In the current climate a sure fire way for businesses to save money is to reduce people costs. That could mean redundancies, salary cuts and perhaps most notably, a reduction in employee benefits.
Regardless of whether that is or becomes a reality for you or not, it’s worth reviewing your pension options.
Here are 5 key questions to help you assess where you stand.
1. How much will I need?
Ideally, our financial goals should be SMART – specific, measurable, attainable, realistic and time-constrained.
Linking that to retirement, ask yourself when would you ideally like to retire and how much money are you going to need to do that?
This may sound obvious but your spending is likely to change over time as you pay off your mortgage and your children become financially dependent. Don’t forget, you’re unlikely to still be making pension contributions when you’ve retired and you don’t pay National Insurance contributions on pension income. Focus on your take-home pay requirements, not any difference in gross pay.
2. Where will that money come from?
People retiring today use a variety of sources to fund their lifestyle.
Whilst by no means an exhaustive list, you might use:
- Salary from a part-time job for some of your retirement
- Workplace pensions providing income and lump sums
- The State Pension, which is £175.20 per week in 2020/21, dependent on your National Insurance record
- Other savings you may have built up or inherited
- Other assets - in a world of low interest rates, people who own property might consider releasing capital (or equity) from their home, for example
It’s clear that whilst saving into a pension is important, your choices need to be set in the context of everything else you may have and could rely on. Many pension calculators don’t think in these terms.
3. Which vehicles am I currently paying into?
It may be that alongside making traditional pension contributions you may be saving into vehicles like ISAs, National Savings (perhaps Premium Bonds) and although it may not feel like it, making mortgage repayments is effectively a way of giving you access to more money in retirement.
The purpose of listing all the vehicles to which you’re contributing and any other assets you’re not currently adding to is to establish factually if each vehicle is fit for purpose. Is each working as hard as it could for you? recognising not every penny you own will be directed towards retirement.
4. Am I making the most of the tax relief available?
We don’t know how long the current tax relief position around pensions will last. There has been speculation for some time that the status quo is too generous and particularly so for higher earners. The cost of fighting COVID-19 needs to come from somewhere, after all!
For now, there are generous tax relief opportunities available, with limits as to how much you can pay into pensions on an annual and lifetime basis (whilst claiming tax relief).
Find out more on at the pension advisory service and the money advice service.
Most employers offer salary exchange (or sacrifice), to give you both Income Tax and National Insurance relief on pension contributions. Make sure you’re also familiar with any share saving schemes your employer offers which may also offer significant tax breaks.
Pension money in vs money out
|Tax status||Net cost of paying £100 into a pension|
|Nil / Basic rate tax payer (no exchange)||£80|
|Basic rate tax payer (salary exchange)||£68|
|Higher rate tax payer1 (no exchange)||£60|
|Higher rate tax payer2 (salary exchange)||£58|
1 Please note only Basic rate tax may be granted at source and you may need to reclaim the difference.
2 The costs can be even lower for those earning between and £100,000 - £125,000 or over £150,000.
|Tax status||Taking £100 from a pension|
|25% tax free||+ 75% taxable||Net total|
|Non-tax payer||£25||£75 less 0% = £75||£100|
|Basic rate tax payer||£25||£75 less 20% = £60||£85|
|Higher rate tax payer||£25||£75 less 40% = £45||£70|
That is not to say this is a recommendation that every penny you have should be paid into pensions because there are other considerations like being able to access the money (before age 55) or indeed the cash flow advantage you can secure through clearing debt, but this does highlight the opportunity. If we add in zeros to the tables, we could have someone paying in £5,800 into a pension and getting £8,500 back purely through tax efficiency. It may be they could exchange salary they otherwise couldn’t afford, but effectively replace that income from savings in assets that aren’t working as hard. The point of these tables is to demonstrate that if you pay £58 into an ISA, or clear £58 off your mortgage, that is what you get. Pay £58 into a pension and you could have £100 so the money is likely to work much harder for you.
5. Am I investing my savings in the right place?
When you own a house, it’s obvious what you own. Your pension or ISA savings could be invested across a wide range of assets, including cash deposits, fixed interest investments (like government or corporate bonds), commercial property and most commonly shares (or equities).
Workplace pensions offer a default fund or strategy that has been designed to be a good fit for most people; this strategy will also tend to be reviewed on a regular basis by experts to make sure it remains fit for purpose. This doesn’t guarantee it’s right for you, however. Consider:
- What is your attitude to risk?
A common investment question, but your attitude to how much you are willing to see your savings go up and down does need to be balanced by how comfortable you are seeing inflation eat up the value of your savings over time – clearly less of a concern with inflation as it stands.
- When are you intending to access your savings?
Don’t assume it will be your retirement date. You could have money saved up when you retire that you won’t be touching for another 25 years. Default funds tend to change investment strategy, normally reducing risk, as retirement approaches – but when is that assumed to be and what is the planned end state for your investment holding when you do retire?
- How are you intending to access your savings?
Not only should you invest in a way that is sympathetic or aligned to when you are going to use the money but how. There are different risks to manage depending on if you are spending the money all at once, taking the money gradually over time or swapping a pension pot for a guaranteed income for life. You’re sure to have a range of funds or strategies to choose from, so make sure there are links to both time and purpose.
Whilst these 5 questions are by no means an exhaustive list, hopefully there is more than enough homework here to get you started on challenging yourself and assessing the choices you are currently making.
This article was written in partnership with Mercer Marsh Benefits.
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