or ‘phase’, their retirement by staying on in work for a few extra years – sometimes on a part-time basis.
Research published this week by MetLife revealed that 54 per cent of people now think their pensions will fall short of expectations, and are worried about their retirement income.
As a result, Rachel Vahey, head of pensions development at Aegon, has forecast an increase in phased retirements, as people work longer to make up for stock market falls that have wiped up to a third off the value of many pension funds.
“Phased retirement has always been traditionally seen as a way of bringing in early retirement. But what we will see is that people will carry on working until 65 and it will be a way of extending their working life, not cutting it short,” she warns.
Planning for phased retirement has been made easier by changes to the pension rules in 2006. “In the past, it was a bit fiddly but now it is straightforward,” says Ian Naismith, head of pensions market development.
Investors are now are able to cash in their pension one part at a time, and each time they cash in a segment, they can take 25 per cent of that part as a tax-free lump sum.
Naismith says many people encash some of their pension in their 50s and use the tax- free cash to pay off their mortgages.
But more and more people are using the cash as a supplement for income when they go part-time, he says.
Using the tax-free cash as income can also save on tax, as it could prevent people in the basic rate tax band from becoming higher rate taxpayers. Pension investors with families are using the tax-free cash to help cover additional costs in the short term, such as paying for children’s university fees, according to Lee Smythe at Killik.
Encashing part of a pension is also useful for people who think their income may fluctuate – for example, people who are self-employed. In income drawdown, the income from the remaining 75 per cent of the pension can be varied from nothing at all in one year to 20 per cent above the equivalent annuity rate in another.
Vahey suggests that people could also encash the different pensions they have at different times. Many people who have changed jobs have pension pots scattered among various employers. One option is to consolidate these pots into one pension, purely for ease of administration. But investors could instead opt to encash one at a time, she says.
One thing to bear in mind, she warns, is that some older pensions may come with guaranteed annuity rates that are only offered at a certain retirement age. So anyone retiring after that age may lose out on the guarantee and receive a lower income than they would have done.
Vahey also warns that it will probably be impossible for anyone in a final salary scheme to phase their retirement – though they could check with their employer.
Those who are able to delay their retirement should have reasonable expectations, advisers warn.
Laith Khalaf at Hargreaves Lansdown says that people cannot bet on the value of their pension recover- ing quickly, but the odds of it recovering over five years are much better. “There’s no guarantee that your fund will be much higher than it is now and it could be lower over the next year or two,” he warns.
People delaying retirement are also taking a gamble on the direction of annuity rates, which could be about to fall. Khalaf says a better bet for the short term could be to defer taking the state pension, which removes any annuity risk and comes with a guaranteed increase of 10.4 per cent a year in income.
