I was reminded of this a few days ago when my Sippdeal colleagues ran some numbers to show how much you need to save to generate a comfortable retirement income.
The numbers are illustrated below in a ladder format. They show that to generate the same level of income as the new basic state pension, individuals would need to save £210,000. But to achieve an income equivalent to the national minimum wage you need to build an additional pension pot of £130,000.
To achieve what the Joseph Rowntree Foundation regards as sufficient for a couple to enjoy the minimum standard of living in the UK requires an additional pension pot of £270,000.
The Government insists on savers having an income of £20,000pa (including the state pension) before they can opt for flexible drawdown. This suggests that they think you really need £20,000 a year to be confident of not having to rely on benefits in retirement. You need to build an additional pot of £380,000 to achieve that.
Do your aspirations stretch as far as an MPs salary in retirement? If so, you’ll need £1.8m.
The numbers are based on a typical annuity rate for someone aged 65, living in the North West, retiring at 65. Some might argue that annuity rates are horrendously poor at the moment and drawdown would generate better returns. But it could be dangerous to assume that annuity rates will improve or that drawdown will appeal to all when you come to retire.
So back to Laozi. And Mrs Mackay.
Daunting though they may seem, these figures do at least give investors a clear idea of where they are heading, and how far they have to travel to achieve a comfortable retirement – and no matter how difficult it is, you can’t plan a route without a destination.
It is clear that most of us who are not members of a generous company pension scheme, or who are not already wealthy, will need to save a significant amount of money into pensions, ISAs and other saving vehicles. Burying our heads in the sand in the hope that the problem will somehow sort itself is not an option. Well, it is an option, but it’s a pretty foolish one if you harbour thoughts of a comfortable retirement.
The chart above (based on annual growth rates of 5%) shows you need to save what you can, from as early as you can and as effectively as you can.
Saving ‘effectively’ means not only investing in the right funds or shares at the right time, but doing so in a low-cost way. Reducing costs like investment and product charges by just half a per cent a year can add thousands to a pension pot.
When stakeholder pensions were revamped charges were set at 1.5% for the first ten years. This was seen by many as low charging, but these days it’s possible to beat those charges significantly using online platforms. A typical Sippdeal client saving £300 a month over 30 years and keeping costs down from 1% to 0.5% pa – which is entirely achievable – could see their pension pot rise to £223,000. The 0.5% cost savings have contributed nearly £20,000 to that.
The contributions figures shown here are gross – basic rate taxpayers only need to contribute £80 for every £100 contributed to their pension fund; the net cost to higher rate taxpayers is just £60 (after they reclaim additional tax due).
I like to go walking and running in Scotland. Sometimes an uphill stretch can seem hard and often painful. Progress can seem slow, anybody that has ever seen me run knows that I am built for comfort! And then suddenly you get to the peak and look back and realise how far you have come. Saving for retirement can be similar.
The amount needed to fund a comfortable retirement may seem daunting, but by investing as much as you can for as long as you can and cutting costs it is surprising how the money can add up. Not everyone will conquer that 1,000 mile challenge but, as Mrs Mackay commented at the end of Spain 2005, “It was a little adventure, sometimes good, sometimes a touch scary but we got there in the end”.