If you have been automatically enrolled into a Workplace Pension, the minimum contributions made by you and your employer to your Workplace Pension have increased. Before April, the minimum stood at 1% of qualifying earnings for both you and your employer, but now you will need to contribute at least 3% of your qualifying earnings, whilst your employer will double the amount they pay in, to 2%.
How are contributions calculated?
Contributions are usually a percentage of your qualifying earnings; this is a band of earnings and not your full salary. For the 2017/18 tax year, this band runs from £5,876 to £45,000. To illustrate:
The average full-time salary in the UK is £28,600 (Source: Office for National Statistics (ONS)). As contributions are only calculated on earnings above £5,876, the qualifying earnings for this amount will be £22,724.
In April 2019, contributions are set to rise once again, to 3% employer and 5% employee. After this, the above salary will make a minimum monthly contribution of £94.03, or £1,128.36 annually in 2018, rising to £150.45 per month, or £1,805.40 each year.
Will you be losing much in the short-term?
While you are technically not losing any money, as it is simply being put aside for the future, it can feel like you are sacrificing your immediate income. This is especially pertinent given last year’s inflation rates and the tightening of household budgets across the country.
However, for someone earning £28,600 per year, the initial increase in contributions equate to less than £30 per month, that’s below £1 per day, which is more than affordable for most of us.
What will you get in the end?
For an average earner, the rise in minimum contributions could signal an increase in their pension pot to the tune of £45,000 by the time they reach retirement age. If the minimum contributions remained at 1% for both parties, the average earner could expect to have saved £52,600 (calculated using the Aviva Retirement Planner, assuming an average annual rate of return of 2.4%. This is not guaranteed; it could be higher or lower.) after 40 years of work; that could buy a guaranteed income of less than £3,415 per year. (Source: Aviva Pension Annuity Calculator)
When including the increases in minimum contributions, this could rise to £98,300. (assuming an average annual rate of return of 2.4%), which could purchase a guaranteed, pre-tax income of £6,240 per year.
Will that be enough to live on?
Research from Aegon suggests that the ideal target retirement income is at least two thirds of your working income. For a salary of £28,600, the bar is set at a minimum of £19,000.
If you qualify for the Full State Pension, you will be working with a solid foundation income. Currently, the full entitlement is £8,296.60 per year, which is equivalent to £691.39 each month.
Adding the guaranteed income from your pension brings the total annual retirement income to £14,536, almost £4,500 short.
How can you bridge the gap?
To buy a guaranteed income of £11,000 to bring your total to £19,000 you will need to save approximately £200,000 (source: Aviva Pension Annuity Calculator)by retirement age. However, if you have set your sights on a higher income when you finish working, you will need to save significantly more than that.
Your first step is to make sure that you do not opt out of your Workplace Pension. The contributions made by your employer, as well as the tax relief available through these schemes are far too valuable and it is unlikely that you will be able to adequately replace the money you lose by depriving yourself of those benefits.
If you think your savings will fall short, you have three main options:
- You could simply accept that your retirement will be tighter than you expected and adjust your lifestyle accordingly.
- Alternatively, you can start putting more money into your pension to boost your retirement fund.
- You may wish to consider staying in work for longer. For each year that you delay taking your State pension, your eventual income will increase. Similarly, the longer your Workplace pension is invested, the more chance it has to generate returns.
However you decide to take control of your retirement finances, a financial adviser will be able to help.
Talking to a professional allows you to identify your retirement goals and find strategies that work with your lifestyle and beliefs to help you to achieve them.
For more information or to get started, contact us.