As a busy professional, it’s easy to neglect your retirement planning. But, let’s take a minute to remind ourselves why pensions are so important;
- You get tax relief on contributions
- They grow largely free of tax
- You can take 25% tax-free from age 55
- They are usually exempt from Inheritance Tax
Pensions are an excellent tax-efficient way of saving towards your retirement. However, here are ten easily made mistakes:
1. Not maximising contributions
Pension contributions get tax relief, meaning anything paid in is not taxed. Opting to put £100 into your pension and not your pocket, means that as a higher rate taxpayer, you will be £40 better off. Another way to look at it; it would cost just £60 to pay £100 into your pension as the tax man adds basic rate tax relief to your contribution. Higher and additional rate tax can then be reclaimed on your tax return.
2. Not taking advantage of your Carry Forward Annual Allowance
The most you can tax-efficiently pay into your pension every year is the equivalent of your earnings, up to a maximum of £40,000. This is known as the Annual Allowance, but there are some quirks.
One of those is Carry Forward, which lets you use any unused Annual Allowance from the previous three tax years. For some people, especially with fluctuating income, this can mean significantly more can be paid into their pension, giving them a valuable opportunity to benefit from pension tax relief and a healthy boost to their retirement savings.
3. Checking if you’re overfunding
The Annual Allowance is subject to tapering for high earners. For every £2 you earn over an adjusted income of £150,000, your Annual Allowance reduces by £1.
This can be reduced by a maximum of £30,000, so anyone with an income of £210,000, will only have a £10,000 Annual Allowance, severely limiting the amount they can tax-efficiently contribute.
There is also the Lifetime Allowance, which is the maximum value your pension can be without incurring additional tax. Currently £1.03 million, it’s due to rise to £1.055 million in the 2019/20 tax year beginning in April. Although the increase is welcomed, it’s nowhere near as generous as previous allowances, which peaked at £1.8 million in tax years 2011/12 and 2010/11.
If you are concerned you are overfunding your pension and potentially liable for a tax bill, do get in touch. We can calculate your Annual Allowance and project the ultimate value of your pension to ensure your pension is remaining as tax efficient as possible.
4. Not using employer matching
Many people fail to take advantage of matched contributions to their pension beyond a basic minimum percentage of their earnings. This is despite further matching often being available, particularly from large City employers, who might be willing to make four, five, six or even 10% matched contributions. Any increase will also receive tax relief if within your allowance, so if you can afford an increase, it’s an absolute no brainer!
5. Not regaining personal allowance
Thanks to its complicated nature almost a million people are paying 60% income tax, many without realising it. The personal allowance is reduced by £1 for every £2 of income above £100,000. This means that when income is £123,700, the personal allowance is nil. Making a pension contribution can reduce income and protect your personal allowance, effectively giving you 60% tax relief.
6. Thinking your workplace pension is enough
The introduction of Automatic Enrolment was a step in the right direction to promote a better saving culture in the U.K. But, it needs to go further. We are now largely accountable for our own retirement provision, ensuring your money outlives you. We’ve written about this previously; you are responsible for your own financial security. If you’d like any advice, please call.
7. Not reviewing work schemes
The clear majority are invested in a default investment fund. It’s easy to assume that because it’s chosen by your employer, it will be appropriate for you. That’s not always the case, it will likely be a ‘vanilla’ fund, which may be technically acceptable, but not appropriate for a more experienced investor.
A vanilla fund is the most basic version of a fund. It has very simple and defined terms and is likely to have limited convertibility rights and no special features. It may well not fit with your wider financial plan, your own tolerance, attitude or capacity to take investment risk.
Having more involvement in your investment decisions, rather than settling for a default option, will ultimately aim to ensure your pension is invested as appropriately as possible.
8. Not saving sooner
The sooner you start saving towards retirement, the better. The longer your investment horizon, the longer you have to smooth out the effect of any volatility. You will also benefit from compound growth, where previous investment returns attract their own returns. Over time this can have a significant positive impact on the value of your retirement provision.
9. Not saving proportionately
It’s known as ‘lifestyle creep’; the more you earn, the more you spend on ‘necessities’. It’ is best practice you increase your savings as your income increases throughout your career. Ultimately, this will help you maintain the standard of living you are accustomed to during retirement.
10. Listening to advice down the pub
You might know the type of person, they’ve ‘unlocked’ their Final Salary scheme, or have made some brilliant risk-free investment with a huge return. It might be exaggerated bragging. It might be accurate and appropriate for that person, great news for them! But, that doesn’t mean the same is appropriate for you.
Your pension and wider financial plan remain individual and bespoke to your circumstances and aspirations. If any of these points covered ring true, it’s time to get in touch and review your retirement provisions.
The value of your investment can go down as well as up and you may not get back the full amount invested
Levels and bases of and reliefs from taxation are subject to change and their value depends on the individual circumstances of the investor
The Financial Conduct Authority does not regulate taxation advice.