Can You Use Your Pension to Pay Off Debt?

With rising living costs, soaring inflation and energy bills, some UK households are racking up debts. For Britons nearing retirement, this scenario could lead to some particularly difficult decisions, like whether or not to cash in a pension nest egg to get out of the red. So, can you use a pension to pay off debt, and what are the implications?

Hilltop explains all here. Keep reading as we explore the ramifications of using a pension to pay off debt.

Can I use my pension to pay off debt?

It’s certainly possible to use your pension funds to pay off debts. Since the Pension Freedom rules came into effect in April 2015, anyone over 55 can now gain full access to their pension pot. 

Previously, you could only take out a 25% tax-free lump sum before using the remainder to buy an annuity for a regular income. Now, you can take out more or even all of your funds, subject to income tax over and above the tax-free threshold. 

The only rules for using a pension to pay debts are that you must be aged 55 or over and have a workplace or personal pension. However, if you are looking to take money from your current workplace pension, please speak with a financial adviser. Withdrawing funds from your workplace pension could restrict any contributions into your pension and have wider impacts on your retirement savings.

Options for using a pension to pay off debt

The process of using a pension to pay off debt is relatively straightforward if you have a defined contribution pension. As long as you meet the qualifying criteria, you can choose to either: 

  • Take out all your funds and navigate the tax implications. 
  • Transfer your fund to an approved provider that gives you full ad hoc access for regular withdrawals. 
  • Or invest a portion of your funds in a trusted scheme for later down the line.

The process is slightly more complicated if you have a defined benefit pension scheme. In this case, it is highly recommended that you speak with a Defined Benefit pension specialist or the scheme.

Should I use my pension to pay off debt?

Using a pension to pay off debts is possible. But perhaps the question to ask yourself shouldn’t be ‘can I use my pension to pay off debt?’ but rather ‘should I use my pension to pay off debt?’ Because in doing so, you could make yourself far worse off in the long term

Certainly, if you chose to transfer a defined benefit pension scheme, you would have to give up all the valuable benefits and security these pensions provide. This is why the FCA has made it compulsory to consult with a financial adviser for any pension transfer of this sort for pension pots valuing more than £30,000. Even if your pension is worth less than that figure, financial advice can still be helpful to ensure you make an informed decision.

Let’s take a closer look at just some of the main areas that could be negatively impacted if you use a pension to pay off debts.

Pension Pot

Any money you take out of your pension pot now could leave you with a major shortfall in later life. You’ll likely have fewer funds to provide a comfortable income and fewer options about how to use those funds.

State Benefits

Cashing in a pension could reduce the state benefits you’re entitled to, both now and in the future. For instance, some benefits can be adversely affected by the amount of savings you have.

Tax Implications

Using a pension to pay off debts could leave you with a hefty tax bill that can further dent your retirement income. You may also be affected by the Money Purchase Annual Allowance (MPAA), which lowers your tax relief.         

Pension advice from Hilltop Financial Planning

Falling into debt can be extremely stressful. But using a pension to pay off debts should only ever be considered as a last resort, given that you could very well make yourself worse off in the long term. Even if you feel like you’ve exhausted all other possibilities, other, less risky avenues might be available to you. 

This is why it’s vital to seek the advice of a regulated financial adviser before you decide to cash in a pension. It is essential to discuss your options before making any long-lasting and irreversible decisions that could seriously hinder your future retirement income and subsequent quality of life.

Hilltop Financial Planning provides bespoke, regulated pension advice for anyone looking to make the best decisions for tomorrow – today. A worry-free future, free of debt and full of enjoyment, can potentially be just a phone call away.

For pension advice or to arrange a consultation, please contact us on 0161 413 7051. We’re open 9am to 5pm Monday to Thursday and 9am to 4pm on Fridays.

Important information: Our website offers information about investing and saving, but not personal advice. If you’re not sure which services are right for you, please request advice from Hilltop’s independent financial advisers. Remember that investments can go up and down in value, so you could get back less than you put in.

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