How to retire early (according to the experts)
Each year thousands of workers dream of taking an early retirement – after all, who would not want to enjoy their twilight years on a sunny beach in Spain, catching up with reading? Or taking long walks in the Lake District, maybe learning a new language?
Needs and wants differ, but one thing remains the same – early retirement means the freedom and time to do what you want.
But making this a reality is no walk in the park – and the Government has not made it any easier, as shrinking tax-free allowances have made it harder to fund a long retirement.
Yet with careful planning, the dream is possible. Here, The Telegraph explains everything you need to know about how to retire early, and how much money you will need to live the retirement you want.
What is the retirement age in the UK?
The earliest age at which you can access your private pension without a hefty tax bill is known as the “normal minimum pension age”, which is currently set at 55. It is in the process of rising to 57, and could rise to 58 soon after.
In some cases, pension providers offer a “protected” pension age, so the age at which you can access your nest egg may be fixed, even if the Government rules change.
However, just because you can, it does not mean that you should. At this stage, your pension may not be large enough to fund a long retirement – especially if you are tempted to take your tax-free 25pc cash lump sum.
For men, the current life expectancy is 82 – so unless you have enough funds to sustain you for at least 27 years, it may not be wise to stop working yet.
A key consideration will also be when you can expect to receive your state pension. The state pension age is currently 66, and is rising to 67. There is another legislated increase to 68 sometime during the late 2040s, but beware that this could be brought forward by around a decade. It means that someone in their 50s now should brace themselves for a longer wait for their state pension.
Remember, you will only qualify for the full state pension if you have around 35 years of National Insurance contributions. This will vary according to your career history, so it is always best to check beforehand.
You can view your official state pension forecast here: https://www.gov.uk/check-state-pension
How much should I save for retirement?
If you are aiming to retire before the state pension age, then most of this money is likely to come from your private pension funds.
It is hard to deem exactly how much money you will need, as this will ultimately depend on the kind of lifestyle you want and your health.
For people who retire at state pension age, a frequently cited rule of thumb is to multiply your salary by at least 10 in order to get a ballpark figure for how large your fund should be. For anyone who wants to retire early, this will have to be even bigger – around 30 times your current salary.
If you are looking for a moderate lifestyle in retirement, then a single person would need around £23,000 a year in post-tax income, according to the Pensions and Lifetime Savings Association, a trade body. That would give you financial security and a bit of flexibility, with enough money to eat out a few times a month and go on one foreign holiday a year.
If you wanted a more comfortable lifestyle, then you would need an income of £37,300 a year, according to the PLSA. That would allow more room for some luxuries, such as longer holidays, and some major home renovations once every decade or so.
This is a tall order. If you wanted to retire at 55 and maintain a comfortable lifestyle throughout, you would need a pot of around £700,000 on top of your state pension, according to calculations from wealth manager Quilter.
That would leave you with around £176,070 by the time you reach the age of 82, which is the national male life expectancy – but if you lived beyond this, then your pot would be exhausted by the time you reach 88.
Helen Morrissey, of the broker Hargreaves Lansdown, said that it was important to keep a cash buffer around your life expectancy, as living longer than expected could cause serious financial strain.
“If you retire at 55 you could be living until you are in your 90s and anything could happen during that time,” she said. “We could see inflation shocks that push up prices and have the potential to undo your retirement planning, so you could for instance decide to keep a portion of your pension invested so it can grow or you may even choose to return to work for a period of time.”
The tax traps that could stop you retiring early
If your fund does not look big enough after you have already retired, it may seem like a simple fix is to return to work. However, complex pension tax rules have made this difficult for high earners.
Until the Chancellor abolished the lifetime allowance in the March Budget you could only save £1.073m into a pension before tax charges applied. Thousands of savers have already been caught and Labour is already talking about reinstating a pension cap if it wins the next election.
Another problem is the annual allowance. This caps how much you can save into your pension tax-free each year. The Chancellor made changes here, too. The allowance will rise from £40,000 to £60,000 in April 2023.
But the real problem for people considering a return to work is the money purchase annual allowance (MPAA). This too has been increased, but only to £10,000 a year. That might sound like a lot but the cap includes your contributions, your employer’s contributions, and tax relief.
Gary Smith, of the wealth manager Evelyn Partners, added that it was easy for people to make pension calculations without first taking into account they will still have to pay tax on any income they withdraw from their nest egg.
“When you first draw income from a flexi access drawdown pot, the pension provider will calculate the income tax using a ‘month one’ basis,” he said.
“So, if you decided to take £12,570 as an income lump sum to use up your personal allowance, the pension provider would apply 1/12th of the personal allowance, basic rate tax band and higher rate tax band this income, and the income tax deducted will be far higher than it should be.
“The retiree would then need to submit a P55Z form to HMRC to reclaim the overpaid tax, and this could take around eight weeks to be paid.”
This article was first published on March 21 2023 and is kept updated with the latest information.
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