MILLIONS of high earners saving diligently into company pension schemes will
end up with thousands of pounds less than they need for a comfortable
retirement.
Until now, the 4m workers who belong to defined-contribu-tion schemes, where
both you and your employer pay into a stock-market pension fund, have
considered themselves lucky.
While they will not get nearly as much as those in gold-plated, final-salary
schemes, they are still better off than others who must rely on personal
pensions with no employer contributions.
However, the latest retirement index from Fidelity, a fund manager, reveals
that they, too, could be sleepwalking into an uncomfortable retirement.
Workers earning £100,000 who saved into a defined-contribution scheme where
the total contribution was 9% of their salary, could expect a pension of
about £33,500 plus some £8,000 in state benefits – totalling £43,000 a year.
However, this is almost 20% less than their recommended level of pension
income.
Research conducted for Lord Turner’s pensions commission in 2004 found that
50% of salary in retirement was the “minimum” that households felt they
would be able to live on. Experts generally recommend that retiring on
two-thirds of your final salary is an ideal level.
The Fidelity research identified three main pensioner types: the elite in
final-salary schemes who can look forward to a retirement on more than
two-thirds of their final salary once you take the state pension and other
benefits into account; then there are the pensions “middle classes” in
defined-contributions schemes who will end up with less than they need to be
comfortable but are not going to be on the bread-line; and finally, there is
a pensions “underclass”, who will end up living on little more than the
minimum wage in retirement.
Workers who have been saving for 40 years into their final-sal-ary scheme are
on course to retire on about 75% of their expected final earnings, including
state benefits – comfortably above the “ideal” two-thirds level.
Those in defined-contribution schemes, on the other hand, who have been saving
for the same length of time, are on track to get only 43% of final earnings.
With a defined-benefit or final-salary scheme, you receive a pension based on
your earnings at retirement, but with a defined-contribution pension, your
retirement income is based on stock-market performance. You therefore run
the risk that your fund will not meet your expectations, whereas with a
final-salary plan the employer carries all that risk.
Someone earning the UK’s average wage of £23,244, would get a retirement
income of £11,596 – just over £223 per week pretax. That’s little more than
the current national minimum of £214 for workers aged 22 or over on a
40-hour week.
Fidelity estimates that 5m UK households face a 58% drop in income at
retirement.
Simon Fraser of Fidelity International said: “The pension savings and state
benefits of the average family still fall well short of the recommended
income-replacement rate of 66%.
“It seems the working population also has unrealistic expectations of when
they want to retire – the desired age currently stands at 62.”
But workers with final-salary schemes should not be complacent because many
employers are increasingly trying to shift the cost over to employees by
closing the plans Research from Watson Wyatt, a consultancy, shows 75% of
companies are considering containing pension deficits by such measures as
breaking the link between members’ benefits and salaries, or offering
inducements to people who transfer out.
Aon Consulting has concluded that half of employers with defined-benefit
schemes could be closed to future accruals by 2011, trebling the number of
sponsors that have already done so.
Assuming stock-market growth of 7% a year, if you are saving in a
money-purchase or defined-contribution scheme, you need to save 15% of your
earnings every year for 40 years to be able to retire with just 50% of your
salary. If you want to retire on two-thirds of your salary, you need to put
away 20% every year for 40 years. And make sure you make the most of your
pension when you retire. Before April 2006, you could take a maximum of only
1.5 times final salary as tax-free cash. Now, you can take 25% of the value
of your whole fund, including additional voluntary contributions (AVCs) and
opted-out benefits from the state second pension.
To calculate how much you are entitled to if you are in a money-purchase
scheme, simply divide your fund value by four.
With final-salary plans you will be deemed to have a fund worth 20 times your
income in retirement.
If you retired on a salary of £100,000, the maximum retirement income would be
£66,667 a year – two-thirds of final salary. If you qualify, your notional
fund would therefore be deemed to be worth just over £1.3m – £66,667 times
20. Divide that sum by four to give a tax-free lump sum of £333,333.
To find out how much you are entitled to before retirement ask your pension
administrator.
Booming house prices over the past decade have been a redeeming factor for
many as releasing equity or downsizing have plugged the gap in their
pensions.
Those getting on the housing ladder today, however, will almost certainly have
to resign themselves to retiring later in life than their parents.
ARE YOU HEADING FOR A COMFORTABLE RETIREMENT?
MICHAEL SLATOR, 24, a pharmacist from West Sussex, is one of millions of
people whose employers do not offer a pension, so he will have to make his
own arrangements.
Slator, pictured with girlfriend Sarah Wingate, lives with his parents and is
saving for a deposit to get onto the property ladder. He would like to be
able to retire on two-thirds of his salary but realises this will be a
challenge.
He said: ‘After paying a mortgage and bills every month I have to admit that
putting away about 15% of my salary every month would be a tight squeeze.’
PAUL DENNIS, 42, an operations director from Berkshire, is saving 10% of his
pay every month into the defined-contribution scheme of his employer, but is
planning to raise his contributions because he is worried he is not on track
for a comfortable old age.
Dennis, who has been saving into a pension since he was 25, would like to be
able to retire on two-thirds of his salary but saving 10% will not achieve
that goal.
He said: ‘My attitude is to put as much away as I can afford, and I want to
increase my monthly contributions to 15% of my salary.’
