Millions of retirees will feel the pressure as bills soar and the cost of living soar, but they shouldn’t be relying on their pension to augment their income.
Rising inflation can erase years of retirement income from pension funds, as savers have to increase the amount they withdraw to maintain the same purchasing power each year.
Households are bracing for the worst cost-of-living crisis in decades after inflation hit a 30-year high of 5.4 percent in December 2021 following a huge rise in the energy price ceiling.
Retirees will be particularly vulnerable as they tend to pay higher energy bills and the state pension will fall in value.
According to Age UK, the charity, nine million people, almost half of those over the age of 65, said they needed to heat their homes less. Two in five retirees said they would consider taking on debt to cope with the rising cost of living.
How to beat inflation
Be sure to increase your income
Many may be turning to their pensions to help make up the shortfall, but that could be a mistake, according to Lee Clark of wealth manager Brewin Dolphin.
“We advise against increasing the amount of regular withdrawals, especially if they take more than they need and if their funds are in cash accounts,” he said.
Before diving into retirement, it is important to use up other sources of income, such as the statutory pension, any pension money from the final salary or current cash reserves, he said.
The biggest danger is withdrawing too much and leaving it in cash, where its value will quickly erode, he said.
One option for those who want to fully protect their pension against inflation is to purchase an inflation-linked annuity, which provides a stable income that keeps pace each year. However, these types of pensions have been very unpopular in recent years as their initial income is much lower than that of a regular pension.
Someone with a £100,000 pension who needs an income of £5,000 a year on top of their state pension would be out of money after 37 years if there were no inflation and their invested cash had grown by 4 per cent net of fees . This is the result of calculations by the fund shop AJ Bell.
However, the same annuity would be out of money 19 years earlier if inflation stayed at its current 5 percent level, because the annuitant would have to increase the amount they withdraw by 5 percent each year to maintain their purchasing power.