If you don’t want to end up counting the pennies when you pack in work, then you need to save a decent amount in your pension. But how much is enough?
It’s no secret that in order to have a comfortable retirement, you’ll have to stash some cash away in a private pension.
The days of final salary pensions are virtually behind us now, but with the introduction of the auto-enrolment workplace pension scheme, we are in a far healthier position today.
Because of that scheme, employers are forced to not only open a pension for qualifying staff, but pay contributions into the pot too. It’s meant that millions of regular employers are now saving in pensions who may not have been if left to their own devices.
But having a pension is only the first stage. You also need to make sure you’re paying in enough money now to last you throughout retirement. And yet working out what the ‘right’ amount to pay in can be easier said than done.
How much is enough?
A good starting point is the minimum amount set for contributions to the workplace pension scheme.
This has increased a couple of times in recent years. Up to April 2018, the total contributions were 2% of the employee’s salary, with 1% coming from the employee.
From 2018 to 2019 this grew to 5%, with 3% coming from the employee, and then from April 2019 it jumped to 8%, with 5% coming from the employee.
Clearly, 8% of your salary is not exactly a tiny amount. But ask anyone in the pensions industry and they will emphasise that it really needs to be seen as just a minimum.
If you stick to just paying those minimums, then while you may avoid the biggest money stresses in retirement, you still are unlikely to be flush with cash.
So what’s the right amount to save?
What’s my age again?
The idea is that if you have an income in retirement of around two-thirds of what you earn when you are working, then you will be pretty comfortable.
After all, chances are you won’t have to worry about things like the mortgage bill or commuting costs.
In order to calculate how much you should be saving to have that much cash in retirement, you need to halve your age.
That number is the percentage of your current income you need to save each month in order to enjoy that comfortable retirement.
I’m turning 38 this year, so on this basis, I should save 19% of my salary each and every month, from now until I retire.
Good luck with that…
Every penny counts
Saving such a massive chunk of your monthly salary is not really doable for lots of us. But it does highlight two key points about pension saving.
The first is that there really is no substitute for starting your pension saving at an early age.
Following the rule of thumb, if you start putting away 10% or more of your salary in your 20s and continue that over your working life, not only is this easier to stomach than putting away double that figure once you hit my age, but also the way that your returns compound means that the money you do save works that much harder, delivering you a more sizeable pot in the end.
Similarly, every penny counts.
No, I can’t afford to put away 19% of my salary.
But every pound I do save will make a difference to the size of my pot if and when I do retire, particularly given the fact that won’t happen for decades and so that money has plenty of time to drum up a return.
Pension saving is a long-term pursuit and needs to be viewed as such. No, it’s not sexy, putting away money that you won’t be able to touch until what remains of your hair has fallen out.
But you won’t find too many retirees who wish they had saved less for their later years.
What am I paying for?
It’s worth remembering that the size of your pension contributions isn’t the only driving factor in the size of your eventual pension pot.
It’s important to think about where you want that money to be invested. Investment funds come in all sorts of different shapes and sizes, so it’s vital that you understand where your money is going, and what you are getting in return.
In the early years of pension saving, you might be happy to take a few more risks with your investments ‒ going for more speculative funds can lead to big returns, and you have the time to ride out any hiccups that occur along the way.
However as you move closer to retirement, it makes sense to move more of your money into stable investments that might not deliver the massive returns, but at least won’t lose you money.
It’s always worth keeping an eye on ‘dog funds’ ‒ those that massively underperform the market ‒ as you don't really want to have your pension funds tied up in them.
Alongside the investing strategy, you also need to keep an eye on what you are being charged for those investments.
There’s no point in having your money in a couple of funds generating decent returns when those returns are being eroded away by excessive charges.
Investment companies are now required to publish ‘assessment of value’ reports which will make clear where funds are being invested and what charges are being incurred, but they aren’t doing a great job of making that information easily accessible.
So it’s worth doing some digging to make sure you understand what you are paying for.
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