Tax-efficiency in retirement: keeping more of what you’ve saved

Being more tax-efficient will help keep as much of your hard-earned savings as possible and is crucial in maximising your retirement income. This article will provide you with valuable insights into tax-efficient strategies, which could help achieve a more comfortable retirement.

Understand your tax allowances

One of the first steps to becoming more tax-efficient is to understand some of the most common allowances and different ways to save:

• Tax relief on pension contributions - Contributions to your pension are made from pre-tax income, which means you receive tax relief on the amount you contribute. For example, putting £400 into a pension each month would only cost £320 for someone paying tax at 20%. It could cost even less for those paying tax at a higher amount.

• Personal allowance - This is the amount of income you can earn each year without paying income tax. For this year, it’s £12,570.

• Your tax-free allowance - When you access your pension, you can usually take up to 25% as a tax-free lump sum. There are other options available, where you can take 25% of each withdrawal you make tax-free instead of taking it as one lump sum.

• Individual Savings Accounts (ISAs) - ISAs allow you to save and invest money without paying tax on the interest, dividends or capital gains. The annual ISA allowance for this year is £20,000. Although please remember, as with all investments the value can fall as well as rise and you may get back less than you put in.

• Personal savings allowance - If you’ve got money in a bank or building society some of the interest you earn may be tax-free. For a basic rate tax payer, you can earn £1,000 each year tax-free. For a higher rate tax payer it’s £500 and £0 for additional rate

• Dividend allowance - If you have investments in dividend-paying stocks, you can earn up to £500 in dividends tax-free each year. 

Please remember that tax rules can change and the impact of taxation and any tax relief depends on your circumstances, including where you live.

Manage your income

It’s important to manage all your sources of income as a collective to help minimise tax liability. Here are some things to consider:

• Flexible cash or income (known as drawdown) - drawdown allows you to take flexible withdrawals from your pension while keeping the remainder invested. By carefully managing your withdrawals, you can stay within certain tax brackets and reduce your tax liability.

• A guaranteed income for life (known as an annuity) - you can use some or all of your pension to buy an annuity which provides a guaranteed income for life. While annuity income is taxable, it can provide a predictable income that can be managed alongside other sources of income.

• Deferring your state pension - if you can afford to delay taking your state pension, you would receive an increased amount when you do start claiming it. This can be a useful when trying to manage your income and tax liability.

These are just options you may have and shouldn't be taken as advice. Every person has their own unique set of circumstances and what's right for one person may be wrong for another. 

Consider inheritance tax

Inheritance tax (IHT) is another important consideration. IHT is charged at 40% on estates above the nil-rate band, which is currently £325,000. However, there are ways to reduce any IHT liability:

• Leaving the family home to children or grandchildren will give you an additional allowance, the residence nil-rate band, of £175,000.

• You can use gifting allowances each year. It is possible to make gifts that are instantly free from IHT. This depends on the amount given, who it’s given to and when. For more details on gifting, please visit www.gov.uk/inheritance-tax/gifts

• You can make make gifts larger than the allowances, but you need to live for at least seven years after making the gift for it to be fully free from IHT.

• Setting up a trust can help you manage your assets and reduce IHT liability. Trusts can be complex, so it's essential to seek professional advice.

We strongly recommend getting financial advice

Navigating the complexities of tax-efficiency in retirement can be challenging. Getting something wrong, especially with IHT can be very costly. This is where a professional financial adviser can make a significant difference. Getting financial advice is the best way to make sure you’re as tax-efficient as you possibly could be. It can also give great peace of mind knowing an expert is looking after this complicated topic for you. To find out how we could help, simply click the button below.

Speak to one of our retirement advisers today