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Pension Contributions: Calculating the Correct Amount

Working out the amount to pay into a pension can seem complicated. Every penny that goes into the pension pot is a penny less in disposable income today, so working out what is sensible within the boundaries of what is affordable is something that many people struggle with.

Under the new government auto-enrolment scheme, most employed people will automatically be paying into a workplace pension. This applies to every employed person who regularly works in the UK, is aged at least 22 and earns a minimum of £10,000 per year.

There are also options for some people who do not meet all of the criteria to be able to opt in to a workplace pension. More information about opting in can be found in the embedded PDF.

One of the key benefits of a workplace pension is that the employer must also pay contributions towards it, so opting in is essentially getting free money.

Working out How Much to Contribute

Pension advice specialist Portafina recommend working out a target pension income and then working backwards to calculate the level of contributions required. This may involve choosing to pay more than the minimum into the workplace pension scheme or having a personal pension plan alongside this. While it is not an exact science, it can help to set out just how much you will need to think about trying to save for a comfortable retirement.

Another good rule of thumb is to take the age you are at when you first start to make contributions to a pension. If you half this number, it should give you a good idea of what percentage of your income should be going towards your pension. If you are enrolled in a workplace pension scheme, some of this percentage will be covered by employer contributions, so it won’t be as high as you might initially think. So, someone who starts paying into their pension at the age of 40 would be looking to see a total of 20% of their pre-tax income going into their pension pot. The employer will be paying a minimum of 3% under current legislation, so the employee should be looking to pay in around 17% to reach the total required.

Self-employed people will not qualify for a workplace pension; therefore, they will need to decide how much to pay into a personal pension or other savings scheme for retirement. The infographic attachment looks at some of the statistics for self-employed people in terms of paying into a pension.

Topping up contributions

Just a very small top up in contributions towards a pension made over the years can make a huge difference to the total amount in the pension pot at retirement age. As an example, if someone would usually spend an average of £3.33 per week on a takeaway coffee, the simple act of giving up that one treat and paying that money into a pension plan instead could result in an additional £13,000 in the pot, assuming the worker begins to pay this extra money on top of a 9% workplace pension contribution from the age of 30 and retires aged 65.

This goes to show that a little can go a long way. Paying in lump sums when a bonus arrives or adding a little more to the pot in months where there is more cash left over after expenses can boost this figure even more. The more there is in the pot the better, as any remaining funds can be given tax-free to any beneficiary after you pass away, including a child or a partner.

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Global Diversification: The Way to Protect Finances

Anyone who is familiar with the financial markets knows that market volatility is not unusual. However, in recent years with the uncertainty surrounding Brexit and wider national and international developments, volatility has become a much more prevalent aspect of the financial landscape, with uncertainty affecting almost everyone’s financial life. 

In more uncertain times, Jamie Smith-Thompson, the Managing Director of Portafina, gave his advice on how best to handle financial planning in a recent article. With others, he talked about how volatility is a natural part of the investment cycle, especially when it comes to longer-term investment vehicles such as pensions. He gave his views on the range of things investors should consider in the current financial climate. 

Make Sure You Are Getting Value for Money 

Low interest rates date back to the financial crisis of 2008, rather than more recent events. And while it can be good news for borrowers, it has affected the possible returns you’ll get on shorter-to-medium term investment tools, such as a bank savings account and even cash ISAs. For example, if your money is going to be locked in an ISA for five years but only get an annual return of 0.5-1% a year, is that ISA giving you the best value in terms of flexibility and potential returns? 

Pensions as an Investment in Volatile Times 

History shows us that stock markets have always recovered any losses and risen after a downturn, which is why the instinct to disinvest from investment positions in uncertain economic climates is often the wrong decision. This comes with the caveat that past stock market performance shouldn’t be seen as an indicator of future performance. 

It is advisable, says Jamie Smith-Thompson, to make sure that investments – both those in pension funds and elsewhere – are diversified globally across different regions, and across different asset classes. This can shield investors from geographically local crises such as Brexit in the UK. 

Retaining Profitability in the Long Term

 Overall, in times of volatility the expert view is clear – protection of investments is best assured by global portfolio diversification and by staying invested. This translates into a better opportunity for the canny investor to ride out the current storm.

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Pocket Money: Fun Lessons for a Serious Future

There are lessons to be learned from receiving pocket money: personal management, saving versus spending, and the value of currency, to name but a few. Yet how to navigate this delicate area can be hard for parents. 

In a recent article, Jamie Smith-Thompson, the Managing Director of Portafina - a regulated financial advisor on pensions and a respected voice on personal finance issues – gave his views on the topic. 

How Early Should We Give Pocket Money? 

Pocket money can be treated as an enjoyable learning experience, says Mr Smith-Thompson. His advice is to begin giving pocket money at as young an age as possible, once children are able to understand the concept of money. When it is understood that money can be exchanged for goods, but also that it is finite, even children of a very young age can learn a great deal from having a little money of their own. 

What Amount Is Right? 

While different families will have different circumstances, the core concept is that the amount should be enough to make a small but genuinely positive difference to the child’s life if spent all at once. It should also be enough that the child will see the difference if the pocket money is saved over the course of a few weeks. 

Older children will want to buy more expensive things, and parents should be prepared to increase the amount as the child grows up. 

Earned Rewards and Gifted Money 

Another valuable lesson for a child comes via the potential to earn extra money. In this way, they learn the value of work and its relationship to money. With pocket money received at a ‘basic rate’ but with the potential to earn more available, children can learn to take pride in work and in earning and can learn a sense of ownership for a task well done. 

It is clear that, whatever approach is taken, a parent gifts their child with valuable life-long lessons by teaching them the value of money early on in their lives. 

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Pensions: How Do They Work?

Pensions can seem complex and difficult to understand, especially as they can and should change as your life changes. Knowing the ins and outs of how your particular pension scheme works can help take the stress away from worries about your financial future, as can employing the services of a regulated financial adviser.

Portafina provides regulated pension advice in the UK, specialising in those looking for a potentially cheaper, better performing fund or those that are reaching the age of 55 and thinking about the pension freedoms.

The more you understand about the pension you have, the better placed you are to understand what your financial future will look like and what measures you can take to improve it. 

How Much to Pay

Everyone’s circumstances are different and so unfortunately, there is no one single calculation that determines how much you should be paying into your pension pot to reap the optimal benefits. The simplest way to ensure that your pot is as full as it needs to be is to pay in as much as you can afford, no matter what age you are.

Due to factors such as inflation, life expectancy, cost of living and lifestyle, it can be almost impossible to calculate an accurate figure for the income you think you will need when you retire. However, financial advisers and online calculators can help you to work backwards from the figure you think you will need, to provide advice on how much to save now to achieve that target.

Supporting Family

Pensions can be a particularly good way of providing support to family members after death. Until recently, a death tax of 55% was applied to pensions, but this has been abolished, making pensions a tax-efficient way to gift family members in a will.

The law states that a pension can be left to any beneficiary, even if that person is still a child, exempt from inheritance tax. If the owner of the pension passes away before the age of 75, their beneficiary or beneficiaries can inherit their share of the pension fund without being liable for any form of tax. If the owner dies aged older than 75, the beneficiaries are still exempt from inheritance tax, but they will have to pay income tax on all withdrawals made from the fund.

Pensions and Work

Current legislation means that anyone aged 22 or over who earns more than £10,000 per year through employment is legally entitled to be enrolled in a workplace pension scheme, and employers are obliged to do so unless the employee chooses to opt out. 5% of the salary of the employee, including any applicable tax reliefs, are paid by the employee, then topped up with a further 3% directly from the employer.

People who move companies throughout their careers could end up with several pension pots, so it is worth reviewing what is there and how well it is performing. 

Pensions and Divorce

If a couple get divorced, their pensions may need to be shared out between them. This can be done formally or informally, depending on the circumstances. However, pensions are certainly something that need to be considered when dividing assets. There are various possible ways of dividing up pension savings, which can sometimes be agreed amicably, but most couples will get a court order to make final decisions enforceable.

Portafina has its own section on the Daily Telegraph website. To read the latest articles, visit: https://www.telegraph.co.uk/pensions-retirement/portafina/