Nobody should have to approach their golden years feeling uneasy about their financial situation. That’s why it’s imperative that you plan ahead and start thinking about your future pension pot as soon as possible.
One of the most commonly asked questions by clients is, “how much money do I need to retire?”. Unfortunately, there is no simple or clear-cut answer to this question. It’s all contingent on the type of lifestyle you hope to lead, the age you wish to retire at, and the state of your finances.
For argument’s sake, if you wanted to retire at 60, you would have to save anywhere between 20 and 25 times your retirement expenses. Therefore, if you estimate to spend an average of £30,000 per year, you will need around £600,000 - £750,000 across pensions, savings, and investments.
What types of pensions are there?
Apart from state pensions, there are two main types of private pension schemes. They can be categorised by defined contribution and defined benefit, in both instances, the first 25% of your withdrawals are tax-free. Let’s explore the two in greater detail.
Defined contribution pensions
Defined contribution pensions are based on how much money you pay into the pot. You or your employer will deposit money into a pension and that capital will go towards a set of investments such as stocks.
According to the performance of your investments, the total value of your pension will fluctuate. As you get older and nearer to your retirement age, your pension plan could accommodate your interests by transferring any high-risk assets into lower-risk investments.
The final amount in your pot will ultimately depend on how much money has been paid in, the overarching performance of your pension, and how you would like to receive your retirement money.
Defined benefit pensions
Defined benefit pension plans are also known as career average or final salary schemes. Unlike defined contribution pots, these pensions are based on your salary and how long you’ve been working for your employer.
Your employer has a duty to ensure there is enough money in your pension to pay you once you retire. If your employer encounters financial difficulties and can’t continue with their payments, the Pension Protection Fund (PPF) will take over. However, you may receive a lower sum.
A workplace pension can base the value of the pension on your final salary or the average salary you’ve accomplished over your career. Defined benefit pensions are increasingly scarce, and they’re typically used in the public sector or large corporate environments.
How much can you save for retirement?
Although there are no limits to the amount of money you can pay into your pension, there are limits on the amount you can deposit without having to pay tax.
The annual pension contribution limit includes payments from yourself, your employer, and any governmental tax top-ups.
In the UK, it’s £40,000 per year or 100% of your annual salary, whichever comes first. However, different restrictions may apply if you earn less than £3,600 or more than £150,000 a year.
There’s also a cap on your total pension contributions, which stands at £1,073,100. If you exceed either the annual or lifetime pension contribution limit, you’ll be subjected to tax penalties.
How much do people save for retirement?
No two people are the same and, therefore, different people will save different amounts for their retirement. Everybody’s expectations, circumstances, and lifestyles are unique, so there’s no conventional answer to this question.
If you’re just looking to cover the basics, such as food, housing, and miscellaneous purchases, you could get by with a smaller yearly allowance. However, if you’d like to indulge in expensive hobbies, long-haul holidays, and large purchases, you’ll need a substantial amount in your pension pot.
How much money do you need to retire UK? The Pensions and Lifetime Savings Association argues that a single person requires a minimum of £10,200 per year, whereas a couple needs £16,700 per year, to cover the most basic living expenses as well as a few leisure activities.
This may not be feasible for people who are used to a higher annual income.
So, how much money should you have to retire comfortably?
According to the same research, a moderate lifestyle, with extras like regular meals out, hobbies, and a yearly holiday in Europe, requires £20,800 for a single person and £30,600 for a couple per year.
For a more luxurious and comfortable retirement, with things like a new car every five years and long-haul holidays abroad, you would need £33,600 as a single person and £49,700 as a couple per year.
Overall, how much money needed to retire depends on several factors: if you have a mortgage, where you hope to live, and even the state of your health.
Let’s say you’re planning on retiring in a small village up North, you won’t need the same retirement fund as you would living in London. Similarly, if you possess a debilitating disease, you may have to factor in additional costs for home care.
Using our Lifetime Cash-Flow Forecast Calculator
With a few inputs of data, our free and online Lifetime Cash-Flow Calculator can provide you with a greater understanding of your financial future. This handy tool can estimate the current value of your pension pot, as well as how it will be affected by interest rates and inflation.
It’ll also determine at what age your pension fund will be empty and your yearly retirement income. This information is vital because it helps you identify any weak points in your retirement strategy and allows you to restructure accordingly.
Using tools, such as this pension calculator, can help you better plan for your future, determine how much you’ll need to enjoy your retirement, and identify ways in which you can increase your pension.
What shall I do with my pension pot when I retire?
It’s difficult to know how to approach your pension when it comes to retirement. Some individuals like to withdraw lump sums of cash over the years whilst others may prefer to withdraw the pension in its entirety. There are seven main ways that you can deal with your pension:
- Keep your pension pot as it stands and use other sources of income, such as property rental, savings, or royalties, to sustain your lifestyle
- Take cash sums out of your pensions across different periods of time, also known as Uncrystallised Funds Pension Lump Sum (UFPLS)
- Get an adjustable income, also known as Flexi-Access Drawdown
- Purchase an annuity
- Cash-out your entire pot in a single sum, bearing in mind that only 25% can be withdrawn tax-free
- Combine any of the aforementioned options or consider pension consolidation.
If you’re unsure of what approach is most suited to your individual needs and requirements, one of the qualified members of our team can provide retirement planning advice and help you create a bespoke retirement plan.
Our top tips on how to save for retirement
Planning your retirement and understanding your pension options can be quite a daunting, complex and time consuming task. However, there are three things that you can do now that’ll help your financial future:
1. Start saving as aoon as possible
The sooner you start saving, the more you’ll benefit from compound growth and the easier it will be to reach your desired targets. Another plus of saving early is that you can afford to put away less money per month as you’ll have a longer investment horizon.
2. Set realistic goals
You won’t be able to reach your financial goals if you set unrealistic expectations. It’s important to create goals that are easily measured and attainable. This way, you’ll be able to keep track of your progress and change your approach if necessary.
Instead of using a broad objective like, “I want to retire at the age of 65” try narrowing your goal down and saying, “I hope to achieve a 6% average annual return on my investments over the next 15 years to retire early with a £300,000 portfolio.”
3. Cut down on costs
Every little helps and cutting down on costs is an easy way to increase your pension in the grand scheme of things.
Let’s say you’ve been given a pay rise, or you’ve finally paid off your car loan, you can use some of this extra cash to contribute towards your pension. It can even be something as simple as reducing your streaming services from two to one. The extra cash flow could help you reach your financial goals faster.
Retirement can be daunting without a retirement plan in place. To live out the rest of your years comfortably, you’ll have to factor in your future costs, find a pension that suits your needs, and maximise your financial opportunities.
If you’re still scratching your head on how much money to retire is needed, at Efficient Portfolio, our financial advisors can help you address any concerns or queries you may have in regard to your retirement. If you need any help with your retirement planning or just need some further information, please don’t hesitate to contact us.