Should you reduce pension saving? Why it’s short-term gain, long-term pain


Workers facing money pressures are being urged not to abandon or cut pension contributions due to the damage this could wreak on their future finances.

One in 10 adults had already cut contributions or stopped paying into a pension altogether by early spring, before the cost of living crisis had really set in, according to a new survey.

Four in five people were concerned about making ends meet, and three quarters said they needed to take action to cope with pressure on their budgets, found the national poll by Scottish Widows.

Sunnier retirement? Some workers may be tempted to cut pension payments in the cost-of-living crisis, but it’s likely to result in future pain

Newly-released Government figures show pension participation held up during the pandemic, with 88 per cent or 20million of eligible staff saving into a workplace scheme last year.

But finance experts fear the current cost of living pressures and volatile financial markets could deter saving and dent pension contributions.

‘With the Bank of England forecasting that inflation could hit 11 per cent around October, and stay above its 2 per cent target rate for two years, it’s a struggle to find investments, never mind a savings account, that goes the distance in maintaining the real value of cash deposited,’ says wealth management group Evelyn Partners (formerly Tilney).

But it says that if you already have a cash savings buffer and do not need to access a pension before age 55 – or 57 from 2028 – pension saving is one of the best ways to beat inflation.

Evelyn cites the following advantages which you stand to miss out on if you cut pension contributions.

– Government tax relief boosts taxpayer’s pension contributions by 25 per cent, or nearly 68 per cent if you are a higher rate taxpayer.

‘These assured cash boosters trounce any investment returns one is likely to get in an Isa and will beat inflation not just in the short term but in the long term.’

– Periods of financial market volatility of the kind we are seeing now can be a ‘boon’ for young and middle-aged investors as every month they are picking up investments at lower prices.

‘At the moment it is tempting for savers who are nervous about volatility to take their foot off the pensions pedal – but these are exactly the times when regular pension saving will pick up cheaper investments and deliver even higher returns in years to come.’

– For younger people in particular, it is earlier savings above all that ‘turbo-charge’ a pension pot due to compound returns.

How to build a £1m pension pot

‘It is much easier than you think to amass a pension pot of more than £1million.’ says Gary Smith, director of financial planning at the Newcastle office of Evelyn Partners.

‘It doesn’t take stratospheric salaries, saving a huge percentage of one’s pay, big employer contributions, or above-average investment returns to get there.

‘The power of compound returns applied to regular saving in one’s 20s and 30s will take up the slack to a surprising degree.’

Smith offers the example of a young professional with salary progression through their career, who saves just 5 per cent of their gross pay into a pension at the start.

The chart below shows how they contribute 5 per cent for the first 11 years of their career, while earning on average £35,000. Due to tax relief that works out at 4 per cent of net income.

The worker then saves 8 per cent for the next 11 years from an increased average salary of £45,000, 12 per cent for the 11 years after that from a £55,000 average salary, and 15 per cent for the final 12 years while earning an average £65,000.

Based on employers contributing 5 per cent throughout, and investment returns averaging 5 per cent a year, the pension pot at age 68 would amount to £1,066,651.

Smith adds the power of early saving is revealed even if the employee stops contributing to their work pension at the end of the first period when they are 34, and merely letting the pot accrue at 5 per cent a year for the following 34 years.

‘By age 68 the pot would be a sizeable £335,062.57 – from personal contributions during those 11 years of just £15,400. That’s growth of 2,075 per cent.’

However, the vast gap between £335k and £1.07million shows how much more you could end up with if you keep saving into a pension, and are prepared to step up contributions over your working life.

Source: Evelyn Partners

Source: Evelyn Partners

Smith says of the potential £1.07million pot: ‘This is of course nudging very close to the current lifetime pensions allowance of £1,073,100, where a tax charge is applied on any excess, but that is not something a young saver need bother themselves with.

‘Judgements as to whether to continue growing a pension pot beyond the LTA can be made as the limit is approached, not least because any tax charges due to the LTA will only be levied when the pension is crystallised.

‘It’s by no means cut and dried that savers should avoid breaching the LTA, as it will depend on one’s financial situation, including plans for retirement and tax-efficient gifting.’

Pete Glancy, head of policy at Scottish Widows, says regarding the prospect of people cutting pension contributions: ‘We are facing a myriad of issues and there are no easy solutions.

‘It’s sadly understandable that households are being forced to make some tough choices in their budgets, but it’s important they do so whilst taking a longer-term look at their finances.

‘Having a decent employer or personal pension in place is one of the best ways to plan for your future financial wellbeing, so people should think twice before making decisions that could result in long-term pain for a short-term gain.

‘As a guide, we recommend that an individual should look to save a minimum of 12 per cent of their salary to secure a consistent quality of life, but aiming for at least 15 per cent is more likely to provide a comfortable retirement.’

How to get your pension on track

If you are worried about your pension and whether you will have enough, read a full 10-step guide to sorting it out here. 

To get started, investigate your existing pensions. Broadly speaking, you need to ask schemes the following:

– The current fund value

– The current transfer value – because there might be a penalty to move

– Whether the pension is in a final salary or defined contribution scheme

– If there are any guarantees – for instance, a guaranteed annuity rate – and if you would lose them if you moved the fund

– The pension projection at retirement age.

You can use a pension calculator to see if you have enough – find This is Money’s here.

You should add the forecast figures to what you anticipate getting in state pension, which is currently £179.60 a week or around £9,300 a year if you qualify for the full new rate. 

Get a state pension forecast here.

If you are tempted to merge your old pensions, check out some tips on how to decide here.  

If you have lost track of old pensions, the Government’s free tracing service is here. 

Take care if you do an online search for the Pension Tracing Service as many companies using similar names will pop up in the results.

These will also offer to look for your pension, but try to charge or flog you other services, and could be fraudulent. 

If you are in your 20s, we have a special pension guide here.  Self-employed people can find out how to sort out their pensions here. 

Women, who tend to miss out because they get lower pay and do unpaid caring work, can find out how to increase retirement savings here.

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