Final Salary Pension - Should I Take The Lump Sum?

Final Salary Pension – Should I Take The Lump Sum?Written on July 2, 2013 by Kirk Rice LLP

Financial Services Questions

The Question:

I have a Final Salary Pension Scheme and I have been given 2 retirement options; the first is a Pension only, the second is a lower Pension plus a Tax Free Lump Sum. My understanding from talking to former colleagues who have now retired is that taking the Lump Sum is the best option. What do you think?

Kirk Rice LLP answers:

Taking the Pension Commencement Lump Sum (PCLS, formerly called Tax Free Cash) is generally accepted as being the best option. But what is ‘generally right’ does not mean ‘specifically right’ for you so review the options taking in to consideration your circumstances.

The ‘general;’ reasons why it can be beneficial to take the PCLS include one or more of the following. It is Tax Free and can be invested/saved tax efficiently whereas the Pension Income is taxable. This may be the last opportunity for you to realise a Lump Sum (lottery win or Inheritance aside). You may have a specific need, home improvements for example.

The PCLS can be invested/saved and as well as any profit/interest realised you can draw upon the capital if needed. The Spouses Pension payable from a Final Salary Pensions is often the same regardless of which option you choose. If this applies taking the PCLS means that should you die your spouse will receive the same income and (assuming it has not been spent) she will also have the PCLS. Taking the PCLS may be beneficial if your health is poor. ‘General’ reasons why it is not beneficial to take the PCLS can include one or more of the following.

The Commutation Factors used by Final Salary Pension Schemes are not generous and if you try to use the PCLS to generate the same income that you have given up you will typically need it to realise a return of 6%pa or 7%pa. The Pension Income that you are giving up will typically increase in payment so year on year the required return needs to increase to match the Income. If you have a large amount of other savings or investments taking the higher income rather than extra cash may be better. Taking the Pension without the PCLS may also give you the income you actually need in retirement. There are pros and cons for both some of which I have highlighted in my response. You need to decide which option would best suited to you and your spouse taking it to consideration your circumstances, so get advice would be my final message.

If you would like more advice regarding this issue or any other financial services matter, please contact us.

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Please note: answers are given for general guidance only and specific advice should be taken before acting on any of the suggestions made.

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