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10/05/19Thinking about accessing your pension at 55? You need to consider the MPAA first

With pensions available to access and spend from the age of 55, you may decide you want to make one or more withdrawals before you give up work completely. However, there are a number of things to consider before proceeding, including the Money Purchase Annual Allowance (MPAA).

First, it’s important to understand how accessing your pension early will affect your long-term financial security before you even begin to consider making a withdrawal. Your pension is designed to support you throughout retirement, and there can be a real risk of running out of money in your later years. In some cases, taking out money at the age of 55 is the right decision. However, you need to carefully weigh up the drawbacks to assess if it’s right for you.

The MPAA

If you’re withdrawing money from your pension at 55, you may be planning to still work in some form. As a result, you may want to continue contributing to your pension, building up benefits further for when you do decide to retire completely. But the amount you can put away each year into Defined Contribution (money purchase) pensions tax efficiently would be limited if you become affected by the MPAA. You can take your tax-free cash sum (pension commencement lump sum) without causing the MPAA to apply but taking taxable withdrawals from a drawdown plan or taking lump sums under the Uncrystallised Funds Pension Lump Sum rules (which are part taxable and part tax-free) will mean the MPAA takes effect.

The MPAA is currently just £4,000 per tax year, severely restricting how much you could contribute to your money purchase pension tax efficiently. This compares to the usual pension Annual Allowance which is £40,000 for most people (restricted for higher earners). If you’re used to putting sizeable contributions into your pension each month, and hope to continue this, the MPAA could have a serious impact on your financial plans.

It covers not just your contributions, but those your employer may make too. So, if you’re part of a generous pension scheme where your employer makes significant contributions on your behalf, you could find yourself breaching the MPAA quicker than expected.

Going over the MPAA means the excess contributions (whether employer or your own contributions) will be subject to income tax and may mean that paying into a pension isn’t the most effective way to save for retirement.

Many pensioners are unaware of the MPAA

Giving consideration to whether triggering the MPAA will affect your pension savings and retirement goals before making a withdrawal is important. However, it’s an area many of those that have accessed a portion of their pension aren’t aware of.

According to research from Canada Life, over a fifth of people over the age of 55 that were accessing their pension flexibly did not know the annual limit they were now restricted by.

Canada Life’s Technical Director Andrew Tully said: “The severe restrictions on the amount that can continue to be paid into a pension once benefits have been withdrawn are likely to catch many people out, leaving them vulnerable to large tax bills.

“Navigating the various rules around pensions and retirement can leave people exposed, especially if they have chosen a DIY retirement. Many people are taking advantage of the Pension Freedoms and yet have no plan to fully retire for many years, so the MPAA is likely to catch out the unwary.”

A transitional retirement is becoming increasingly popular among retirees, with thousands choosing to gradually give up work. As a result, it’s likely that the number of people affected by the MPAA will rise.

What should you do if you want to access your pension early?

As we mentioned above, the first step to take here is to fully understand how it could affect your overall retirement income. If you knew taking a lump sum at the age of 55 would mean your aspirational retirement lifestyle became unaffordable, would you be willing to make compromises? You may find that taking a lump sum now could improve your financial security now and, in the future, for instance, if it were used to pay off debt. Make sure you’re aware of how it’ll affect you in the short, medium and long term before you make a withdrawal.

Next, you should think about whether you’ll still contribute to your pension after this point. If not, you don’t have to worry about the MPAA. But if you do, it’s worth looking at what your current pension contributions are and how you expect this to change. In some cases, again, the MPAA won’t affect you. However, if you’re hoping to put more than £4,000 into retirement savings each year (including any employer contributions), you should weigh up the cost of triggering the MPAA.

In some instances, it can be worth surpassing the MPAA and paying the tax bill when the time comes. For example, if you benefit from generous employer contributions that still make it an attractive option. On the other hand, there may be alternatives that are now better suited to you, such as saving into an ISA (Individual Savings Account) or investment portfolio.

If you’re unsure whether the MPAA will affect your retirement plans, please contact us. We’re here to help you understand how the decisions you make now could affect your future.

Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits.