We spend years thinking about accumulating the pot we need to sustain us in our retirement but sometimes less thought is given to how we plan to manage our money once we retire.
Every month in Shares, AJ Bell’s senior pensions and savings expert Charlene Young covers a range of topics relevant to those approaching or already in retirement. There’s plenty to discuss as retirement marks a significant financial and lifestyle transition and making sure you have enough to live on throughout your life is really important.
The picture has become more complicated at the end of our lives too. Upcoming changes to inheritance tax rules mean that unspent pensions will soon be included within your estate for inheritance tax purposes. This shift is expected to draw many more people into the inheritance tax net, particularly those who have accumulated substantial pension savings alongside other assets.
Keeping on top of your finances after retirement
Today, individuals have the option to access their pensions from age 55 (rising to age 57 in 2028) and can tailor withdrawal strategies to suit their circumstances. This flexibility can support a gradual transition into retirement, blending part-time work with pension withdrawals, or adapting income as needs change. However, it places the responsibility for careful financial management firmly in the hands of retirees, who must also consider tax implications, investment performance, and their own longevity.
One of the most important considerations in retirement is ensuring that your pension pot will last as long as you do. With life expectancy higher than it was in the past, you could need your retirement savings to sustain you for as much as several decades. Careful planning is required to avoid outliving your savings, especially given the risks posed by market fluctuations and unexpected expenses.
Annuities versus drawdown
There are two main approaches for generating retirement income for someone with a defined contribution pension – whether that’s a SIPP or workplace pension. These are purchasing an annuity or entering drawdown. Annuities provide a guaranteed income for life, historically popular for their simplicity and security.
Drawdown, meanwhile, allows retirees to keep their pension invested and withdraw income flexibly. The latter approach has gained popularity in recent years, offering greater control but also exposing individuals to investment risk and the challenge of managing withdrawals for sustainability.
Drawdown offers considerable freedom: you can start taking money from your pension as early as age 55, select the timing and number of withdrawals, and combine income from part-time work or other sources. However, this requires regular reviews of your pension pot, investment choices, and spending habits. Retirees must contend with the possibility of living longer than expected and weathering periods of poor investment returns, both of which can threaten the sustainability of their income.
Retirement income is now a fluid and ongoing decision, not a one-off event. You can blend annuity and drawdown, phase withdrawals, and adapt your strategy as circumstances evolve. Planning is essential and you need consider not only when and how much to withdraw but also the tax implications and the need to preserve capital for later years.
What happens when you first access your pension through drawdown?
Bear in mind that withdrawing taxable income from your pension can affect future pension contributions, triggering the money purchase annual allowance (MPAA) and limiting the amount you can contribute with tax relief each year. The MPAA is triggered if you start taking income from a flexi-access drawdown plan or you take what is known as an ‘uncrystallised funds pension lump sum’ directly from your pension pot.
One thing that people could consider if they’re looking to take taxable income and want to pay in more than MPAA limit of £10,000 a year, is to just access the tax-free cash and leave the drawdown bit untouched, thereby retaining the overall maximum £60,000 annual pensions allowance.
You may also face emergency income tax on your first withdrawal. This is more likely if you’ve taken a single taxable withdrawal during the tax year. If you’re taking a regular income through drawdown, then HMRC should sort out your tax position over the course of the year.
If you have overpaid tax, you can usually reclaim it from HMRC. If you’re taking a regular pension income, HMRC will give you another tax code that puts you in the correct position over the rest of the tax year.
For one-off or ad hoc payments, HMRC should calculate any tax you’ve overpaid and refund you after the end of the tax year.
But it’s usually quicker to make a claim for overpaid tax within the tax year, using one of the following HMRC forms:
P50Z – if the withdrawal used up your whole pension pot and you have no other income in the tax year
P53Z – if the withdrawal used up your whole pension pot and you have other taxable income
P55 – if you withdrew only part of your pot, and you’re not taking regular payments
What are key risks to consider if you’ve gone down the drawdown route?
There are lots of things to think about when it comes to your money in retirement, assuming you’ve entered drawdown, but there are two fairly broad risks which are worth keeping in mind.
Longevity risk: Will your pension last as long as you do? Many underestimate their own life expectancy – at age 66, average life expectancy is 85 for men and 88 for women, with many living into their 90s.
Sequencing risk: Poor investment returns early in retirement, combined with withdrawals, can harm the sustainability of your pension. The table shows a hypothetical example of the impact this can have.
Strategies to mitigate this include withdrawing less during market downturns and taking a ‘laddered’ approach, with cash and low-risk assets for short-term spending, leaving higher-growth investments for later years.
RUNG 1: Short-term (years 1–2): Cash or cash equivalents (bank accounts, money market funds) to cover immediate expenses. This provides liquidity and avoids selling investments during a market downturn.
RUNG 2: Medium-term (years 3–5): Low-risk, income-producing assets such as bonds or conservative “balanced” funds to replenish the cash buffer.
RUNG 3: Long-term (years 6+): Growth-oriented investments (equities, property) to fight inflation and grow capital, allowing for higher volatility since the money isn’t needed immediately.
You could also rely on so-called ‘natural income’ from your investments, for example in the form of regular dividends.
Key dates and ages in retirement planning
New tax year (6 April): Brings new pension and income tax allowances, along with increases in the state pension.
Normal minimum pension age: Currently 55, rising to 57 from 2028.
State pension age: Currently 66, increasing to 67 between now and 2028 and likely to rise again in future years.
Age 75: This is the cut-off for receiving tax relief on pension contributions. Contributions are allowed after 75, but without up-front tax relief. Some providers will not take contributions after this age.
Changes to inheritance tax
Under current rules, pensions can be passed on tax-free to beneficiaries if you die before age 75. If death occurs after 75, beneficiaries pay income tax on withdrawals from inherited pension pots.
However, from April 2027, unspent pensions will be added to the estate for inheritance tax purposes. This change is likely to impact many families, prompting the need for more sophisticated financial planning to mitigate tax liabilities and ensure the efficient transfer of wealth to loved ones.
The landscape of managing your retirement income is evolving rapidly. While flexibility has increased, so too have the risks and responsibilities facing retirees. It is essential to devise a strategy, understand the available options, and regularly review your plans to make sure your pension pot lasts the distance.
Listen for more
You can access the free AJ Bell Money & Markets Deep Dive podcast in the usual podcast places. It looks at a range of investment topics in detail including pensions.
Tom Sieber: Content Editor
Tom Sieber is AJ Bell's Content Editor. He was previously the Editor of Shares Magazine. He has been with the business since 2012.
Tom is a regular contributor to the AJ Bell Money & Markets...
