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Could you live on the state pension? Read this and other articles in our latest Financial Focus newsletter.

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Starting a career, saving for retirement

How many people in their 20s can begin to imagine how they might look and feel when they reach 60? For young people today planning for the future is a daunting - even boring - task that will get pushed aside till later life. Pensions are seen as being for older people; being young is about living for the moment and spending money on the things they want in their lives such as socialising, holidays, clothes and so on.

After you’ve graduated, maintaining your finances on an individual basis can be daunting. The last thing you may want to think about is your retirement! However, it is always a good idea for new graduates to begin their retirement plans as soon as possible. In general, its fair to say that young people of today can have an expectation of life far beyond what their predecessors had - to the point that they might conceivably spend almost as many years in retirement as they have done in work.

Many are aware of this and accept it as good news but do not make the connection between that and the need to take stock and plan ahead as to how they are actually going to support themselves when their working days are over. The best way to start your pension plan is if you are lucky enough to work for a company with a good pension scheme. The advantage to company pension schemes is that your employer will contribute as well.

Other forms of investments and property can help and contribute towards your retirement planning; however a pension plan is a very good long term savings plan which requires minimal time and effort to administer, and has the potential for a good return. The advantage to a pension plan is that you cannot touch your saving. This stops any temptations to borrow from your saving before you reach retiring age, ensuring that the money will be there for you to enjoy throughout your retirement. Building a successful retirement nest egg is dependent on a good saving discipline.

I've only just started working. Why think about retirement now?

Simple! If you are finding budgeting hard now, the chances are you will find it harder to rely totally on the state pension when the time comes.

The best time to start thinking about retirement planning is when there are 30 or 40 years to go in your career. Because you’ve got time on your side, you have the opportunity to put into place a retirement strategy that is relatively painless. This is certainly something that can quickly pass by those of us if we procrastinate - and it’s a relatively small window of opportunity.

There are many ways to save – why should I choose a pension?

Granted, investing into a pension may not sound like the most exciting thing in the world to do, but the importance of making your own savings for retirement has never been higher. Here’s some questions that might help get you thinking about your retirement planning:

At what age would you like to stop working?

Arguably the most significant factor affecting the age at which you will retire will be your financial circumstances. Many people picture themselves retiring in their 50s or early 60s and enjoying exotic holidays and a leisurely lifestyle, but the earlier you retire, the larger your pension fund will have to be in order to pay you an adequate income to fund your standard of living.

Where will your income come from when you stop working?

You may have built up a pension through your employer(s) which will provide you an income. Whilst it is easy to take comfort in this, have you given consideration to whether this will actually pay you the desired amount when you stop working? It’s better to find out now whilst you can still take action such as contributing more to your company pension or a personal pension such as a SIPP.

What will you want to do with your time when you stop working?

Whether it’s round-the-world holidays, weekends at a country cottage, or leisurely days in the garden you’re planning, you will need a certain level of income to enable you to do so. Delaying pension contributions by 10 years can cut your total pension fund at retirement by more than half. It’s those additional funds that will really enable you to relax and enjoy yourself when you retire.

Why is a personal pension better than any other form of investment for retirement?

You will receive tax relief on your contributions - for example a contribution of £100 will only cost you £80 as the government will automatically add the remaining £20. Plus if you’re a higher rate tax payer you will receive up to a further £20 back via your tax return.

So a contribution of £100 could cost you as little as £60. The money in your pension will grow free of UK capital gains tax and income tax (tax deducted from dividends cannot be recovered).

When you retire, 25% of the value of the fund can normally be taken as a tax free lump sum, with the remainder then being used to purchase an annuity which will provide you with an income (subject to tax). If you die before you begin taking the benefits from your pension the funds will normally be passed to your spouse or other elected beneficiary free of inheritance tax.

Will my company pension be enough?

Contributing to your employer’s company scheme is one method to help you on the way to a more prosperous retirement. The benefits under some schemes can be significant, particularly if you are one of the lucky few with a final salary pension. Whether these provisions will actually meet your retirement needs, is something many people do not consider. Many large companies are now struggling to meet their current and future commitments, and are unfortunately beginning to scale back the benefits under these schemes and reconsider their position.

As a result, a company pension in isolation may not be enough. It is now easier than ever to contribute to a personal pension in addition to your company pension and most people under the age of 75 are eligible. As it is separate to your company pension it will remain there for you to continue contributing to regardless of who your employer is and the future decisions they make.

How much should I put into my pension?

You can save as much as you like into any number of pensions. In an ideal world you want to be contributing as much as you can. Up to age 75 you get tax relief on contributions of up to 100% of your relevant UK Earnings, subject to an annual allowance of £245,000 for the 2009/2010 tax year. For some people this is realistic but for many it is not.

Fully researching your employer’s retirement plan options will give you a greater understanding of what to expect from your retirement plan and this will help you work out how much you need to save yourself. Generally, a rough rule-of-thumb is to divide your age by two and then contribute that amount as a percentage of your salary into a pension scheme.

For example, if you are 30 you should consider contributing at least 15% of your salary, or if you are 40, 20% of your salary and so on. It may sound a lot, and it is not affordable for everyone, but remember, to receive a basic pension income of just £20,000 a year, a male aged 65 would currently need a pension pot of approximately £300,000 (depending on the basis of the annuity). If you’re currently deciding how much to pay into a pension or think you should be saving more, we would be pleased to give you some quotes on the options; an illustration of how much you could expect to receive as an income when you retire and general advice on retirement planning - just give us a call.

HM Revenue and Customs practice and the law relating to taxation are complex and subject to individual circumstances and changes which cannot be foreseen.

This article was taken from Seneca Reid's Autumn 2009 newsletter.

Seneca Reid is a trade name of Andrew Charles Reid Smith who is an appointed representative of Openwork Limited which is authorised and regulated by the Financial Services Authority.

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