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  • Maximising retirement income: A guide to tax-efficient withdrawals, including State Pension

    Here's how to create a strategy to help you maximise your retirement income while minimising tax liabilities. We'll consider using income sources such as cash savings, ISAs, and even the State Pension.

    Last Updated: 8 April 2024

    As you approach retirement, one of the most crucial financial decisions you'll face is how to withdraw money from your various sources to fund your post-work life comfortably.

    While pensions are the natural choice for retirement income, the tax benefits they bring depend greatly on your circumstances and your future plans.

    Please note: This is not personalised advice. Unlike cash, the value of investments goes up and down so you could get back less than you invest.

    The order in which you access your retirement savings and pensions will depend on a number of factors including your decisions around semi-retirement, how your plans coincide with your family's and more. Plus, pension, ISA and tax rules are complicated and they can change, so a wider view of your finances should be considered before making tax decisions. Make sure you understand all your pension income options and their risks. If you're at all unsure, please seek financial advice.

    If you're aged 50 and over, you can also get guidance from the government's free and impartial Pension Wise service.

    Start with cash savings

    Before tapping into your pension or ISA, or starting to receive the State Pension, you could consider using your cash savings.

    If you can use some of your cash and delay withdrawals from other tax wrappers, you'll allow them to potentially grow tax-free using the compounding benefits of being tucked away for longer.

    Using cash savings during the early years of retirement can be beneficial to your retirement strategy. But it's important not to burn through all your cash. You should always keep some cash aside to help you pay for emergency expenses or cover you if your income from other sources drops. As a rough guide, we suggest holding 1-3 years' worth of essential expenditure in easily accessible cash when you retire.

    Consider your ISA

    Individual Savings Accounts (ISAs) allow you to withdraw money without incurring income tax. This can make them an attractive option for retirement income. Although it's an effective tax strategy to withdraw from an ISA, it can be good to continue to let any investments held within them grow. So, consider using your cash savings first.

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    Deferring your State Pension and accessing your personal pensions

    If you retire before you're 66 (rising to 67 by 2028) you won't be able to access your State Pension straight away anyway. But if you can put off accessing it beyond your 66th birthday, the new State Pension will increase by around 1% for every nine weeks you defer it (1% for every 5 weeks for those who qualify for the old State Pension). That said, you'll also miss out on guaranteed income during the time you defer. So it's important to understand your cash flow situation and whether or not you can afford not to start taking your State Pension.

    Typically, you can't access your personal pension until you're 55 (rising to 57 in 2028). If you can put off accessing your personal pension longer than that, you can give it more time for potential further investment growth. Plus, if you're still paying into your pension, you can still take advantage of the tax benefits of doing that. You can get tax relief on contributions if you're under 75. It's up to the amount you earn or £3,600 if you're no longer working. The pension annual allowance is usually £60,000 but can reduce for higher earners or those who have already accessed a pension.

    Once you access your pensions, you'll start paying tax on the income you receive from them that's above your personal allowance. With the exception of the amount you can take from your personal pension as a tax-free lump sum (usually up to 25% of the fund value), and any amounts which fall into your personal allowance each year (£12,570 in 2024/25 for most people).

    Diversify your income sources

    By withdrawing from different accounts in a strategic manner, you can potentially minimise your overall tax burden. This approach may involve blending withdrawals from cash savings, ISAs, pensions (including the State Pension), and other investments to stay within lower tax brackets and reduce the impact on your retirement income.

    Seek professional guidance

    A tax-efficient retirement strategy often involves diversifying your income sources. Choosing the best way to do that and considering the balance of flexible and secure income that’s right for you can be complex.

    A financial adviser can help you make sure your investments match your goals, navigate the pension and tax rules and plan how and when you access your retirement income sources. Although, if you require complex tax calculations, please consult a tax accountant.

    More on retirement advice

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