What do I need to know about pensions?
A pension is a form of saving for retirement, with some associated tax advantages. When you retire or reach a certain age, a pension scheme pays you a regular income for life. For most companies it's an obligation to give you access to a pension scheme or at least point you towards a financial advisor who can explain the ins and outs of the thousands of pension options that are available.
How much pension do you need?
The big question. You can have as big a pension as you can afford, but here are some tips to get a rough idea of how much you will actually need:
It's difficult to judge what your situation will be if your retirement is a long way away, but if you take your fixed living costs, such as food, council tax and electricity, and add some estimated annual leisure activities, such as holidays, theatre trips and dining out, you should be able to get an estimated monthly expenditure.
Remember that unlike your current situation, by the time you retire you may no longer be paying rent or a mortgage and you will also not have to encounter work related costs, such as commuting expenses and buying work attire.
Once you've got an outline figure for your desired retirement income, take it to an independent financial adviser or other pension expert and plan how to provide for it. You could also try one of the many pension calculators available to give you a quick idea.
Remember, the earlier you start a pension, the less you will have to pay each month to reach your target retirement income.
Once upon a time, this was all that was required. Nowadays, its value has slowly eroded to the point where it now barely provides a living income, even with no mortgage or other major costs to pay. Unless you're happy to spend the rest of your life counting every penny, you will almost certainly need to make additional private provision for your retirement.
The amount of State Pension you do receive will depend on the level of National Insurance contributions you've made throughout your working life. Even then, if you haven't paid NI contributions for enough ‘qualifying years', you may not get the full amount.
Company pension schemes
Many companies offer their own scheme and you're advised to sign up to it, especially if you don't have alternative provision. There are two main types of scheme:
- Salary related pensions - based on your salary and the number of years you are in the scheme. These generally call for higher contributions through the life of the plan.
- Money purchase pensions - based on how much you pay in and how those funds have performed over the life of the scheme. This is usually used to buy an ‘annuity' or income for life.
Company schemes require you to make a regular contribution based on a percentage of your salary, to which your employer may choose to make an additional payment. It's likely that you will also be able to make extra voluntary contributions of your own to increase your final pension benefits.
If you pay into a company scheme, your employer pays your contributions before tax has been deducted, which essentially means your tax bill is reduced.
The age when you can actually draw your pension is set out in the terms and conditions of each scheme. Ask your company pension administrator or external financial advisor for the specific details of your pension.
In addition to conventional pension schemes, where you place your money with a trusted provider and let them do the sums, there are plenty of alternative ways to invest to provide an income for yourself in retirement.
Most of these involve bricks and mortar and can be anything from letting out multiple properties to provide a regular income or trading down to a smaller property to free up funds. The housing market is relatively stable but has peaks and troughs based on many uncontrollable factors.
If you want to get really involved, a Self Invested Personal Pension (SIPP) plan allows you to work closely with an advisor to where and how to invest your money for the best return.
All investment strategies carry an element of risk, and some can be extremely risky. As a general rule, you should never place a large proportion of your funds with one provider or solution. Always try to spread your exposure to risk and unless you're an expert in investments and pensions, always seek advice before making any investment decision.