Pension Saving Must Begin Young

Future Proof: In the first of a new series that examines how to effectively save for retirement we consider whether the 'opt-out' option should be removed from pensions

Emma Wall 22 January, 2014 | 4:49PM
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Thousands of workers will be auto-enrolled into pension schemes over the next three months as part of a Government plan to plug the retirement savings gap. 

But a new report from think tank Policy Exchange finds that despite auto-enrolment 11 million people are at risk from pension poverty - and claims that the Government must go further to encourage people to prepare for retirement. 

Auto-enrolment was launched to boost the number of Britons saving into a pension and ensure they have enough cash in retirement to maintain a comfortable standard of living, as there are fears that in the future the state pension will not be sufficient.

But according to the Help to Save report auto-enrolment is not doing enough. The average pension pot is just £36,800 which at current supressed annuity rates would buy you a retirement income of just £1,340 a year. In order to secure a retirement income akin to the average UK wage a worker would have to save £240,000. 

Help to Save instead recommends upping annual contributions and ending the opt-out currently available to private sector employees under the government’s auto-enrolment scheme unless the individual can show they have sufficient funds already in their pension pot.

The initiative has been met with mixed response. 

Hugh Nolan, chief actuary at JLT Employee Benefits, said auto-enrolment has gone tremendously well so far with fewer than 10% of employees opting-out after being automatically put into a pension scheme. 

“The call for a Help to Save scheme that forces people to pay pension contributions would therefore only impact on a small minority of employees, some of whom may already have adequate pension provision or have more pressing calls on their cash in the current economic climate.”

Julian Webb, head of DC and workplace savings at Fidelity said the picture painted by the findings of Policy Exchange is bleak, but there are ways you can start to improve your retirement prospects now.  

“Make sure you are in your employer’s plan if one is available, this is a valuable benefit.  If you have money to spare, increase your annual contributions wherever possible,” he said. “Check your employers’ scheme as many employers pay higher contributions if you pay extra. There are other things you can do if increasing contributions is out of the question right now.

“These include consolidating any other pension pots you have; finding out what fund your pension is invested in and if its right for you; and saving in other tax efficient plans, such as ISAs, if you don’t want to lock your money away.”

The initiative does help to highlight the importance of starting pension saving as soon as possible.

The law of compound interest – described by Albert Einstein as the eighth wonder of the world – decrees that gains not accrued at this early stage cannot ever be caught up at a later date.

The two most important factors when saving for retirement are how much you pay in and how long you save for; good investment performance, low charges and shopping around at retirement all help but if you haven’t saved enough, for long enough, you’ll always be struggling.

Compared to starting at age 25, if you start saving for retirement at age 22, you’ll increase your pay-out by around 20%, by contrast if you leave it until 35, you’ll get around 50% less.

According to Hargreaves Lansdown’s head of pension research Tom McPhail a useful rule of thumb is the half your age times your salary: whatever age you start saving at, you should look to invest half this number as a percentage of your salary. So, start at age 30 and you should save 15% of salary; at age 40 it would be 20%.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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Emma Wall  is former Senior International Editor for Morningstar