Seven pension tips to get you retirement ready

What are the main items to put on your to-do list in the latter stages of saving and investing for retirement? 

To tackle this topic Kyle is joined by Craig Rickman, personal finance editor at interactive investor. Craig shares seven key considerations to bring your retirement plans into sharper focus.  

In the episode, Kyle and Craig discuss the following: 

• Firming up your pension plans (00:59) 
• The merits of consolidating pensions (04:53) 
• ISAs, the state pension, and boosting pensions in the run-up to retirement (06:51) 
• Keeping money invested, buying an annuity, or doing both? (13:58) 
• Reducing risk (or not) in the run-up to retirement and ideas for building a defensive buffer (18:09) 
• ‘Bucket’ strategies of multiple portfolios for different time frames (25:14) 
• The 25% pension tax-free lump sum: take it all at once or in stages? (26:13) 

• Invest with ii: SIPP Account | Stocks & Shares ISA | See all Investment Accounts

Kyle Caldwell, funds and investment education editor at interactive investor: Hello, and welcome to On The Money, a weekly podcast that aims to help you make the most out of your savings and investments.

Before we start, I just wanted to say that we’d love to hear from listeners. So, if you have a pension or investment question that you would like us to tackle, or you have an idea for an investment or pension topic that you’d like us to cover on the podcast, then do get in touch by emailing: OTM@ii.co.uk.

Now, the focus of this episode is one that we think will hopefully resonate with a lot of our listeners.

We’re going to be talking through top tips and tactics ahead of retirement in regards to how your pension is invested.

Joining me to tackle this topic is Craig Rickman, personal finance editor at interactive investor. Craig, great to have you back on the podcast again.

Craig Rickman, personal finance editor at interactive investor: Great to be back on, Kyle.

Kyle Caldwell: So, Craig, the way you’ve approached this is by focusing on a hypothetical scenario of someone being around five years away from retiring.

You’ve come up with seven tips to help people get ready for retirement. The first tip is to firm up your retirement plans. So, how does someone even get started in that scenario? How do they practically firm up their retirement plans?

Craig Rickman: Well, probably the first thing is the five-year point. When you’re five years from retirement, obviously it’s edging closer. But there’s also time to put things right if there’s a shortfall in terms of the savings that you have compared to where you need to be. You’ve still got a bit of time to make the necessary tweaks to get yourself in a place where you can retire on your own terms.

But, yeah, when you get to five years from the point when you’re looking to retire, then your plans for retirement, or your plans for when you’re packing up work, really need to start to firm up.

Your focus needs to sharpen, and it’s really about drilling down into what you want your retirement to look like. What are the things you want to do? How much are those things likely to cost you? Is your preference for a hard stop or to phase retirement in gradually over a number of years?

Perhaps you’ll continue to work part time in retirement. There’s no one-size-fits-all to it. Everyone gets to select the retirement that they want, and retiring on your own terms obviously means different things to different people. It’s a personal thing.

But, yeah, five years is the point where you really [need to] start to have a real clear view of what you want your retirement to look like.

Kyle Caldwell: In terms of working out how much you’ve currently got in your pension when you’re around five years away from retiring, it’s a case of simply going through every pension you’ve got.

Some of them you might have to track down via the Pension Tracing Service, which can be very useful. Then work out what you’ve got, and where you want to get to, to ideally have x amount to live off in retirement, or to fund your lifestyle in retirement.

Craig Rickman: Yeah, absolutely. One of the key things is to round up all the savings that you plan to use for retirement.

So, typically, that will be pensions, or the largest pot or pots, because people get pensions through their workplace, they have done since auto enrolment, but also long before that as well.

So, it’ll be rounding up any pensions that you have, any savings, any investments. And like you say, making sure you know where they are and how much money you’ve got to help you live the retirement that you want.

But, as you say, some of these pensions might need tracking down, and you can use the Pension Tracing Service. You can also contact old employers.

That’s a really useful exercise to track down these pensions, especially if there are some that you’ve forgotten about. It can be quite a nice surprise to find a pension that you perhaps didn’t think existed.

In some cases, if these pensions are old, they might be worth quite a bit of money, especially if they’ve had time to compound over the years.

That provides the really key yardstick of where you are before you edge towards retirement and can inform some of the key decisions you make over the next five years.

Kyle Caldwell: Once you’ve rounded up all your pensions, tactic number two that you’ve come up with, Craig, is to consider consolidating those pensions.

For me, the main benefit of consolidating is that it’s easier to manage. It’s all in one place. Another benefit is that you can end up paying less through consolidating.

Is there anything further to add to those points, Craig?

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Craig Rickman: No. That’s absolutely right. Consolidating can be a really worthwhile exercise, just getting several pensions and putting them together under one roof. Like I say, it just makes things easier to manage.

You can have a very clear view of what that pot may provide, especially if you punch the figures, or the pot sizes, into pension calculators against the size of the pot or the level of income that you might want in later life.

So, rounding them up can be helpful with that. It can also be a really good way to manage investment risk as you approach retirement. We’ll certainly be coming on to that. But you can make some of the key decisions on how you manage risk in those key years before you approach retirement.

When you’re looking to consolidate, there are some things to watch out for. Some pensions may contain some valuable guarantees that would be lost if you switch them.

One example would be guaranteed annuity rates on retirement annuity contracts. These are kind of old pension schemes from the 1980s. With newer pension schemes, any kind of guarantees or valuable benefits are unlikely unless it’s a defined benefit pension scheme. But in terms of defined contribution, they typically apply to older schemes.

But either way, it’s worth checking that you’re not going to lose anything really valuable by switching.

Kyle Caldwell: The next tip that you’ve come up with is to look beyond pensions. So, you may have ISAs, and you also need to factor in the state pension. Obviously, if you retire, say, in your late 50s or early 60s, you’re not going to get the state pension at that point, but you will in future, and you can plan accordingly to factor that in at a later stage.

Craig Rickman: Absolutely. Yeah. The state pension is a really important source of retirement income for basically everyone. From April, it’s going up to the full state pension. The full new state pension is going up to around £12,500 a year.

It’s a really important source of retirement income to meet day-to-day costs. So, as you approach retirement, it’s worth getting a state pension forecast to check that you’re on track to get the full amount. You need 35 years’ worth of qualifying national insurance contributions or credits. If there are any gaps in your records, you might be able to plug them by making additional national insurance contributions. So, yeah, that’s a really important thing to check and to get the full amount. Your retirement lifestyle will thank you if you do that.

Anything else that you plan to use, that could mean stocks & shares ISAs, buy-to-let properties, cash savings, or you could own a business that you’re perhaps looking to sell or pass down to younger generations and have some involvement with.

The point is that you’re looking at everything. You’re looking at all the sources that you plan to generate retirement income from, and you’re looking to make sure that you’ve accounted for them by the time you reach retirement.

Kyle Caldwell: I appreciate that this is a big topic that we could probably do the entire podcast on, but where do you sit on the debate between ISAs and pensions in terms of which one would you look to withdraw from first?

Craig Rickman: Yeah, that’s a big question. The considerations around that have changed recently in light of the government’s decision to bring pensions into the inheritance tax net from April 2027.

Historically, people would look to draw - or maybe currently to some extent - from ISAs first. The main reason being that pensions are inheritance tax free, so it could be quite a useful estate planning tool if you’re draining the ISA money first and then leaving the pensions to be inheritance tax free.

But in light of the new changes, that appears to be reversing. So, people are looking to perhaps draw pension income first and leave ISAs untouched.

Those are decisions that you can park for the time being if you’re five years from retirement. But it does tap into a crucial point about having multiple tax wrappers when you get to retirement. So, having money in a pension and in an ISA can just broaden your options and how you draw retirement income.

Pension income - other than the amount you can draw tax-free, which is either normally 25% up to a maximum of £268,275 - is taxable.

It doesn’t necessarily mean you’ll pay tax because everyone gets a personal allowance, a tax-free allowance. But ISA withdrawals are tax free. So, it just means that you’ve got plenty of options on how to draw income, and keeping tax bills low in retirement is a really important thing to do.

So, that’s another thing to get ready within your portfolio as you approach the point that you plan to pack up work.

Kyle Caldwell: Once you’ve rounded up all your pensions, and considered potentially consolidating, what happens in a scenario where you look at how much you’ve got and realise you’re quite a bit off where you want to be, ideally? There’s quite a considerable gap between the amount you’ve got in your pension today and the amount you’d ideally like when you retire? What are the ways that people can try and address that gap, Craig?

Craig Rickman: Good question. So, there are a few. One is to delay your retirement, so push it back to give your savings more time to grow and give yourself more time to pay money in. That leads us to the second one, which is just to beef up your pension savings.

That’s why it’s really important to look at this when you’re few years out from retirement because you’ve still got time to top up. It might be topping up your pensions, it might be other assets such as ISAs, for example. But you can start to give your savings a shot in the arm before you either buy an annuity, go into drawdown, or do a bit of both.

In the years before retirement, you’re typically earning good money, or as much money as you would have earned in your career unless you’ve started to take a bit of a backseat. So, in that example, if you’re earning lots of money and paying lots of tax, that’s where pension funding can become key because you get upfront relief at your marginal rate.

It’s also the time if you’ve received an inheritance, for example, that you can use things such as carry forward relief. You don’t have to have received an inheritance, you could have just built up some cash savings. But you can use things like carry forward relief as well.

So, you have time to do something about it, which is either boost your savings or maybe rethink the point that you plan to retire.

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Kyle Caldwell: Carry forward relief is when you can put money into your pension when you’ve not put the full amount in over the three previous years. Is that correct?

Craig Rickman: Yeah. So, it allows you to tap into unused pension allowances from previous tax years. So, there’s an annual allowance on what you can pay into pensions, which is the lower of 100% of what you earn or £60,000.

For example, if you earn £70,000 a year, the most you can put into pensions is £60,000 under the annual allowance.

So, if you do have unused allowances in previous tax years, and as long as you’ve been a member of a UK-registered pension scheme during those years, then you might be able to bring forward allowances from those tax years and potentially pay in more than £60,000.

So, it supports those who have got either big cash savings or those who have received an inheritance, have a big income, and want to make up for lost time.

Kyle Caldwell: Next up on our list of tips and tactics ahead of retirement is to consider whether you’re going to keep the money invested in retirement, take out an annuity, or do a bit of both. Craig, could you talk through each of these options?

Craig Rickman: I can indeed, yeah. Essentially, there are two retirement income products that you can use for your pension. The first, as you note, is an annuity, which is a guaranteed income. If it’s a lifetime annuity, that’s it.

That means, yeah, for life. So, you trade some or all your pension savings for that facility. So, you no longer have access to that pot of money, but instead you get this guaranteed income. It’s paid to you typically every month. There are various things that you can choose and how that income is paid to you.

So, you can have it paid to your spouse or carry on to your spouse if you pass away. You can build all sorts of other guaranteed periods into them as well. So, should something happen to you, it will be paid for a certain number of years. There are various options that you can take with it.

But the thing with annuities is that they’re rigid. So, once you’ve bought one and the cooling-off period has passed, you can’t change your mind – it’s fixed for life. So, although they provide a lot of security, they’re incredibly rigid. You need to be pretty certain before you buy one. So, that’s one option.

The other is income drawdown, where you keep your money invested and draw income flexibly. That’s the popular option, or it has been since something called pension freedoms was introduced in 2015.

So, that’s what most people tend to do. Five years from retirement is the point where you may start to think about which one you want to do.

You can do a bit of both. And I think that's the beauty of it, it's trying to find the right way for your personal circumstances. Some people will do a bit of both. So, they might use an annuity to meet everyday costs and then have a drawdown pot for flexible spending. Some people might want to just have the whole lot in drawdown.

It would depend on a number of things. It would depend on how much other secured income you’ve got. Perhaps you’ve got defined benefit schemes, for example. If you do, if you’ve got a generous defined benefit scheme, that may open the door for using the rest of your savings, or your defined contribution savings, in a flexible way.

Essentially, you get to choose, but five years is a really important time to think about it because that may inform some of the decisions you make, particularly on how you invest your savings in the run-up to retirement.

Kyle Caldwell: That’s the next point we’ll come on to. I just wanted to briefly reiterate that it’s important to bear in mind that with the annuity route, once you buy an annuity, you can’t reverse the decision.

If you put it off, you tend to typically get a better rate in terms of annuities the older you are.

Craig Rickman: Yeah. It’s based on risk for the life insurance companies. The longer they expect you to live, the lower the annuity payment is going to be. So, if you take one out when you’re older, the likelihood is you’ll get paid more.

That will depend on annuity rates at the time. They can change as we’ve seen recently. They were incredibly low in the previous decade. They have been low for several years, but they’ve increased recently, they’re a lot more attractive.

But many people don’t like the rigidity of them. They like the flexibility of drawdown. The figures support that. But again, you get to choose. So, it’s important to think about it before you reach retirement rather than getting to that point where you’re very close to packing up work and then making decisions not necessarily in a panic, but giving yourself less time than perhaps you would have done otherwise.

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Kyle Caldwell: As you’ve just touched on, it’s really important to think about what you’re going to do because this will shape the types of investments that you hold.

If you’re in a workplace pension scheme, you may be in a so-called lifestyling fund. What these funds do is derisk as you approach retirement. They were designed for people who were going to buy an annuity. Whereas if you’re going to keep your pension invested in retirement, you’ve potentially got, hopefully, a 20, 30-year - maybe even more - time period to go. At that point, I just don’t see the sense in the pension being derisked when you’ve got such a long time horizon.

Craig Rickman: Yeah. Absolutely. Again, that just illustrates why it’s so important to manage your investments in the years as you approach retirement.

Kyle Caldwell: However, the good news is that there are certain tactics you can put in place to have a defensive buffer in your portfolio in the run-up to retirement.

Craig, could you talk through some of the options available for people in that scenario? So, they’re around five years away from retirement. They want to take some risk off the table, but they don’t want to take all the risk off the table because they also want to ensure their pension pot is exposed to some growth assets in order for it to, hopefully, grow?

Craig Rickman: Yeah. Sure. There’s no fixed way to go about this. And for some people, they like to manage things on a yearly basis and then consider whether they’re going to take a bit of risk off the table. That’s what some people recommend anyway, that as you age, that you take less risk.

We also must take account of the fact that risk appetite is a very personal thing. Some people are happy to take pretty sizeable risks. Others are more cautious, while some are in the middle. It’s about finding out what works for you.

But I think for most people, or most savers, as a bare minimum, even if they’re using drawdown, they’re going to want some secure assets that cover a certain number of years income should stock markets have a really tough time just before you retire to avoid selling out of the equity portion of your portfolio, which exposes you to risks such as pound-cost ravaging and sequencing of returns, which essentially mean that if you’re drawing out or you’re selling shares in periods of poor market performance, that’s going to affect how they rebound and essentially how long your money might last in retirement.

So, most people will want to build some kind of buffer. You need a Plan B. So, sometimes I think it helps just to ask yourself that question. So, if stock markets tanked 30% in the run-up to retirement, what would I do? Would it mean I still want to retire on that date, and I need some money to tide me over until things recover? Would I delay retirement? Are there other assets that I can tap into?

I think it’s just important to ask yourself that question, then you can find the answer to it. You might already have the answer to it in your portfolio, but if you don’t, you’ve got five years on your side to find it.

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Kyle Caldwell: One option on the table is having some exposure to money market funds. These funds are a very low-risk way to gain an income from a fund. So, they invest in bonds with short-term lifespans. They typically yield - so this is the income generated from the fund - around the Bank of England base rate.

At the moment, there’s a bit of a lag. There’s usually a couple of months' lag. So, you’d expect in a couple of months’ time that those money market fund yields will reduce to around 3.75%. At the moment, some of the funds are closer to 4%, but that’s an inflation-beating income return at the moment.

Of course, you may see further interest rate cuts this year. From what I read and people I speak to, the consensus does seem to be that there’ll be at least one interest rate cut this year, maybe two. And when that happens, the amount of income money market funds produce will reduce.

However, at the moment, you could treat it as a separate part of your portfolio. You could put a certain amount into a money market fund. Say, for example, you’re close to retirement, and the stock market suddenly and unexpectedly falls quite considerably, then you could dip into the money market fund rather than selling your investments. You can give your investments greater time and greater opportunity to then recover.

Craig Rickman: Yeah. I think that’s where things like money market funds are really valuable. The big decision is: how much do you hold in cash? How much security do you need?

Because with holding cash, the potential for growth isn’t as high as what you get with shares. So, if you hold cash, and you’re holding it for long periods, then that can cause a drag on your retirement portfolio’s performance. Again, that can impact on how long that pot lasts.

So, that’s the big question for people: how much cash do I hold? And that could be based on personal circumstances, income, and access to other forms of low-risk savings that you might hold outside a pension, and attitude to risk as well.

But, again, thinking about it ahead of retirement can avoid a nasty shock when you get there.

Kyle Caldwell: There are other options available. Of course, you don’t have to pick the funds yourself. You could outsource decision-making and pick, for example, multi-asset funds that will hold a mixture of shares, bonds, and maybe a little bit of cash as well.

The key things to look out for with multi-asset funds is to understand the level of risk as the ones that have a higher amount of exposure to shares will be riskier than those that have less in shares. As ever, it’s important to try and strike a balance between risk and reward.

For me, it’s not a surprise to see that a lot of people like income-producing assets at retirement, as this can help your portfolio have growth. They can also help when you withdraw some of the money from the pension, [since] you’re taking some of the money that’s been generated through dividends that have been paid.

Craig Rickman: Yeah. I think that opens up something else, which is quite a reasonably common strategy or a popular strategy that some people use in retirement, which is bucket strategies, where you have various buckets or pots for different time frames.

So, you can have one for the short term, one to four years, for example, and that might be in things like cash or cash-like savings, such as money market funds; a medium-term bucket where there may be some shares, but also some fixed interest in there as well; and then a longer-term bucket with equities. So, yeah, the longer the time frame, typically, the riskier the assets you have. And, again, as you edge towards retirement, that can be a good time to get these buckets in order.

So, again, you know that if stock markets aren’t performing particularly well, you’ve got this strategy in place. It just means that you can reach retirement with a bit more confidence as well.

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Kyle Caldwell: The last tactic ahead of retirement is to start thinking about whether you’re going to take advantage of the 25% tax-free lump sum straight away or whether you’re going to take it in stages, or delay taking it. You don’t have to take it straight away as soon as you access your pension.

Craig Rickman: That’s one of the big questions. I won’t get too much into all the speculation about tax-free cash. I’m sure most people are pretty sick of that. What’s happened with it underscored just how much value people put on the tax-free element of their pension. Like we said earlier, keeping tax bills low in retirement is really important. It means that you get to spend more of the money that you’ve saved.

So, thinking about how to use it, like you say, you can take the lot in one go if you like, or you can take it out in chunks.

Which route you go down will typically be informed by whether you need the cash for a purpose. For example, common things might be to clear debts, to go on nice holidays, to make home improvements. But if you’ve got a purpose for the money, then taking all your tax-free cash, or a large chunk of it, can make a lot of sense.

Other people prefer to withdraw their tax-free cash in stages and use it as a form of tax-free income in retirement. So, it means that the income they’re drawing out of their pension can go a bit further.

But that would depend on your situation at the time. Even thinking about how to use your tax-free cash, and if you’re thinking about debts, that’s a really useful exercise because most people want to reach retirement debt-free because that means that the money you draw from your pensions and your state pension isn’t being swallowed up by mortgage payments.

So, yes, five years out is a good time to think about that, particularly if you’re thinking about how to use your tax-free cash. The good news is you don’t have to make any decisions at that point, but it’s worth getting ahead there, so that when you do hit retirement, you’re confident that you’re aware of all the options regarding how you use your tax-free cash, and then you can select the one which is most appropriate for you.

Kyle Caldwell: Well, Craig, you’ve covered a lot of ground there. I’m sure that’s going to provide plenty of food for thought for listeners. Thank you very much for coming on the podcast again.

Craig Rickman: Thank you very much, Kyle.

Kyle Caldwell: And thank you for listening to this episode of On the Money. As mentioned at the start, you can get in touch by emailing OTM@ii.co.uk.

In the meantime, you can find plenty of practical pointers regarding personal finance, pension, and investments on the interactive investor website, which is ii.co.uk. I’ll see you again next week.