By Rachel Wait
Thinking about your pension may not sound like the most
exciting prospect, but it is important if you want to retire comfortably. If
you're not convinced, here are four reasons why you need a pension.
1. The state won't
help (much)
If you're simply planning to retire on your state pension,
you need to think again. For the tax year 2011-12, the basic state pension for
a single person is up to £102.15 a week. This is rising to £107.45 a week in
April 2012, but it really isn't much.
With the average life expectancy increasing, state pension age –
the age at which you can claim your state pension – is also being pushed back
more and more, meaning that many of us will be working far longer for very
little reward.
It's therefore important that you pay into a pension scheme
to ensure you have a lot more to live off when you finally do retire.
2. Tax benefits
Paying into a pension scheme will enable you to benefit from
tax relief. If you're a basic rate taxpayer paying into an individual personal
pension scheme, the pension provider will claim back tax from the government at
the basic rate of 20%. This effectively means that for every £80 you pay in,
your total contribution will be £100 – so it's well worth taking advantage of.
If you are a higher rate taxpayer (40%) or an additional
rate taxpayer (50%), you can claim the difference through your tax return.
If you have a company pension, tax relief works slightly
differently as your employer will take the pension contributions from your pay
before deducting tax (but not National Insurance contributions). This means you
only pay tax on the remainder of your salary.
3. Compound interest
One of the major advantages of a pension is that you will
benefit from compound interest. This is where you earn interest on your
interest. When you first begin paying into your pension, you will earn interest
on that money. The following year, you'll earn interest on both your initial
investment as well as the interest from the previous year. In the third year,
you'll earn interest on the amount invested as well as interest from the
previous two years and so on.
It basically means that the longer your money is invested,
the bigger your pension pot will be when you come to retire.
4. Employer
contributions
If you have a company pension, as well as contributing to
your pension yourself, some employers will also pay into it. If they do, snap
up the opportunity immediately! You may find your employer matches your
contributions up to a certain percentage, say 5%. This means you'll build up
your pension pot far more quickly – and as a result, more of your funds can
benefit from compound interest.
However, even if your employer doesn't currently offer a
pension scheme, as of October this year, all employers will be required to. New
auto-enrolment rules
will mean that employees will automatically be signed up to a pension scheme
unless they choose to opt out. Having said that, how quickly your company does
this will depend on its size – employers with fewer than 50 employees have
until May 2015 to start the process.
The amount you'll have to pay in will change over the next
few years, but by October 2017, total contributions must come to 8% of
qualifying earnings. At least 3% must come from the employer.
The risks
Pensions are constantly hitting the headlines at the moment,
mostly because many public sector workers are not happy with changes coming in
and many other people don't trust the pension industry and believe it's not worth
saving into a pension because of poor performance. And it's true that investing
in a pension does come with risks. After all, the stock market can go down as
well as up.
But while your pension investments may well take a nose-dive
at some point, if you're still far off retirement, you'll have plenty of time
for your investments to recover. There is also a process known as 'lifestyling'
for those who are approaching retirement. This means some of your pension money
is automatically moved out of shares and into a lower risk investment as you
get closer to retirement age. So there are ways to protect yourself to an
extent.
Overall, paying into a pension is a sensible option if you
want to ensure your retirement will be comfortable.
