Paying Income Tax on the State Pension, decumulation, living on a fixed income, and other money shocks in retirement

From shifting to the decumulation phase to closing the Bank of Mum and Dad, we explore five of the biggest financial adjustments in retirement.

Finally giving up the daily grind is something many of us fantasise about for decades.

But like everything, expectation doesn’t always match reality, which can be particularly unnerving when it comes to your finances.

And with research from the Department for Work and Pensions earlier this year revealing that almost a million people over 66 are living in poverty, it’s essential to avoid any nasty surprises.

Here, we look at five of the most difficult financial transitions in retirement.

How much income do you really need in retirement?

1. Adopting a ‘decumulation’ mindset

We spend our working lives diligently saving into our pensions every month – or that’s the theory, at least.

For many retirees, the adjustment from the ‘accumulation’ phase into decumulation can be a huge shock to the system – both emotionally and in terms of financial planning.

Psychologically, suddenly being able to spend funds that you’ve spent years accumulating can feel as though you’re breaking the rules.

Additionally, there’s the uncertainty over how long you’ll actually need to fund your retirement.

Of course, these are legitimate concerns and it’s only natural to struggle with this new stage of life.

This is where detailed financial planning can help. If you have a clear idea of how long your money will last in retirement and how much you can afford to spend each year, you should feel less concerned about moving towards decumulation.

Depending on your circumstances, it may be useful to consult a financial adviser who can help you develop a spending strategy that aligns with your long-term financial goals.

Remember, you’ve spent decades accumulating these funds and it’s now time to put them to their intended use.

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2. Closing the Bank of Mum and Dad

With the cost-of-living crisis making it increasingly difficult for young people to get on the property ladder, many parents have become used to helping out their kids.

In fact, research from estate agents Savills has found that the Bank of Mum and Dad will pay out £30 billion over the next three years to help their offspring get on the property ladder.

But entering the retirement phase may mean that you can no longer afford to be as generous.

If you’re living on a fixed income, it’s often necessary to make sure your own needs are taken care of before supporting family members.

Having an honest conversation with your children about money management could help you navigate these potential challenges before they arise.

3. Early retirement comes with challenges

Although many of us dream of leaving the rat race in our fifties or early sixties, doing so can come with potential downsides.

As we explored in a recent article, the initial euphoria of retirement can be followed by a sharp comedown when boredom kicks in for many people.

Furthermore, you may find that many of your friends and family are still working during the week, which can make it more difficult to fill free time.

From a financial perspective, you may also need to manage your money more carefully until you can begin drawing on your State Pension.

Say you retire at 55 and take a tax-free lump sum from your workplace pension, you’ll need to wait 11 years before you can claim your State Pension at 66 (as of 2024).

For this reason, many people take a phased retirement, often moving to reduced hours before fully leaving work.

The ridiculous pension tax that thousands of people are wrongly paying

4. Politicians keep moving the goalposts

If you’ve reached retirement age or you’re coming to the end of your working life, learning that State Pension rules have changed can feel as though you’ve had the rug pulled out from under you.

The most significant example from recent years came in April 2016 with the launch of the New State Pension.

This meant that anyone who retired after this date was paid under an entirely different system from those who’d retired just a few months before.

However, this is far from the only example.

Consider the recent change in government. Since Labour came to power, we've already learned that Winter Fuel Payments will be scrapped for millions of pensioners.

On top of this, there are rumours that the party may be planning to slash pension tax relief in the upcoming Autumn Budget on 30 October.

For those on a fixed income, such tinkering and political back-and-forth only bring a sense of unease about their livelihoods.

5. You might still need to pay tax

The topic of pensions and Income Tax is a subject we often cover at loveMONEY.

Frankly, we think it’s galling how many hard-pressed retirees are handing money back to the Government coffers.

Under current rules, those over State Pension age – like all other UK adults – can earn up to £12,571 before they start paying tax.

With the full New State Pension for the 2024/25 tax year standing at £11,502, this leaves just over a thousand pounds in wiggle room.

What’s more, there is currently a freeze in place on Income Tax thresholds until 2028, with a suggestion that the new government may extend the freeze.

And with the State Pension increasing each year thanks to the triple lock, annual payments are expected to surpass the Personal Allowance in 2026, meaning all Brits on the full New State Pension would become taxpayers.

If you're concerned about the taxman dipping into your retirement funds, check out our article 4 ways pensioners can beat the stealth Income Tax rise.

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