Many people think membership of a pension scheme will guarantee them an adequate income in retirement but this is frequently not the case. Low contribution rates or late starts mean a pension may not be adequate to meet someone’s needs.
Figuring out how much you should save is not straightforward. Take, for example, Mary and John. For 10 years between the ages of 25 and 35, Mary puts away €200 a month towards her pension, and then stops.
John, by contrast, starts contributing €200 a month at age 35, and continues until retirement, at 65.
According to this analysis, which comes from Bank of Ireland, by age 65, John’s portfolio value is worth nearly €245,000. But Mary’s stands at nearly €300,000.
It’s a hypothetical example which assumes a chunky 7 per cent annual rate of return over the 40-year period, but it well illustrates the benefits of investing earlier rather than later, to benefit from the magic of compounding.
It’s why how much you need to put away, and for how long, varies from person to person.
According to Bernard Walsh, head of pensions and investments at Bank of Ireland, for many company directors and professionals, €800,000 “is the magic number” in terms of target pension pot. That allows them to take a quarter in cash, the maximum amount they can take tax free.
For employees in occupational pension schemes, the aim is to get to a percentage of their final salary, typically 50 per cent, including the state pension. How much each has to put away to get there depends again on how early they start. Too often it’s late in the day.
“The three categories of people we see most of are those with dyed, grey or no hair – people in their 40s and 50s. ‘What can I do to catch up or make up for lost time?’ is the question we most often hear,” says Walsh.
For someone on €50,000 a year, targeting 50 per cent of income, starting at 25 will cost them 14 per cent of their salary in contributions. If they start at 45, getting to the same destination will cost them 32 per cent of salary.
How much we will need really is personal, agrees Shane O’Farrell, director of corporate partnerships at Irish Life Corporate Business.
“It really depends on what kind of lifestyle you are used to and what kind of lifestyle you would like to have when you are done with work. At Irish Life our baseline guide for projecting what most people will need when they retire is 33 per cent of their current income plus the value of the State pension,” he says, currently €277.30 a week.
The projections tool on its pension portal can help people figure out how to get there, as well as experiment and see how small changes in contributions today will impact their outcome later on.
Knowledge is power when it comes to pensions. “For example, if a woman going on maternity leave understands that any period of time out of work may have a long-term impact on her pension pot and she knows the steps she can take to remedy it. She can then make an informed decision about whether to take those steps or not. If she is completely unaware of any potential impact, she doesn’t get a chance to address it,” says O’Farrell.
While the cost-of-living crisis is having an impact on all of us, O’Farrell recommends that anyone in a workplace pension scheme that offers a tiered contribution structure, where the more you pay, the more your employer pays in on your behalf, should definitely try to maximise the match, if they can – not least because life expectancy is on the rise and predicted to increase to 92 by the year 2100.
“This is obviously great news overall but from a purely pension perspective it means what you have in your pot essentially needs to last for longer,” he adds.
Ideally people look to have the funds to maintain their existing lifestyle, Michael Cosgrave, head of customer financial planning at AIB, points out. That typically includes the current state pension of €277.30 a week.
The incentives for pension savings help soften the blow.
“The Government encourages people to save for retirement by offering generous tax relief on their pension contributions. Where possible, people should make the maximum contribution they are allowed to under the Revenue rules, based on their age at the time, if at all affordable,” says Cosgrave.
“Obviously the younger you start, the less that is. If you can’t afford to contribute the maximum allowed, then you should put in whatever you can.”
The Government offers tax relief at either 40 per cent for a top-rate payer or 20 per cent for a standard-tax-rate payer. So if you are a top-rate taxpayer putting €100 into your pension plan, the cost to you is just €60.
Cosgrave suggests that, as a rough guide, for people who begin their pension early, half their age is a good percentage of income to contribute into a pension for a start.
“That means if you are aged 40, you should consider contributing at least 20 per cent of your salary to your pension pot. If you are starting your pension saving later in life, this will need to be adjusted,” he says.
“Other factors such as a pay rise or bonus give you the opportunity to make extra contributions to your pension so it’s important to link in with your financial adviser to review options available to you.”
