Advice on level pension v. income drawdown, please

Sapphire

Lots to think about – and all very useful. Many thanks again.

jamesd

Sapphire wrote: »

This isn't to do with a state pension, which has already been taken by the person concerned, after deferral for a couple of years.

A person who has claimed their state pension can still defer once. Since they have deferred for a couple of years they have a better deal than 5.8% inflation linked available. The deal they and others who reached state pension age before 6 April 2016 qualify for is 10.4% per year pro-rated for parts of a year, CPI inflation increases and mostly inheritable by a spouse. That's close to twice the income plus inflation linking on top and the spousal pension after death via inheritance of most of the increase.

ScoobyZ

Interesting article here regarding taking lump sum, with similair amount that you have:

http://www.thisismoney.co.uk/money/pensionfree/article-3020427/Why-SHOULDN-T-lump-sum-pension-amid-revolution.html

jamesd

The article is pretty much useless because it compares taking a lump sum and spending it all with leaving it invested by not taking it. Naturally if you have 33% more money invested you get a better result. The comparison here is between taking the lump sum and investing it in a tax free environment and in that case taking the tax free lump sum wins.

atush

In your case, you say a level annuity is what you might buy. Yet you say you are risk averse.

But would be exposing yourself to a huge inflation risk as your income would shrink (in real buying terms if not amt) by inflation each and every year until you die.

You need to read up on inflation risk.

Malthusian

atush wrote: »

In your case, you say a level annuity is what you might buy. Yet you say you are risk averse.

But would be exposing yourself to a huge inflation risk as your income would shrink (in real buying terms if not amt) by inflation each and every year until you die.

You need to read up on inflation risk.

A risk, yes, and it should certainly be considered, but huge is overstating it.

If the OP takes the tax free lump sum (which they should almost certainly do) then they will have annuity income of £4,500 per annum and State Pension possibly of arond £8,000 per annum (ignoring the question of deferral). For most people of modest means, and especially if they own their own home, the State Pension covers the essentials (food, heating etc) and therefore the part that most needs to be protected against inflation already is.

Private pension income (annuity or otherwise) is more likely to cover discretionary expenditure and it is less essential that this is protected against inflation. Particularly as people derive more pleasure from income earlier in their retirement and expenditure tends to slow as they get older (until we reach the dreaded words "care costs").

I see your inflation risk and raise you shortfall risk - not being able to do what you want because you sacrificed half of your private pension income for the sake of inflation-linking that you won't get any benefit from until your 80s is also a risk.

Inflation-linking may be needed for some but given how long it takes before you "break even" with a level annuity it has to be a very clear and specific need. (And pretty much everyone says they are risk averse - due to the way the utility of money works, humanity is inherently risk averse - so I don't see that in what the OP has said.)

greenglide

I see your inflation risk and raise you shortfall risk

easy enough to say in times of low inflation. If (when?) inflation returns it could turn out another matter entirely.

It is a risk, depends on where in a persons lifespan it does return - 5, 10, 15 years time and how critical the income that is not inflation linked is.

Malthusian

Only scenario I can imagine where it is essential to have £10,500 per annum of inflation linked income, while £12,500 per annum of which £8,000 is inflation linked risks penury, is if the OP does not own their home and needs that level of income guaranteed at all costs to pay the rent and other bills and avoid being forced to move somewhere awful.

The Bank of England has a committment to keep inflation at 2% CPI and has managed to keep its committment for nearly two decades. Interest rates are at rock bottom which gives it plenty of monetary leeway to control any future threat of inflation (interest rate rises could devastate other sectors of course but would have less of an effect on a pensioner). It would be a major shock if we saw a return to double-digit inflation within a decade, and after a decade the average 65-year-old's retirement is already half over.

There has to be a really good reason to sacrifice nearly half your private retirement income during your most active years for a future that may never come.