Step 5: Think about your pension, now!
It’s never too early to start thinking about your pension. In fact, the sooner you start, the easier it will be.
We get it. Sorting out your pension can feel daunting and it’s all-too-easy to push to the bottom of the to-do list. But with the right tools and guidance, pensions are not nearly as complicated as you might think. Your future self will thank you for taking a little time now to get your retirement savings on track. Plus, there’s no feeling like seeing your pension pot grow – and knowing your future is sorted.
Why should I care about my pension now?
Most people don’t want to work forever, so you need to save throughout your working life to build up enough money to live off when you retire. You can think of your pension as your future fund. The more money you put away into a pension and the sooner you start, the more choices you’ll have for the future. You could quit work sooner (or gradually reduce your hours), have more money to travel, help your family or just generally enjoy yourself… Did someone say champagne?!
There are three types of pensions you need to know:
- The State pension – what the government contributes to your retirement income. To claim the full state pension (£175.20 a week – 2020/21 rate) you will need 35 years of National Insurance contributions (from April 2016). If you’ve made fewer than 35 years’ contributions and at least 10 years’ worth, you’ll still get a basic state pension – it will just be adjusted to reflect the number of qualifying years you have.
- Workplace pension – if you are employed by a company, you will be auto-enrolled into a workplace pension which both you and your employer pay into (unless you wish to opt-out). These can either be defined contribution (DC) or defined benefit (DB) pensions. From April 2019, at a minimum, you are required to pay in 5% of your earnings and your employer is required to pay in an amount equivalent to 3% of your earnings, totalling 8% contribution per year.
- Personal/Private pension – a pension that you set up to supplement your retirement income. These can either be stakeholder pensions or SIPPs (self-invested personal pensions).
Today, the state pension is only a small part of most people’s retirement income and minimum contributions into workplace pensions may not result in a pension that provides the quality of life you want in retirement. That means most of us will have to contribute more into our pension pots ourselves, but, if you start soon – even with small amounts – it isn’t difficult to build up your savings and enjoy a long and happy retirement.
How much should I save?
Fidelity estimates that saving 7x (times) your annual income by age 68, together with the state pension, should maintain a similar standard of living in retirement as in working life. So, for someone on a £50,000 salary at retirement, that would mean a final pot of around £350,000 in today’s money.
Your final pension pot value will also depend on what sort of lifestyle you want to lead in retirement. Is your future self drinking champagne or lemonade? Do you expect your expenses to decrease or increase? Would you like to holiday more? These are all going to have an impact on your spending.
When you start to save into your pension has an impact. Saving 13% of your annual income before tax is one of Fidelity’s rules of thumb if you start at 25 and save till you’re 68 – this includes your workplace pension contributions. If you’re 30 and just beginning to save, this increases to 15%, and by 35 it jumps to 18%.
So if your combined pension contributions at work are 8% of your earnings, you need to top up with at least another 5% into that pension or another pot. If your income is £50,000, that means saving £2,500 a year – or £208.33 a month – on top of your workplace pension. If you are starting later in life and saving a total of 18%, this increases to £416.60 a month in addition to your workplace pension contributions.
When considering additional pension contributions, make sure you can afford what you contribute as you cannot access the money you put into your pension until the minimum pension age, currently 55.
Top up your pension with free money!
Imagine that someone offered you free money with no strings attached. You’d be silly to turn it down! This is how pension tax relief works. When you contribute a set amount to your pension (both workplace and personal), the government tops up your nest egg with the same amount you would have paid in tax on your earnings to encourage you to save.
So how does pension tax relief work? If you’re a basic rate UK taxpayer you’re entitled to tax relief on your pension contributions, which you can also think of as a 25% top-up. So for every £80 you pay into your pension, the government will add an extra £20. That means if you contributed £4,800, the government will give you a top-up of £1,200, bringing your total contribution to £6,000. Note – Scottish tax relief does differ (see here).
How much free money the government will give you depends on how much you earn, how much tax you pay and how much you have contributed to your pension in the past three years. There is a cap on it, though. If you’re paying income tax, in this tax year – 2020/21 – you can usually only get pension tax relief on contributions up to £40,000 (annual allowance) or your earnings if that is less than £40,000.
Whatever your financial situation, it’s worth ensuring that your pension is benefiting from these government top-ups that you are fully entitled to.
Don’t forget about old, stranded pension pots!
Today, more people are enrolled in a workplace pension scheme than ever before thanks to workplace pension auto-enrolment. Whilst this has been a huge step forward, the government estimates that people will have 11 different jobs during their working lives and with every new job comes with another new pension, making these really difficult to keep track of.
In fact, many people have thousands of pounds sitting in old pension pots they barely know anything about. The ABI estimates that more than 1.6 million pension pots worth £19.4bn are “lost” – the equivalent of £13,000 per plan! This situation can be traced right back to the pensions industry. Pension companies barely engage with their customers and when they do, they send snail mail letters to old addresses, written in financial jargon that hardly anyone understands. Even the basics like checking your account balance and seeing where your money’s invested are made really hard. Moneybox found that more than 4 in 5 respondents do not know what their money is being invested in, and more than 2 in 5 do not know how much money they have saved is in their pension.
So how could you avoid falling into these statistics? You could keep a large folder full of old statements, provider names, policy numbers, passwords and contacts for old workplaces… or you could simply consolidate your old pots into one pension that lives in an app on your phone.
5 reasons why bringing your old pensions together into one pot could be a good idea:
- It’s easy to do – these days an online pension transfer usually takes just 2-3 weeks so you’ll be able to see all of your money in one place in no time.
- You may get more choice in where your pension is invested – the range of investment options in your old workplace pensions may be more limited than a personal pension, where you can choose how you want your money to be invested.
- Account management is easier with fewer pots – having to remember one login is always going to be easier than remembering eleven!
- You could save on fees – what you pay in fees is based on what you have in the pot, rather than what you’re paying in – in other words, you will still be paying fees on those old, stranded pensions. It’s important to understand the value for money you get from providers and weigh up if the fees are worth it, i.e. do their fees reflect their service?
- It’s OK to rely on one pension provider – yes, your money should be invested broadly to ensure diversification and help spread risk, but this isn’t achieved simply by having more pensions. If you put your money in funds that are broadly invested, for example across many different companies’ shares, you can more easily get a good spread of investments and risk from one pension provider.
There are a few things you should bear in mind when thinking about transferring your pension. You should check whether your existing pension has any guaranteed benefits (for example it’s a defined benefit scheme) – if it does, you may want to leave it where it is if you lose these benefits by transferring the pension. You should also compare the investment options and value for money at your current and other pension providers.
Ready to take control of your pension? With Moneybox, you can easily bring together all your old pension pots, save towards your retirement and check your account balance anytime, anywhere. Plus you’ll automatically receive 25% tax relief from the government on contributions. Your Moneybox Personal Pension sits alongside other savings and investments accounts in the app, putting you in control of your financial future.
Please note Moneybox cannot accept a pension you’re currently paying into, or any old pensions that provide guaranteed benefits when you retire.
Although the majority of transfers are completed electronically, in light of current events we’re unable to accept manual pension transfers by post as the team is working remotely. Please get in touch with our customer service team for more information.
Tax treatment depends on the individual circumstances and may be subject to change in the future.