How to retire with a decent income

Richard Miles outlines the options for those who have to live off their investments

WHY SPEND your working life saving out of your taxed income only to end up paying tax on it again when you retire? Well, you don't have to. There is now a broad range of tax-efficient products ideal for those who retire with a cash lump sum and need to maximise their income.

But, warns Roddy Kohn of Bristol-based independent financial adviser Kohn Cougar: "Market-timing and product profile come first. Don't be attracted by tax-efficiency per se."

Our introduction listed the tax-free saving and investment options; here we detail the levels of income available to those living off their savings.

National Savings Certificates: These come in two kinds: fixed-interest and index-linked. Interest is rolled up and paid after five years, so income seekers will have to stagger an investment.

The fixed-interest type is currently on its 42nd issue and has attracted pounds 10bn to date. It promises an annual return of 5.85 per cent. To match this return, taxed investments would have to produce 9.75 per cent for a higher-rate taxpayer or 7.7 per cent for basic-rate. Index-linked certificates - the 8th issue is on offer at the moment - pay 3 per cent plus the rate of inflation, With inflation at 3.1 per cent, this amounts to 6.1 per cent tax-free.

The minimum investment for both types is pounds 100, and the maximum pounds 10,000 - or pounds 20,000 if you are reinvesting money from matured certificates.

Tessas: Savers can withdraw income from Tessas, up to the equivalent net interest (net of basic-rate tax). Your capital is secure and the element of the interest that cannot be withdrawn will in effect give you some growth from your Tessa. (If you should withdraw more than the net interest element, all the interest becomes taxable).

With Tessas currently quoting interest rates of up to about 7 per cent, this will allow savers to withdraw interest worth perhaps 5 per cent-plus a year, which on a full pounds 9,000 investment might give an annual income of pounds 450 on which no further tax is payable. Other articles in this report look at the new Tessas, and how maturing Tessas have performed.

Corporate-bond PEPs: These are aimed at investors who want better returns than those from building society deposit accounts, but with less risk to capital than investment in the stock market.

The unit-trust funds underpinning these types of PEPs must be at least 50 per cent invested in a range of fixed-interest instruments, including corporate bonds and preference shares. Like shares, these can rise or fall in value. These PEPs carry the same pounds 6,000 annual investment limit as share-based PEPs. Although with a corporate-bond PEP your capital is open to erosion, investment firms claim you should be able to take an annual income of about 7 per cent without significant risk.

More than 60 corporate-bond PEPs have been launched since last summer, with estimated yields from as low as 4 per cent to as high as 9.5 per cent. Some offer a guaranteed level of income. In fact, the choice is so wide that it is probably best to consult an independent financial adviser before making a choice.

Stock-market PEPs: Aimed at the more adventurous investor, stock-market PEPs offer the chance to shelter up to pounds 6,000-worth of shares, unit trusts or investment trusts from income tax and capital-gains tax.

Investors wanting a regular income can either opt for a high-income PEP, which offers a good annual yield but which might erode your capital, or an income PEP. Again, independent financial advisers will be able to explain the choice.

As with corporate-bond PEPs, charges on equity PEPs vary widely. Over the past two years, initial charges have fallen from a norm of 5.25 per cent to 3 per cent or lower, while annual management charges have stabilised at around 1.5 per cent.