Many people, especially young people, put off contributing into a pension as they just aren’t sure how and why they should. Here are the basics of pensions to help you maximise your retirement fund.
In basic terms, a pension is an income in retirement. This income does have to be paid for by someone however, with the most common way being financial contributions into a savings vehicle, paid into by the pension recipients and their employers. As pensions are received in retirement, they are often seen as unimportant, or something to be thought about later in life. The truth is they are extremely relevant to young people, and the earlier you can start saving into a pension, the better.
One of the barriers to pensions many young people face is the complicated nature of saving and investing. We’ve put together some of the basics of pensions with some commonly asked questions to help you understand them, and to help show that it’s never too soon to build a retirement fund.
What Are The Different Types of Pensions?
State Pensions
You are entitled to a state pension if you have been paying National Insurance contributions, and you will receive a full state pension if you have been contributing for 35 years or more when you reach retirement age. These contributions are not going into a pension fund to be invested, instead the collective National Insurance fund is used to pay current recipients of the state pension, and by paying into the system now, you are able to receive the benefits in retirement. You must reach state pension age in order to receive the income, which will be set at 66 in 2019 for both men and women. There is no guarantee on the amount that people will receive from state pensions, which is why it is a very good idea to supplement a state pension with either a workplace or private pension to ensure you are able to live as comfortably as possible in retirement. More on your estimated state pension income here.
Workplace Pensions
These a provided through your employer. An employer will set up a scheme (outsourced to a professional company) and employees will be able to join the scheme and contribute, with the employer matching a certain portion (with a government bonus added in too). The pot of money will be invested and grown, to be accessed on retirement. If you opt-out of a workplace pension, you are effectively turning down free money. This is before you take into consideration the potential returns from the investments your pension pot has accrued. There will be rules stipulated in your package which will determine at what age you can access these funds.
Private Pensions
You can choose to contribute into an individual or independent pension. These are particularly important for those who are self-employed as they will not have an employer to arrange the pension, or contribute alongside them. These pensions are not exclusive to the self-employed though, and can be used in conjunction with a workplace pension (if you are able to afford to contributions) to diversify your investments and maximise your income in retirement. There are a wide range of pension providers and insurance companies offering private pensions, which can be intimidating. For this reason, many people choose to seek advice from financial advisers to help select the best pension for them and their circumstances.
What Are Pension Freedoms?
New rules recently introduced by the government allow you to access pension funds at age 55, earlier than state pension retirement age. While this allows people to be more flexible as they head towards retirement, it’s not always advisable to eat into your pension pot so early. We always recommend that people seek financial advice before withdrawing from their pension funds. We have more on pension freedoms here.
Can My Pension Funds Disappear?
There have been some high profile instances where employers have failed to pay employees their final salary pensions due to financial difficulties. If an employer does go bankrupt, there is a safety net called the Pension Protection Fund, which ensures that employees receive at least 90% of what they were promised. With defined contribution pensions, which are much more common today, pension funds are held privately, separately from the employer, and while there is no guarantee of returns from the funds you are invested in, as long as you select regulated funds to invest your money, there is a very low risk of your pot disappearing
How Much Should I Save into A Pension?
This all depends on how well you want to live in retirement, and how much you expect to have in assets or capital from other sources. A recent report has suggested that as much as 12% of your salary should be put towards your pension funds, meaning the earlier you start saving, the better. You should also save as much as you are comfortable with, and without seriously impacting on your income now. The longer you wait to contribute, the more you will have to pay in later in life to make up the lost earnings from the earlier stages of your career.
If you would like more information on saving into a pension and choosing the right package for you, please get in touch - we'd be happy to talk things through with you.
