Retirement planning is a journey that evolves over time. Whilst attention is often paid to the accumulation phase, where individuals diligently save and invest for their future, the transition into the decumulation phase is equally crucial.
Decumulation marks the shift from saving to spending which requires careful consideration and strategic planning to ensure financial security and peace of mind throughout retirement. In this blog, we'll explore the key steps and considerations involved in successfully moving into the decumulation phase of retirement planning.
Understanding the decumulation phase
The decumulation phase, also known as the distribution phase, begins when individuals start drawing their retirement savings to fund their living expenses. This phase typically starts at retirement but can vary depending upon individual circumstances and goals. Unlike the accumulation phase, where the focus is on growing wealth, decumulation requires a shift in mindset towards managing and preserving assets to sustain a desired standard of living throughout retirement.
Key considerations for moving into decumulation:
Assessing ongoing financial needs: The first step in transitioning into the decumulation phase is to assess your financial needs and establish a budget for retirement expenses. Start by creating a detailed budget that accounts for all of your anticipated expenses in retirement, including essentials like housing costs, utilities and insurance premiums, as well as discretionary spending on leisure activities and travel. You should also factor in one-time expenses such as home renovations or major purchases. It is important to also consider inflation and how it may impact your expenses over time. Adjust your budget accordingly to ensure it remains realistic and sustainable throughout retirement.
Long-term planning: With advances in healthcare and increasing life expectancies, retirees need to plan for potentially long retirement periods. It is important to consider longevity risk and the possibility of outliving your savings, when planning for retirement. Err on the side of caution by assuming a longer lifespan than you might initially anticipate. It is also essential to account for potential healthcare costs and long-term care expenses that may arise in later years. Longevity risk can significantly impact retirement planning, so it's essential to prepare accordingly.
Creating a Withdrawal Strategy: Developing a systematic withdrawal strategy is essential for managing cash flow during retirement. For example, suppose you've accumulated a substantial pension pot with a self-invested personal pension (SIPP). In that case, you might opt for a flexible drawdown approach, allowing you to take income as and when needed, whilst keeping the rest invested for potential growth. Alternatively, you may choose to purchase an annuity to provide a guaranteed income stream for life. There are many different withdrawal strategies and a no one-size-fits-all approach. This is where it becomes even more important to seek the support of a financial adviser who will be able to help you to create a withdrawal strategy that best suits your financial situation and retirement goals.
Diversifying Income Sources: Relying solely on a retirement nest egg may not provide sufficient income security. Research from the retirement living standards has shown that the sum that you will require to live a ‘minimum’ lifestyle each year, i.e. cover living expenses and minimal leisure activities, in retirement is £14,400 for a single person and £22,400 for a couple. Whereas to live a ‘comfortable’ retirement, which is defined as allowing you to be more spontaneous with your money, is £43,100 for a single person and £59,000 for a couple.
For those eligible to collect the full new state pension (those reaching State Pension age on or after 6 April 2016) in the 2024/25 tax year, they will receive £221.20 per week, or £11,502.40 per year. Those eligible for the full basic state pension (the core amount in the old State Pension system) will receive £169,50 per week, or £8,814 per year. More information on eligibility for the state pension can be found on the GOV website. As can be seen from the figures, even if you receive the full new state pension, this alone is barely enough to get by in retirement. This is where having a diversified income portfolio is beneficial.
A financial adviser can work with you to identify other areas of income to best save for your retirement. Common strategies to build retirement income come from saving into a workplace pension or into varying forms of Individual Savings Accounts (ISA’s), such as a Lifetime ISA and/or Stocks and Shares ISA. Relying on multiple income sources can provide greater stability and security during retirement.
*Investments carry risk. Workplace pensions are regulated by The Pensions Regulator.
Managing Tax Implications: Being tax-efficient in retirement can help you to maximise your income and minimise unnecessary tax liabilities. For example, withdrawals from pension pots are subject to income tax, but you can take advantage of tax-free allowances and spread withdrawals strategically over different tax years to minimise your overall tax bill. There are a number of tax-efficient investment vehicles such as ISAs which your financial adviser will be able to explain to you in more detail.
*The Financial Conduct Authority does not regulate Tax advice.
Adjusting Investment Strategy: As you transition into retirement, it's essential to review and adjust your investment strategy to reflect your changing financial goals and risk tolerance. For example, as retirees transition into decumulation, their investment strategy often shifts towards a more conservative approach focusing on capital preservation over income generation. Your financial adviser will undertake a thorough risk tolerance assessment with you in order to identify the best approach for your individual circumstances.
Continuously Monitor and Adjust: Retirement planning is not a one-time event but an ongoing process. Regularly review your financial plan, investment performance and spending needs with your financial adviser in order to make necessary adjustments and ensure your retirement plan remains aligned with your goals and objectives.
Moving into the decumulation phase of retirement planning is a significant milestone that requires careful consideration and strategic decision-making. Utilising the support of a financial adviser will provide you with valuable guidance and support throughout this journey. Remember, effective decumulation planning is essential for turning retirement dreams into a reality.
*A pension is a long-term investment not normally accessible until 55(57 from April 2028). Your capital is at risk. 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 the interest rates at the time you take your benefits.
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