More of us have some sort of a pension now than ever before: the occupational pension scheme has over 39.2 million saving as at the end of 2016. But there are some easy mistakes to make. We highlight seven.
For a subject that’s so often in the news, pensions is an area that still needs a huge push in terms of education. Yes, it can be a relatively complex subject and unfortunately life is hectic – we all probably lack the time to think things through as properly as we should, particularly if it involves something that won’t impact some of us for decades.
At least more of us actually have some sort of a pension now: the occupational pension scheme means that over 39.2 million were saving through their workplace as at the end of 2016. That’s up from 33.5 million in 2015. Definitely a great start.
However there are some important points that ought to be borne in mind when you’re thinking about your pension – and especially if you’re a relative novice to investing. So here’s my starter for seven:
1. Saving too little
While most people have started a pension, they’re unfortunately probably not putting in enough money. The old rule used to be to halve your age and put that amount in as a percentage of your salary. However, with people setting up their own homes and starting families later, this may (for many) put far too much strain on finances and possibly lead to them just putting in the bare minimum.
Instead, we’re suggesting that you use the rough ‘25x pensions rule’ of thumb. Here you take the annual income you think you’ll need in retirement and multiply it by 25 to see very (very) approximately how much you might need to save. And you can check how far you’re off that target by taking what you’ve saved so far and dividing by 25 to see what income you might expect in retirement. At least you’ll see how much you should be putting in.
Yes, it’s neither precise nor perfect, but in the same way that the five-a-day fruit and vegetable rule has hopefully helped you along the way to healthier eating, perhaps this will help towards wealthier retirement savings.
And if you’re not saving because you’re worried you might need the cash before you’re 55, then save into an ISA. Yes, you don’t benefit from your income tax being paid into the pot too, but any gains would be tax exempt and you can access the money when you want. Moreover, it might be worth looking into ISAs again after the budget – they may be about to become even more important as the Government balances the need for people to save for their retirement with their own need for income tax-dues to come their way instead of it benefitting your pension.
2. Saving too much
The lifetime allowance for pensions is now £1mn and while this seems like an impossible goal, it’s not as difficult to achieve as you might think. Indeed many people are actually in danger of going over that limit – particularly if you’ve been enrolled into a lifelong defined benefit scheme. And reaching that limit is of course not just down to you saving, investment gains count too. Yes, investments can go down as well as up, and you could lose more than you originally invested. But any savings and gains can quickly add up.
Similarly, the annual allowance of £40,000 suddenly looms into focus if you’re a bit older and suddenly realise that you need to put quite a lot more into your pension each year. After all, it’ll need to last the 25+ years that you’ll probably live as a retiree...
There were also a couple of rule changes that the Conservative Government sneaked in after June’s election and backdated them to April 2017. One was that those earning over £150,000 a year will see their annual pension allowance whittled down as they earn incrementally to just £10,000. The second is that once you’re over the age of 55 and you’ve started to ‘benefit’ from your pension (and that’s not necessarily the same thing as withdrawing money), then your annual allowance is down to just £4,000.
In all of these scenarios, if you pay in too much, you may end up paying quite a lot of tax. There are other options to save in a tax efficient manner e.g. using your ISA allowances. Of course, everyone’s circumstances are different and tax is a very personal matter, but it’s worth getting some specific advice (which we unfortunately can’t give) if you think that there’s even a chance that you could go over one or more of the limits. But, just stopping paying into your pension because you have saved too much can have other implications e.g. you might lose your entitlement to a death in service payment. So please ask for professional help.
3. Not taking the right amount of risk
You’ve started your investment journey, completed your risk profiling questionnaire and discovered that you’ve been determined to be a moderately cautious investor. That means you’re not in the middle of the spectrum as to how much risk you can take (that would make you a balanced investor), but you’re also not quite the most cautious.
However, if you spend more freely than the average person, you could run another risk – that you spend all your money before your heart stops pumping. Many might not want to pass on their wealth and die broke, but we don’t probably want to die having been flat broke for some years...
So once you’ve done that questionnaire and established what your broad goals are for your later years, use the 25x pension rule of thumb that we outlined in our first point. If there’s a negative difference between how much you’ll hopefully see from your investments and how much you might generally want, then you can either save more, work longer or take more risk.
We’re absolutely not saying that everyone should maximise their investment risk – it is a very personal subject – but at least if you have the conversation with a financial adviser about your options now rather than in 25 years’ time, you can plan for a better future.
4. Beware the scammers
If someone calls you telling you that you can (a) access your pension money before you’re 55; (b) that they have an amazing investment scheme that you should definitely invest in; or (c) that they start to talk about ways for you to reinvest your pension pot, stop right there!
Make a note of their name and the company name and then hang up that phone or delete the email or text message. If it is someone genuinely looking to help, you’ll soon be able to find their credentials and particulars – including any details as to their regulated status – and call them back. They really won’t mind you being careful. If you can’t find their details, get in touch with Action Fraud on 0300 123 2040 or report the likely scammers on their website.
5. Taking all your tax free lump sum without a plan
The pension freedoms introduced in 2015 mean that we are able to take up to 25% of a pension pot tax free as we retire. Some people use it to pay off their mortgage, others feel it’s good to have it in in the bank as they can access it quickly and it’s protected by the deposit guarantee scheme (investments aren’t, after all, guaranteed of course) or go on an amazing holiday.
But again I’m hoping you’ll get some advice. Not least as while you might think your money in the bank is safe, it’s actually going down in value. That’s because base interest rates are at 0.25% and inflation’s at 2.9%. While that feels high, the average over the last 20 or so years has been about 2.8%. So if you’re not getting more than that in interest from your bank, you are losing money in real terms… not quite the type of steady returns you were banking on I’m sure!
6. Not collating your pension pots
Compounding is a truly magical thing with investments. It’s when the investment gains you’ve earned on your original investment start to generate their own investment gains. But if you’ve changed jobs a couple of times, ended up working two part time jobs etc. etc., it’s not difficult to have several small pension pots that you leave behind as you bid farewell to each employer.
And while they remain your money, sometimes these pots become lost in the mists of time or you can’t access them. You know that you have the paperwork for them in a safe place, but not where that ‘safe place’ is!
There is also a hidden danger lurking with multiple pensions which is down to diversification – or lack thereof. With a UK bias prevalent among many investment managers, you may find that when you do get to look across all your assets you‘ve inadvertently invested a very large percentage of assets in the UK at a time of economic and political uncertainty. Given that you probably already own a house, a car, and earn a salary in Pounds too, this may mean you’ve got far higher a percentage in Sterling-based assets than lots of people would be comfortable with.
So, as you move jobs, look to move your pension on too. It won’t cost you very much – if anything – depending on your scheme. And it means that your money will benefit from more compounding. In addition, you may find that your bigger pot means lower charges, and so you’re saving on the money that would otherwise have been foregone in fees compounding too!
7. Not getting advice
More and more of us believe we can do-it-yourself as far as finance is concerned. And there will be some people who do it extremely successfully. However, unlike the shelf that you put up staying attached for only a week or the wallpaper you hung beginning to peel off after a month, a mistake in your finances may not become apparent for years.
There are now lots of options to get value-for-money advice or just pay a one-off fee rather than pay a percentage of your assets over a period of time. So call a professional. If you really don’t think your pot of money’s that much, at least call the free government service, Pension Wise.
Recent research by the International Longevity Centre here in the UK found that those who sought advice between 2012 and 2014 ended up with more financial assets (£13,435) and higher pension wealth (£27,664) than individuals in similar circumstances who did not seek advice. More of these studies exist and also point out that those believing that they’re saving money by not seeking professional advice are really just practicing false economy.
Pensions and our long term savings are too important to waste and too important to make mistakes with.
So the good news is that more of us have pensions than ever before, but the bad news is that most of us do not know what to do with them. Hopefully though, at least you now know Seven’s things to try to help make sure you have a reasonably wealthy retirement… and, if possible, have more than enough for a thoroughly disgraceful one.
Justin Urquhart Stewart
Co Founder and Head of Corporate Development
Seven Investment Management LLP is authorised and regulated by the Financial Conduct Authority. Member of the London Stock Exchange. Registered office: 55 Bishopsgate, London EC2N 3AS. Registered in England and Wales No. OC378740.
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