Taking a cash lump sum

Currently, from age 55 you can take all or part of a defined contribution pension pot as a cash lump sum. What's more, you don't have to take any other benefits, nor do you have to retire:

• Up to 25% of your pension pot can be taken completely free of tax,
• The balance is taxable

If you take more than 25%, the tax you'll pay is calculated by adding the extra cash to any other income you may receive. This could push you into a higher tax bracket.

There’s a limit on tax-free lump sums called the lump sum allowance. The limit is normally £268,275, but could be higher if you have protection from the lifetime allowance.

Benefits of taking a cash sum

The attractions of taking a cash sum are:

• The money can be used to repay a mortgage or other debts. It usually makes sense to pay off debt as the interest charged is likely to be more than you could earn investing the money.
• The Government may change the rules in future, which could mean you might not be able to take a cash sum from your pension pot (or the amount you can take tax-free may change).
• If you don't need the money immediately, you can invest it in tax-efficient products like ISAs where you can withdraw money, tax-free, when you do need it.
• If you are in very poor health, it may make sense to take cash now if your life expectancy is likely to be significantly reduced.
• Your pension pot may only provide a small income, so you might prefer to take it all as cash (but remember only 25% will be tax-free).

Risks of taking a cash sum

If you're attracted by the thought of a cash sum, there are risks you should be aware of:

• You may still need to provide an income for the rest of your life. If you take a cash sum and spend it, will you still have enough to live on throughout your retirement?
• If you take more than the tax-free limit of 25%, the excess is added to any other income you have and tax is calculated on the total. This could push you into a higher tax bracket.
• Taking a lump sum could affect your entitlement to means-tested state benefits. Any benefits you receive could reduce as a result.

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