Pensions may appear complex or far off in the distant future, but the truth is people must start thinking about them and taking action as soon as they possibly can, as for many a state pension may not be enough to support them in retirement.
In this article, we discuss a bit more about why you need to start paying more into your pension so you can ensure a comfortable and stress-free retirement.
Are you one of 12.5 million people who needs to save more?
You might be surprised to hear that millions of individuals need to start saving more to support the life they want in retirement. In fact, a startling 12.5 million people in the UK need to save more money for retirement, and 40% of people in working age will not enjoy the same standard of life as they had when they were employed.
For those 12.5 million people, there are three options:
- Reduce their expectations for what they’ll be able to afford in retirement
- Retire later in life
- Start saving more (the best option)
It’s important to remember that nobody should depend on the State Pension to support them in retirement. Even if you qualify for the full £185.15 weekly State Pension for the tax year 2022–2023, this is far less than what most people say they hope to retire on.
Not enough of us are thinking along the right lines when it comes to pension planning. According to the Institute for Fiscal Studies (IFS), an economic think tank, less than 1% of workers in the private sector increased their pension payments after receiving a 10% pay raise. Most people also don’t increase their savings when they become better off for other reasons, including when a child completes their education.
Because of this, the IFS wants the government to use “nudges,” such as letters or emails proposing that we contribute more to our pension when we reach a higher tax bracket or even automatic increases to workplace pension contributions when we receive a pay raise, to persuade people to save more money.
In a perfect world, we wouldn’t need any encouragement to make these choices. Yet, individuals usually don’t think about pensions first because they have so many other things on their minds.
A 25-year-old trying to get a mortgage or has other goals will require a different nudge than a 45-year-old who just divorced. Many only realise how vital their pension is when they are almost ready to retire when the opposite should be true. In this article, we look at how you can pay more into your pension and why it’s so important to do so.
Why workplace pension enrolment isn’t enough
Employers in the UK are now required to automatically enrol their employees into a workplace pension scheme to encourage people to save more money for retirement. In some situations, your company will still make contributions even if you don’t pay into your pension. In other instances, they’ll demand that you chip in as well.
When contributing the minimum to a workplace pension, since automatic enrolment started in 2012, unless they want to opt-out, everybody over 22 who makes more than £10,000 a year from a single employment has at least 8% of their pay paid into a pension system – 5% from their earnings and 3% from their employer. The sole reliance on auto-enrolment contributions, according to experts, is unlikely to provide a decent quality of life in retirement.
This indicates that automatic enrollment only provides a basic standard of living. Most people won’t be able to feel comfortable with that. According to the Pensions and Lifetime Savings Association, a trade group for the pensions industry, you need a post-tax income of £12,800 per year for a minimal level of living in retirement.
It is estimated that a single individual would need £23,300 a year for what is considered a moderate standard of life and £37,300 a year for a comfortable living standard, including the state pension. If you live in a pair and can split expenses for the home, you should require less money per person.
Saving into your pension after a wage rise
If you can afford it, you should save more immediately after receiving a raise or bonus at work. When you receive a wage raise, increasing your pension contributions enables you to do so while keeping your present quality of living.
By the time you retire, even minor gains have a significant impact. A 22-year-old with a £25,000 annual salary which was auto-enrolled at the minimal level of 8%, could anticipate having a fund of £393,000 at age 68.
Using tax relief to help your pension pot
The government deducts tax from your earnings when your income exceeds a specified level. This is seen on your payslip, but money invested in a pension plan is eligible for tax reduction. This means that some of the money you would have paid in taxes now goes into your pension pot and the money you contribute. This is why pensions have huge advantages over conventional savings accounts.
Contributing into a pension will save you tax, as you obtain tax reduction based on the rate of income tax you pay. Saving money for a pension becomes more tax effective if you are forced into a higher income tax bracket.
Childcare costs can have a big impact on your pension
Official statistics reveal that parents trying to balance childcare costs with rising food prices and energy bills are having trouble saving. Therefore when your children leave home, it can be a financial bonus. According to the ONS, compared to 42% of non-parents and those without dependent children, 54% of parents with dependent children stated they would not be able to save this year.
Simply put, disposable income tends to increase when a child leaves home, but very few people decide to invest this money in their pension. According to the IFS, employees boosted their pension saving rate by 0.35% of their income within two years of a child leaving the nest.
Finishing paying off student Loans
Your student loan repayment history can also have an impact. When student loans were first introduced in 1990, the quantities borrowed by consumers and the interest rates they paid grew. Official records show that students from England and Wales who started repaying their loans in April had an average debt burden of £45,970.
Typically, students from England and Wales pay 9% of their salaries above £27,295 in tuition. In other words, a basic-rate taxpayer would pay 41p for every £1 earned above the cap since 20p would go towards income tax, 12p would go towards national insurance, and 9p would go towards student loan repayment.
A good idea would be to put money into your pension if you have been devoting a portion of your income to paying down your student loans, and suddenly that stops being necessary.
Ultimately, when retired, people are happy that they used foresight and saved up so much money earlier on in their lives. If they for instance received a significant pay increase and therefore contributed more to their pension, or used a wage rise to help out, they’ll be in a much better financial position when retirement comes.
Ready to find out more about pension options?
If you want to know more about pensions, or want to transfer your pension overseas to a new nation, then Brite can advise you on what to do. There are several different types of overseas pension schemes available – including QROPS (or ROPS), QNUPS or a SIPP.
If you have a UK pension and want to take full advantage of its potential, contact Brite here.