Pensions awareness is a real concern for the UK and the statistics are worrying. Only 27 per cent of people say they feel “very informed” about pensions, for example, according to new research by Towers Watson.
And last year, a government report discovered that 11.9m people in the UK are “saving too little”.
Almost half of these people are not far off their target, and could reach it with “modest changes”.
As the elderly make up an increasing proportion of the population, (over 15m by 2030), ignoring the risks of saving too little will cause misery in retirement and burden younger generations.
So how do you know what you’re saving, and whether it’s enough?
Pensions freedoms made a splash in the press when they came into effect in April, but there is still a lot of confusion around the issue.
Those aged 55 or over are no longer required to buy an annuity. Instead, they can take cash out of their pension pot to invest or spend it, provided that their provider allows them to do so.
While explaining the various types of drawdown products on offer would require an article in itself (only 20 per cent of people have a good understanding of drawdown, according to Old Mutual Wealth), it’s often lack of knowledge about the simplest aspects of pensions that can be the most costly.
Depending on how you take your pension, you could end up paying more tax than you expected, for instance.
According to pensions specialist Portal Financial, many of us don’t realise that our pension income is assessed against all taxable income for the year.
The basics are that you are entitled to a tax-free allowance of 25 per cent, and if you withdraw more, any income will be subject to tax at your marginal rate.
But this can be complicated by issues like the lifetime allowance (the maximum amount you’re allowed to have invested in a pension without incurring punitive tax rates). Speaking to an adviser about the tax implications could help you avoid such charges.
HOW MUCH SHOULD YOU SAVE?
The exact figure you need to set aside every month obviously depends on the lifestyle you want in your later years.
But a £20-a-week contribution – which may have been sufficient in 1998 – will no longer cut the mustard, argues Andy Cumming, head of advice at Close Brothers Asset Management.
Many will want to save more, but Old Mutual Wealth last year came up with the amounts you will need to put away to give yourself £19,000 a year – the average retirement income.
To reach that target (and including the state pension), you would need to accumulate a total fund of about £237,000 if you were looking to buy an annuity at retirement that would leave no capital remaining at your death.
To receive the same income through income drawdown (i.e. taking an income while keeping the capital invested), you would need a total pot of the same size but would have £154,000 of value left after 21 years.
This assumes 5 per cent growth net of fund charges and including the charge for the product itself.
KNOW WHERE YOU ARE INVESTED
For many, the problem isn’t saving itself, but a poor understanding of where their savings are invested and the charges which may be accruing.
According to a YouGov survey for the People’s Pension, only 11 per cent of pension savers in the UK are aware that their current provider is charging them and how much they are being charged.
An alarming 51 per cent of people do not know if their current pension provider is charging them at all, and lack of awareness is disproportionately high among women (63 per cent).
This is worrying, because the effect of charges on your portfolio over time can be considerable. Research by Vanguard, for instance, showed that a £10,000 initial investment would grow to £52,749 over 30 years, assuming 6 per cent growth per annum, with an annual management charge of 0.3 per cent.
Raise that charge to 1.2 per cent, and you would only have £40,806 at the end of the period.
A CALL TO ARMS
Pensions are a good deal. Flat wages and increasing costs may have discouraged savers, acknowledges Matthew Phillips, managing director of Thomas Miller Investment, but he urges people to take advantage of the tax relief and other benefits on offer.
“If you put in,” emphasises Phillips, “the government gives some of the tax that they have taken from your income back to you and allows the amount invested to grow without taxing it while it grows.”
A survey by Old Mutual Wealth indicates that only 43 per cent of people understand how tax relief currently works. “This ‘free money’ should make putting money into a pension one of the most attractive ways to save,” explains Adrian Walker, retirement planning manager at Old Mutual Wealth.
Take advantage of your employer’s auto-enrolment scheme too, says Cumming, which amounts to free money from your firm and tax relief and increased contributions when you receive pay rises.
Seeking guidance is also strongly advised, to devise a pension strategy which is right for you. While those with larger portfolios should seek bespoke advice, since the government’s new reforms came into effect, the Pensions Advisory Service has been giving free advice over the phone to steer savers through the fine-print.