Here we look at the effects of a, partial, lump sum pension withdrawal. Particularly the variant where you only do so for a limited percentage.

The premise of this article is an adaptation of Western law, allowing private individuals to withdraw a percentage of their full official (read government mandated) retirement scheme, in cash. Generally this is maxed at 10%, though percentages may change or be determined by the individual. We shall also report how the discussed affects general lump sums.

Please note that each country has its own rules on how this cash income is considered, when it comes to tax and income.

Lump sum pension withdrawal

The idea, or reason behind this possibility, is that retirement contributions are far from voluntary and people would like to have some control over how their money is being managed. Also, more urgent reasons such as being able to help children attain their first real estate. In several places, in this article, we state that taxes are likely relevant; there are countries were such is not the case, which is the original idea of a lump sum pension withdrawal: The ability to spend your own money without fear of repercussions.

An example of how to calculate how much you will have left, after tax is to investigate the relevant brackets, get a piece of paper and write down the amount per bracket of your new total pre tax income including the lump sum withdrawal: Top amount of that bracket (B) minus the bottom amount of that bracket (A) , times 1 minus the tax percentage for  the calculated bracket, given in a after the comma format, such as 0,67 for 33% (1-0,33=0,67) (C) should give you the net amount for that tax bracket. The formula looks like this; (B-A)*(1-C). Repeat this with all brackets. If there are other inflows/benefits that depend on how much you get, learn if these need to be deducted. Government issued benefits usually aren`t taxed themselves, thought this may vary.

Risks

• Tax authorities will likely consider this an additional income. Meaning you have to pay the highest percentage in income tax over the received amount. It can also affect every form of welfare and other benefits you receive, as your income has gone up. If the money is invested or otherwise shows up in your tax return, it could be taxed further. This could mean that the amount is taxed trice: 1 First as regular income, which you save somewhere for your retirement. 2 When you withdraw it and is considered income, to be taxed as such. 3 Recurring each year, as part of your investment/real estate wealth, subject to a form of wealth tax.
• Your income from the pension scheme will drop, a lot. As the principal on which it is based has been reduced by the lump sum withdrawal what was taken from it. This is a risk, that you will notice every payment.
• Making a bad investment, or getting scammed, will be far more expensive, as you have more to lose.

Benefits

• It is possible to spend the money on your house, to either pay for the (remaining) mortgage or do some work that makes it suitable for old age. Remodelling to increase the value is also possible. Keep in mind that a higher house value could increase your tax bill, paying off your mortgage means less deductible (debt and interest, depending on the country).
• The lump sum pension withdrawal could be utilised on something you genuinely want, but is rather pricey. Such as a very long journey, with loved ones.
• In case of diseases, or other conditions that you know will not result in a ripe old age, the money could be used to sent some to your heirs, which is usually not possible with more public retirement accounts. Accounts that are 100% private and own initiative based, can sometimes allow for this possibility, government mandated and centrally organised plans rarely go beyond the official spouse at time of death, maybe underaged children can be an exception. Using the money to spent time with friends and family could also be a good idea, if you know you wont receive back as much as you put in anyhow. This might be the only withdrawal situation we might recommend* at Opinion Economics; the money is yours and ought to be used by you, instead of added to general government income, after an early demise.
• Reinvesting in something that has a higher return can be possible: Most retirement schemes are subject to regulations stating a minimum government bond percentage, that tends to be above the usually recommended 5-10%. As these have a low yield, it is not hard to find something more profitable. This is likely a cost compared to benefit situation.

Special mention

In recent years it has become more common to will a portion of the estate to charity; this could be considered in the same way as a regular charity donation, resulting in a tax benefit. Utilising this option, could require a custom lump sump withdrawal for maximum benefit. Please be aware that the charity itself is going to need the required legal status, and this is probably not possible in every country at every point in time, legislation can change.

Non retirement lump sum withdrawal

The following items apply to all lump sum withdrawals, generally in the same way as discussed earlier, so only briefly mentioned here.

• Tax collectors and other governmental agents could consider each income as part of total income.
• The calculation between saving on mortgage/spending to increase home value, is likely comparable in other cases. A mortgage could be used for home improvement, just watch the interest and make sure it does not exceed gained value.
• Financial offsets of receiving the lump sum, can offset the gain from clearing debt.
• The formula for calculating how much you retain after taxes should be universally applicable.

 

*No liability is accepted by this statement, each is responsible for their own actions. This is simply an opinion, as the blog name suggests.