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Hi, met a 62year old recently who said that up until he was 32years old, he overpaid into a private pension, so he thinks about 7 years of payments. That pension is now predicted to give him a (his words) 'very comfortable' retirement for him and his partner, and they live a rather nice life, so I assume it's healthy!
Got me think for my kids, both about 25, if they could receive a lump sum to put into a private pension (not sure how that will happen!!), how much would be sufficient now, to give them a modest pension at their retirement age, so c.40 years off. Very crudely, would a e.g. £100K pot give e.g. £20K pa in 2066?
Are there any downsides to this? (I'm assuming I win a cash prize and can gift them this, so possibly hypothetical!).
Cheers
The problems I can see are:
1. Locking money up (that might be better used short term) for a long long long long time. At age 25 is expect you might need the money for other things like deposit on buying first house.
2. Depending on pay, it may not be that tax efficient to put money in a pension now. For example if they are only paying basic rate tax then it's not much if a tax advantage to them. It may be a lot more tax efficient later in careers when they are hopefully paying the higher rate.
IMHO financial planning is a lot about anticipating when you might need money for stuff, then using that information to plan to minimise tax, and selecting an appropriate investment vehicle.
Define the problem space then build a solution to it - not the other way around.
Maybe he was buying additional years of a final salary scheme, that won't likely be available to your son.
Huge benefits to starting early but maybe not to the extent of that specific example.
Pensions are the most efficient of savings options I think, however I would be tempted to put it in a S&S ISA and leave it for 20+ years. Depending on the size of your lump sum of course, if it was up to £20k I'd go the ISA route.
Your limited to £60k per year into a pension scheme, IIRC that includes any work contributions and tax relief (stand to be corrected on that one) although you can count back years you haven't used that allowance.
Do encourage them to start a pension with whatever work they have right now however.
Employer matched pension contributions also may swing the balance in favour of pension vs ISA.
Your employer doesn't have to match any lump sum you pay into a pension, they only need to put 3% in every month in an AE scheme
I have a private pension. My three sons and wife are the beneficiaries when I die. Not all private pensions have this option.
My sons - two are already enrolled in pensions and making headway. One even was told off as he was saving 'too much' which took him down to National Minimum Wage...
The wealthier of the two sons is also saving hard for a house. For me there is a balance of early pension (so compounded growth over time) and it being locked away.
The maths is relatively simple. £20k pa in today's money (so allowing for inflation) needs a pot of £500k assuming a 4% drawdown. Assuming 5% real growth per annum, today you'd need to have a pot of £500k/(1.05^40) which ~ = £71k invested.
The above caveats about when they'll need the money is important. Investing it all about knowing your time frames and adjusting your risk accordingly.
To answer the question if you put £50k into a pension (ignoring tax benefit) and it gained 6% (cautious but not overly so) a year for 40 years then it would be a sum of £547k (change it to 7% and it ends up £815k). Inflation at 3% on £50k would make that number £165k. Adding more money in yearly say £2k is where it really starts to ramp up.
As said above at that age money is more use to get a house or for your education etc. So accessible via a LISA and ISA and then maybe start adding some of that into pension later in life especially if you get into higher tax bands. Do get employer pension and If the employer will match contributions up to a % of salary then this is well worth doing. Extra free money that will make the pension far better 30 years down the line.
Yes definitely get the max employer contributions out of pension deposits - but that would be through regular workplace contributions not a personal one off deposit.
LISA also a potentially good shout depending on savings objectives
overpaid into a private pension,
🤷🏻♂️ presumably ‘paid more than the minimum contribution’? ‘Overpaid’ could imply ‘exceeded the annual pension savings allowance’ which might not be the most efficient way of saving. sure, putting more money into a pension, especially as a higher rate taxpayer, has some nice accrual, growth, and tax avoidance advantages but as folks have said when you are younger there are other things that may be more pressing. A balanced approach to spending and saving may offer more fun while preparing for the future.
Crystal ball stuff - do we think 'markets' are going to behave in the same way for the next 4 decades, as they did from 1985?
Currently, a Lifetime ISA gives (18-39 yr olds) a 25% boosted headstart - pay £4000 in and govt will top up to £5000. It was meant for help with first house purchase, but can be taken as a pension (from 60). Tax exempt, as an ISA and can be invested in the same stocks, shares, funds etc as a pension. May well work well for some. It can be funded alongside a standadrd private (SIPP) pension, so doesn't limit retirement til 60, as SIPP can be taken from 55. The £4000 is treated as part of the £20,000 ISA annual allowance so, unlike a SIPP, is not potentially liable to tax when you take it out. So, 25% bonus at start and tax free on withdrawal, otherwise similar growth to a private pension. Though if invested in chocolate teapots, it will disappoint.
Crystal ball stuff - do we think 'markets' are going to behave in the same way for the next 4 decades, as they did from 1985?
Almost certainly not, which is why I diversify.
The best time to start investing was yesterday, and the second best time to start investing is right now.
Sorry for the cliché but it's true.
Which investment vehicle is best for you depends entirely on your personal circumstances, commitments and future goals.
For a 25yo, they should absolutley be paying into the workplace pension matched by the employer, ..if the employer pays 5%, you should absolutley match that 5% as that's not only 'free money', it has tax advantages too.
Above and beyond that, they should keep a few months wages in liquid cash savings, and then look at a stocks and shares ISA with a boring all-world ETF as a long term savings plan.
Then above and beyond that, they sould open a LISA or a SIPP if suitable.
The only special benefits of a pension compared to any other form of saving are the tax rebate on the money that goes in (out of your earnings, especially if a higher rate taxpayer), and additional contributions from the employer if applicable. Just bunging in a chunk of money from some other source isn't particularly magical.
And the tax free lump sum.
Apart from the tax free lump sum basic rate taxpayers may be as well using an ISA. No tax relief going in but tax free coming out.
As much as possible, as early as possible. But any lump sum is limited to £60k total for tax relief. Less if you are a very very high earner. Compound interest is the eighth wonder of the world
Tax relief is important, but so is inaccessibility. Put it away and leave it till retirement. You’ll be surprised how soon 55 (or later) comes around. I’ve made additional contributions since forever. On top of a generous pension. It’s been worthwhile even at times of hardship.
And the real pension benefit over ISAs is that the compound growth is on the tax-free deposits and the tax free lump sum at the end. Which can be drawn when mortgages are due for repayment.
As much as possible, as early as possible.
Is a good aim I agree, and is exactly what I'm doing (mid 40s)
Howeve it's not always the correct answer depending on where you are in your life and what you want to achieve.
For example is it worth banging a load of money into a pension very early but then not being able to afford a deposit on a house (for example) and as such having to rent instead.
What's the financially astute choice in that situation? I wouldn't be choosing pension, personally.
Edit: and as above, if a basic rate tax payer then yes there are some tax advantages but they aren't as great as they are for higher rate payers. Also, lump sum outside workplace pension won't get any employer contribution matching. So it may not be that great a deal, really.
"What's the financially astute choice in that situation?"
This is what LISA was aimed at. If not used for first house purchase, it becomes a pension.
But any lump sum is limited to £60k total for tax relief. Less if you are a very very high earner.
Limited to max of 100% of relevent earnings* and 60k**
E.g. if you earn 20k then you cannot contribute 30k lump sum to a pension and get tax relief on it. Max would be 16k lump sum, and then the pension co/gov add 4k relief to bring to 20k.
*(or max 2880 if no relevent earnings)
**(ignoring the taper plus any carry forward of unused allowance).
