With many of us not saving into a pension, or not saving enough, it is time to get up to date on what pension options you have.
More than two in five workers under the age of 45 risks being left disappointed in retirement as they are underestimating how much money they will need to provide a decent income.
For those who are saving into a pension, many believe they are not keeping enough to provide them with the standard of living they require when they retire.
Younger workers are most at risk, with one in six thinking their state pension will not be enough by the time they retire. It’s this negative outlook that has contributed to a degree of pension lethargy amongst millennials, with many (1 in 4) not even saving at all.
Workers should not solely rely on their state pension when they retire.
The good news is that there are pension options available.
Advantages of saving into a pension
Pensions have many significant benefits that will make savings accumulate quicker than other savings options.
This is critical when as little as 5% of the average Briton’s income goes on saving.
A pension is a tax-relief long-term savings plan. Contributions are invested so that they proliferate throughout your working life and then provide an income in retirement.
Workers can see contributions on their pay-slips. If they place money into a personal pension scheme, it qualifies for tax relief.
This means that as well as the money they’re putting in, rather than the money being paid to the UK government as tax, this now is placed in your pension pot instead. What’s better, the government will still award tax relief on your pension pot, even if an employee’s income is too low to pay tax.
When employees reach age 55, they are permitted to take some of their pension pot as a tax-free lump sum.
Types of pension options
There are several types of pension options available for workers, but the three main types of pensions are:
- State Pension
- Defined Benefit Pensions
- Defined Contribution Pensions
A State Pension is paid the by the government and is paid to most people. Paid out weekly, the pension amount increases by at least the rate of inflation each year.
To obtain a State Pension, workers must ensure they have paid enough National Insurance contributions throughout their working life, including in periods when they are not working – for example, if they are bringing up children or claiming specific benefits.
It is best to check this here on the gov.uk website.
Defined benefit (final salary) pensions
Workers who work in a large company or the public sector are likely to have a defined benefit pension.
The pension workers receive depends on how long they have been part of the scheme and how much they earn during their career there. The salary-related pension will pay out an income for life and increases year on year.
Defined contribution (personal) pensions
Defined contribution schemes save money into a pension pot under a ‘money purchase arrangement.’ Contributions are made into a plan, and after years of saving, the money can be taken either as a lump sum or swapped for an annuity, which is an income for life.
Defined contribution schemes differ is the way in where the money is invested and the level of charges they cost to run the plan.
Personal pensions fall into several categories, two key ones are:
Workplace pension scheme – are where either you or your employer make regular monthly contributions to a pension company until workers retire.
Today, employers are now required to enroll their employees into a workplace pension scheme automatically.
This is called ‘automatic enrollment.’
Employees can ‘opt-out’ should they wish, yet if they contribute to your pension whether you do or not, its best to join the pension plan whatever the employees financial circumstances.
Stakeholder pensions – are very similar to workplace pensions, but have more flexible contribution restrictions and a default investment choice. For many workers, who don’t know where to invest their savings, the pension provider will do this for them.
For those who are unemployed, self-employed or are not part of a workplace pension, then stakeholder pensions are an obvious alternative. Unlike workplace pensions, there are no employer contributions.
How much should I save into a pension?
Just like our dad’s say: save as much as possible as soon as possible.
However, it is worth noting that should you be in debt, it may be best to pay off that debt first before starting to save in a pension.
For those looking to save, a useful tip is to do the following:
Take your age and halve it. Place this percentage of your pre-tax salary aside each year until you retire.
- Someone who starts saving at age 22 will need to put 11% of their salary into a pension for the rest of their working life.
- Somebody who begins later, say at age 30, will need to put 15% for the remainder of their career.
This may seem scary, yet the sooner, and more you contribute the longer your pension pot has to grow, so when you retire, the lifestyle you want is more at your reach.
If you are unsure, then use the Money Advice Service’s pension calculator for a more accurate result on what you should contribute. The calculator will request information including when workers wish to retire, how much they and their employer are adding, and whether they want their pension to be inflation-proof.
Pensions don’t have to be complicated or scary.
For those workers who have a workplace pension, most of the hassle is taken care of for you. The key takeaway from this pension options guide is that whatever you do, begin saving for retirement NOW. The longer you wait, the more you will need to place aside for when you retire.
Assuming that a State Pension will be enough is naive – workers will need to save additionally to obtain a decent standard of life after retiring.
So begin saving with whatever payments you can, and each time you receive a pay rise, amend the amount you contribute, so you earn more tax relief from your salary, and more in your pension pot.