Pension planning when you are in your 30s or 40s
A recent report suggested that homeowners need to save around £260,000 into their pension pot to have a ‘decent’ standard of living in retirement. But how do you know what you’re on track for when it comes to your pension, and what approach should you take to get there? Here are my tips.
How do I find out where my pension pots are and how much is in them?
I relate everything back to The Money Plan and Step 2 is getting organised – for your pension, that starts with getting valuations.
You should be receiving a statement every year from your pension provider(s), if you’re not then get in touch with them to check the address they hold for you. There are two main types of pension:
- Defined contribution – this has a fund value, a clear total monetary amount
- Defined benefit, AKA final salary – this is not a fixed single value, but is instead expressed as an income e.g. £5,000 per year
Look back at your working life, think about whether you joined a pension scheme in your various jobs. If you have statements, use the asset statement which you can download here to record your savings and make sure you know what the values of your pensions are.
If you’re not sure or can’t recall if you joined a scheme, which I come across a lot, the government has a pension tracing service you can use.
How do I know how much I’m going to need, what’s my magic number?
It’s going to sound a little counterintuitive but try to avoid that side of things – sometimes. I use the word sometimes because it can be disheartening just to look at the final figure.
I see this when I speak with clients, it’s more important to consider the steps needed to reach your retirement figure. If someone is just starting out on pension planning and they want a retirement income of £35,000 a year and I say, ‘OK you need to save £1m’, if that’s not achievable right now it can have the effect of making them think, ‘Why bother?’
If you’re significantly overweight and you have 10 stone to lose, it can be demotivating to say, ‘You have 140 pounds to lose’ rather than ‘let’s focus on losing the first 10 pounds’. It’s better to focus on what you can control.
You need about £100,000 for every £3,500 of income you want in retirement, it’s about a 3.5% ratio, so we’re talking big sums. If you focus only on that big sum, it’s too big a mountain to climb. That’s why you should focus on the next step, the things you can control. That begins with getting organised and finding out what you have saved up already.
If I’m late to the party and just starting retirement saving, how do I balance between what I need now to live and what I need to plan ahead?
I encourage people to look at what’s coming in and what’s going out. The first payment of your expenditure each month should be 12.5% to yourself.
Then go through each expenditure and ask yourself: do I need this, do I want this, can I get it for less? This way you’re making sure your overheads are as low as possible while keeping things in there that you want and enjoy – the point isn’t to deprive yourself completely, you’ve got to enjoy the journey.
Then you should have some money left over, which I call the snowball, and it’s about allocating that snowball. Typically, I talk about 40/40/20: 40% of your snowball should go on your retirement planning, 40% on overpaying your mortgage, and 20% on having fun.
If you’re late to the party in terms of pensions savings, you might take some of that fun money and add it to your retirement planning instead. But for most people, starting at 12.5% of their gross income is a sizable chunk – so let’s get that sorted first, before worrying too much about how much we have to save for retirement.
Is there a method I can use other than the automatic percentage of my salary?
The best way for me is salary exchange, sometimes called salary sacrifice. That means you give up some of your salary and your employer pays it straight into your pension scheme. The reason I think it’s the best way to do it is because you never see the money, so you never miss it.
A lot of people would say there are other ways that might be more efficient, but for me it’s nothing to do with that – it’s psychological. It’s a decision you have to make only once for the rest of your career at that employer. It’s like imposing an extra tax on yourself for your future.
Every employee has the right to ask this, but not every employer will do it because it does involve extra administration. If your employer doesn’t allow it, or you’re self-employed, you can put money aside yourself in a personal pension – see below.
Where should I be saving the money?
In the UK every employee is offered a workplace pension thanks to auto-enrolment. They’re set up for you, they’re typically low-cost and have decent enough funds to choose from (more on that later). In order of preference when you’re saving into a pension:
- The first place you should go is your workplace pension, without a doubt.
- If you don’t have access to a workplace pension then set up a personal pension. You can do this easily online (I have a site called Lexo.co.uk for example), it’s nice and straightforward. The only exception is if you already have a lot of pension money saved up and you might breach some limits, but for most that’s not something to worry about (and if you are in that category, you should be taking financial planning advice!).
If you run your own business, set up a personal pension and direct your money there. Read this article to find out how much you can pay into your pension when you are a company director.
How much should I monitor things?
You should be monitoring it once a year, it doesn’t need to be more than that. Once a year is a good time to review all your expenses, and you should add your pension performance into that process.
What is important is that every year, you try to increase your 12.5% contributions, even if it’s by a small amount. Those small amounts add up because of indexation over time, so every year try to put a little bit more money into your pension. Just making incremental small changes adds up.
Are there any ways to maximise my retirement fund?
There are three things that have the biggest effect on how much you have in retirement:
- When you start
The earlier you can start the better. Do not underestimate the importance of this! Let’s look at an example for someone just getting into work:
- Saving £50 per month from 20-40 years old and stopping, leaving the investment until you are 60, would give you £54,055 at a rate of 5%pa.
- If instead you waited and started at 40 years old and you thought you would catch up by saving double, or £100pm from 40 to 60, you would only have £40,746 – that’s 25% less and you paid in twice as much. Compounding is truly the 8th wonder of the world!
But don’t less this put you off if you’re getting started late. Remember that golden rule: the best time to start was yesterday, the second best is today.
- Indexing your premiums
Increase the amount you’re putting into your retirement each year if you can, even by a little bit. Over the many years until you retire, this makes a big difference.
- Investment exposure
If you have time on your side, take more risk by increasing your exposure to the stock market. My rule of thumb is to measure that risk by 100 minus your approximate age: if you’re in your 20s, 100-20 = 80, so put 80% of your money in the stock market.
If you’re in a workplace of personal pension you generally have access to a variety of funds, with explanations on how much exposure each has. You can request to be more aggressive or more cautious with your investment. The older you are, the more cautious you should be as you reach closer to retirement.
Should I be worried about the pensions gap headlines I see when companies go bust?
I think you should only worry about things you can control, or you’d worry about everything in the world! You should be aware of it, these headlines relate to defined benefit pensions which are on the balance sheet of your employer; it’s their money in return for a promised income at a later date in retirement. Such schemes are only common these days in the public sector, where at one point many private companies also offered them.
When a company goes bust, the pension fund is an asset so it can be at risk – but there are government protections in the form of the financial services compensation scheme, which covers you if that happens.
So should you be worried about it? No, not really. If you have concerns about the solvency of your company, that’s the time to go and see a chartered financial planner for advice. You can find a local CFP on the Wayfinder website.