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Begin at birth - but it's never too late

It's best to start a fund early, but our action plan aims to help whatever your age

The Observer, February 18, 2001
 


You can now have a pension as soon as you are born. A doting relative can pay up to 3,600 a year into one of the Government's new stakeholder plans. For a basic rate taxpayer this works out at an outlay of 2,808 from April, after tax relief. It does not matter if the payment is made for someone who is not a taxpayer, but high-earning benefactors should note that they cannot claim the difference between basic rate tax and the higher rate, of 40 per cent.

The money can be paid from savings rather than earnings, as it was under the old personal pension rules. Given the powerful effect compound interest (see feature page 13) can have on small investments held over a long period of time, this could provide a child with a good start towards a reasonable pension.

In your twenties

For most of us, this is the point when retirement planning should begin.

Figures from insurer NPI show that a 25-year-old must put 233 a month, topped up to 299 by tax relief, into a stakeholder pension to achieve an income at 65 equivalent to 15,000 a year now. A 40-year-old with no pension would have to spend 451, or 579 after relief.

It is important for young women to build pensions of their own because of the way time off to bring up children can play havoc with income. Marriage breakdown later in life can stretch finances, and when you retire you discover that every pound saved could buy you 8 per cent less in income than a man (see 'in your sixties').

Twentysomethings seem acutely aware of the need to save for retirement, even though their spending may outstrip their commitment. A pension should not be the dominant financial aim if you have debts however.

Jackie Holmes, of accountant PriceWaterhouse Coopers, says: 'Probably the priority needs to be to pay off debt, and you have to look at affordability. It is important to look at what other commitments you have, especially if you have a mortgage.'

If your debts are under control, your priority should be an employer's scheme if it is available. 'It is a no-brainer that you should join it,' says Holmes.

The company will contribute up to 10 per cent of your salary to the fund, while you will pay, perhaps, 5 per cent. Some employers have pensions that require no contribution by the employee - a particularly valuable benefit.

If your employer has no scheme, the main option now is a personal pension, although from 6 April the new stakeholder pension will be available (for details see box). Employers without schemes of their own will be obliged to give access to stakeholder plans by October, and nominate a provider. But they won't have to pay into a stakeholder plan (see below).

Many insurance companies are already offering personal pensions that mirror the stakeholder plans they will offer from April, so these are worth considering.

But John Turton of adviser Best Pension says it may be worthwhile waiting to see what an employer offers, even if they do not contribute.

'If an employer introduces a scheme charging 0.7 per cent against an outside stakeholder charging 0.9 per cent, little things like that matter,' Turton says.

Don't forget that while a pension has good tax breaks - up to 40 per cent on contributions - you can also supplement pension savings with other forms of investments such as Individual Savings Accounts. If you delay starting a pension you should certainly still be setting aside long-term savings.

In your thirties

Act now if you want to have a pension equivalent to between half and two-thirds of your income. You may need to save more than 10 to 15 per cent of salary if you've done nothing so far.

A rule of thumb used by pensions experts suggests that to work out what you should be saving for retirement, halve your age and invest the equivalent percentage of income in your pension. So by your late thirties, if you've done nothing so far you need to start with contributions of nearly 20 per cent. If you took out a personal pension five years ago, paying 25 a month and have not increased contributions since you will almost certainly need to bump up contributions.

If you're starting from scratch an employer's scheme should be the first thing to look at. If you want to catch up on saving not done in your twenties, and you have access to an employer's scheme, look at its Additional Voluntary Contribution plan. If the employer will pay into your AVC it's hard to argue against this form of saving.

But you might also want to use a stakeholder pension. This is because the proceeds of AVC schemes must be used entirely to buy an annuity. Annuity rates are low and likely to remain so. A stakeholder scheme allows you to take 25 per cent of the maturity value as a cash lump sum which you might be able to invest for a higher return or use as you wish when you retire.

Pension rules limit the amount you can contribute to a company scheme - including AVCs - to 15 per cent of your salary. But if you earn less than 30,000 a year you can put another 3,600 into a stakeholder plan. Another option is the free standing additional voluntary contribution scheme (Fsavc), a private version of the company AVC.

Charges tend to be high and most people should consider their company scheme first and then a stakeholder.

If you don't have access to an employer's scheme, look at a stakeholder or, possibly, a low-cost personal pension.

If you want to save more than the rules allow, look first at other forms of saving with tax breaks, primarily Individual Savings Accounts where you can now contribute up to 7,000 a year. Then try investments that don't carry tax breaks, such as unit trust or investment trust savings schemes. Remember, there is nothing magical about a pension; it is merely a wrapper around investments that will one day provide an income.

If you took out a personal pension in your twenties you may be wondering whether to transfer your funds into a stakeholder plan, or to divert your monthly savings to one of the new schemes. Transfers can be expensive because of exit penalties.

Even so, Best Pension adviser John Turton has just done a forecast for a client who stands to have his 13,500 fund reduced by 5,600 on transfer.

'He will be 0.4 per cent better off he he jumps to stakeholder,' says Turton, who stresses that people usually need independent advice to work out whether a transfer is worthwhile.

For older savers with schemes that had high initial charges, a switch is less likely to be worthwhile. Others will want more choice of investment funds than is likely to be available in stakeholder plans.

Another issue is whether your personal pension firm plans to cut its charges to bring them in line with those of stakeholder plans.

Even if you started a pension in your twenties, planning can become trickier and more time consuming if you have taken career breaks to bring up children. Broken income means that you may not be able to afford to contribute to a pension.

Employers must continue to paying into occupational schemes for women on paid maternity leave. If you are receiving statutory maternity pay you will need to claim national insurance credits towards your state pension, though you should receive them automatically if are receiving maternity allowance. If you don't return to work, you should get automatic state pension credits after claiming child benefit for a year.

Mothers who do not carry out paid work will be able to save in a stakeholder pension, or their partners can contribute for them.

The thirties might be the time when you start a business, or become self-employed. You will then be on your own for pension provision. Stakeholder pen sions, or personal pensions are suitable for middle-income earners, but higher earners who like managing their investments might consider small self invested pension schemes (Sipps, see below), which allow you to choose your own, while contracting a specialist to do the administrative work.

Until recently these schemes were viable only for pension savers putting away 10,000 or more a year. But a new breed of internet-based Sipp providers is reducing costs and opening them to a wider audience.

The pioneer was Sippdeal, which has a start-up fee of 100 and a minimum dealing charge of 50.

If you are running a small business you may want to consider a Small Self Administered Scheme, which will allow your firm to invest in its own property, or to set up a company scheme (if you're employing more than five people, remember that you have to offer a stakeholder plan), but this is an area for specialist advice.

In your forties

Retirement is coming closer, so it is time for more detailed planning. If you have done nothing about a pension yet, you will be shocked by the large amount you will now have to contribute. From a standing start, you may need to save between 20 and 25 per cent of income. Even if you have been saving steadily, this is the time to think about when you will want to retire and whether you need to top up your savings. You can obtain a forecast for your state pension by asking for form BR19 from Department of Social Security offices.

Don't forget to ask about any entitlement to the State Earnings Related Pension Scheme (Serps), the top-up state plan for employees. Contact past employers' schemes for forecasts of what these might produce. If you've lost track of a past scheme, contact the Occupational Pensions Regulatory Authority (tel: 01273 627600) which operates a tracing service.

If you need to top up an employer's scheme you can, as in your thirties, use an AVC, buy extra entitlement through 'added years' schemes or use a stakeholder pension. If you are making your own arrangements, make sure you are paying enough into your plan to keep you on track. However, if you are catching up and have little money to spare consider whether you can really afford to lock away savings that cannot be accessed until you retire. If you expect to have to finance children through university, for example or to fund an endowment shortfall and you are also under-pensioned you may need to save in an Isa or through unit trusts or investment trusts that allow you access to your cash at short notice.

Don't forget that paying lump sums off a mortgage are a form of saving. Early repayment can save tens of thousands of pounds over the life of a mortgage, putting equity into a home that you might consider swapping for a smaller one when you retire. Another option might to buy property to rent out.

Many middle aged divorced women, in particular are now facing up to the possibility of financial difficulty in retirement because they had no independent pension. The courts can now split pensions between divorcing partners, giving one a transfer value from the other's scheme to put into a pension of their own. Alternatively the courts can make an 'earmarking' order allowing one partner to collect a pension in retirement from the other's scheme. The splitting arrangement is likely to become more common than earmarking as it allows for a clean break.

If you are in a stable, long-term relationship with a partner who has a good pension but you are not married, this may be the time to tie the knot. Some schemes do not automatically grant pensions to unmarried partners.

In your fifties

If you've saved steadily since your twenties, reviewed your pension regularly and knew you wanted to retire early, congratulations. You may now be able to cash in.

If you are 50 and want to retire at 55, however, the sad truth is that you are unlikely to be able to afford it unless you have worked continuously for an employer with a top scheme, and it is prepared to pay you a handsome early retirement settlement.

For many fiftysomethings, this will be a period of frantic catching-up, with retirement only years away. You need to review your pension forecasts (as for the forties, above) to see where you stand. A well funded personal pension may allow you to retire from 50 onwards.

If any part of your pension depends on a 'money purchase' arrangement - which means it is invested in the stock market, rather than depending on your salary - you need to start looking at whether money should be transferred from high-risk to medium or low-risk investments. Most schemes prompt you over this, but check if you hear nothing.

Start acquainting yourself with the finer points of annuities and their pitfalls. These provide annual income and are bought with the proceeds of money purchase pensions. A man of 65 retiring with a 10,000 fund today would receive less than 900 a year, while a woman might get only 800 because she is likely to live longer and need more income.

This does not provide for any form of inflation proofing or any repayment to your estate if you die within five years of taking the annuity. These guarantees would mean an even lower income.

If you are still topping up your pension you may need to weigh up the tax breaks on AVC contributions against the flexibility of investment outside pensions. If you are saving in AVCs you may want to consider diverting that money to something more flexible that does not require annuity purchase, but remember that returns from most forms of investment are likely to be in single figures, unless you take a big risk with your money.

In your sixties

If you haven't yet retired, look at whether any of your pension fund is invested in high risk funds. If you have money in AVCs or other 'money purchase' plans you need to start looking seriously at annuities.

Peter Quinton of specialist adviser the Annuity Bureau believes that as many as 50 per cent of buyers go to the company that managed their pension funds when they might raise their retirement income by at least 10 per cent per cent by shopping around.

Women reaching retirement will quickly discover that they do significantly worse out of annuities than men because of their longer lives.

A woman of 60 retiring with a 100,000 pension fund could expect less than 7,500 a year from one of the best annuities, against 8,029 for a man.

Another option is to consider a with profit annuity, where the income depends on bonus. Returns on these now compare favourably with those from conventional annuities, although they may not always give a higher return when you first retire. The hope is that income may rise, rather than remain static and at low levels as with a conventional annuity. The disadvantage is that your annual income is not guaranteed because returns on with profits funds vary from year to year.

For people with large funds, the main alternative to an annuity is an income drawdown plan, or a phased retirement scheme.

Both of these schemes involve leaving your pension fund invested to continue to growand drawing an income meanwhile, or taking sections of the fund to convert to annuities gradually.

You must convert pension funds to an annuity by the time you are 75. The Income Drawdown Advisory Bureau, a specialist adviser, usually recommends this only for investors with funds of at least 250,000.

Turton at Best Pension says another option for people who have non-pension investments they can live on is to leave the pension invested, and convert it into an annuity later.

 


Copyright 2002 Global Action on Aging
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