Making the Most of a Smaller Pension Pot

Pensions allow a greater freedom when it comes to managing your finances. The flexibility of pensions means that you can place your money in whatever scheme however you like. Each has different benefits and is designed for various personality and investment types.

Your pension is something you save for over most of your life, with this pot expected to see you through retirement. However, with life expectancy rising, retirees are now facing the task of making the most of their pension and still being able to rely on it until they die. Although many of us are saving all our working lives, we can still find the amount lacking. We’re looking at how to make the most of your pension, whatever the amount.

Pension freedom rules

The arrival of pension freedoms is giving retirees more options when it comes to their pension. There are three choices that we’ll be considering. Each of these will work for a smaller pension pot, so it is best to choose a scheme that you feel comfortable with.

  • Buy an annuity: This is an insurance product which allows you to swap your pension savings for a guaranteed regular income. The amount you receive is determined by your annuity provider. It is a good idea to shop around, as rates change between providers. This is a good option if you want a steady income and don’t want your retirement income to be subject to market fluctuations. Annuities provide good financial planning and mean that you won’t spend your savings pot too soon. It is not advisable if you have a short life expectancy or want to keep your money invested.
  • Move your pension to a drawdown scheme: A drawdown keeps your pension invested. This will provide you with a regular retirement income, as you can withdraw money from your pension pot, while still investing it. As you withdraw, 25% can be taken tax-free, while the remainder is taxable as income. You can choose how much income to take, being able to start, stop or vary the amount at any time. While this can help to increase your pension due to investment, it can also decrease the amount through poor investment or market fluctuations.
  • Keep your pension where it is: You can choose to leave your pension in its scheme. From here, you can take multiple lumps out of it, with the first 25% being tax-free. This allows you control over the amount of money you withdraw. While your pension scheme will not grow, it is also not subject to changes in investment markets. This is a good solution if you are good at controlling your money or have a short life expectancy so don’t need to make your money last a while.

Smaller pension pots

While pension pots between £30,000 and £50,000 may seem like large amounts, this must last you for the rest of your life. Over many years, you can see this amount stretched thin. Annuity remains a safer option, providing simple and constant income.

Alternatively, a flexible drawdown scheme is advisable for people willing to take a slight risk. This means your pension will be invested in markets and you are free to take as much taxable income from it as you would like. The best possible outcome of this method is that the growth helps to spread your money for longer. The flexibility of the amount you can take also allows you to adjust to your current financial needs should you face an emergency. While it is important to remember risks, such as withdrawing too much too fast and poor market activity, it is a viable option for a smaller pension pot.

If you are unsure of which method is best for you, seeking a professional financial adviser’s help can give more information on what is right for you.

Pension pots below £10,000

With funds this small, it is uneconomical for your pension to provide annuity. While there are some constraints, the government generally allows for small pots to be taken in cash. You must be at least 60 years old to take this option. Once you have your money withdrawn, there are more options open to you, such as investing your pot in stocks.

This provides some risks, so you must understand all the pitfalls of your investment. It is advisable that you talk to a financial adviser before making any high-risk investments with your pension later in life.

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How Gifting Money can Help to Cut Inheritance Tax

With many people looking to give their loved ones as much as they can after they die, more are looking into the best way to minimise the inheritance tax paid. While you can gift up to £3,000 a year, you can actually increase the amount by gifting as part of a couple.

Couples can give away their money before they die without facing inheritance tax if they gift it in certain ways and at opportune times. This enables you to reduce your estate, still ensuring that your loved ones are taken care of throughout your life and after.

When to spend your money

Through carefully gifting some of your money to your loved ones each year, you may be able to save your relatives a lot of money in tax:

  • Give away money each year: Each year, you can gift £3,000, which can be given to one person or split amongst a few. While this is fairly common practice, it is important to know that if you do not use your allowance one year, it can carry forward into the next. However, you shoudn’t try to attempt to roll over multiple years to give away a bigger sum, as this is generally not accepted.
  • Unlimited small gifts: It is important to remember that you can make unlimited small gifts of up to £250 each in any tax year, as long as they are to different people. If you go over this sum, it can count towards the £3,000 limit. It is a good idea to use this for Christmas and birthday presents. If you use this for your grandchild’s presents, it is an easy way to give them money and subtracting from your estate’s total.
  • Wedding gifts: Parents can also give their children a gift when they are getting married. You can each give up to £5,000 to your children any time before the wedding day. This cannot be used after they are married. If your grandchildren get married, you can gift them up to £2,500. For friends and other relatives, you can gift up to £1,000. As well as this, you can pay for anything in the wedding, such as wine and catering, but if you give money for the honeymoon, you must do this before the day. Keep a record of all the gifts you have given with your will.
  • Contributing to living costs: If you are supporting an older person, a child under 18 or in full-time education or an ex-spouse, you do not have to worry about income tax. As it is helping with someone else’s living costs, it will fall under the special exemption. This gift will be tax-free.
  • Charitable donations: Helping charitable causes can also help to bring down the value of your estate. As they are free from tax, you can donate at least one-tenth of your net wealth. This may mean that the government may cut your inheritance tax rate from 40 per cent to 36 per cent.

What are the restrictions on this?

If the total value of your property, savings and other assets exceeds £325,000, or £650,000 if you’re a married couple, what you leave as an inheritance will be taxed. HM Revenue & Customs will take 40 per cent of your estate when you die.

If you are below this, there is no need to worry. You may even be able to use an extra £100,000 allowance for your main property to remain below this number.

While this may help to cut down your Inheritance Tax bill, it is always best to check with a financial adviser before you act. While these rules are tricky to apply, they can help to save you a great deal of money in the long run.

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