With the typical retirement now likely to last 30 years or more, working out just how big your pension pot needs to be to see you through can seem complicated.
Jamie Clark, business development manager at Royal London, says: “As a rough rule of thumb, people should save half their age as a percentage of earnings into a pension plan. So, someone aged 20 should be saving 10%.”
The amount needed for a comfortable retirement can be surprising, particularly because people typically underestimate how long they will live. According to most recent government statistics, those who reach 65 can currently expect to live another 20 years.
When planning for retirement you first have to consider how much you need to live on; what are the household expenses and what kind of lifestyle are you hoping to achieve. David Stevens, director of advice strategy at LV=, says: “You should also consider whether your partner has their own pension or if they will be relying on yours, and what your current state of health is and whether it is likely to deteriorate.”
Once you have an idea of how much you need, consider how you would like to access it: do you want a fixed amount each month like a salary or would you prefer to access ad hoc sums when you need them?
Then it’s time to consider how you’re going to create that income. Those keeping their money invested should determine how much risk they are willing to take and how long they are happy to tie their money up for.
It is important to consider all of your assets when you’re planning for retirement. As well as your personal pension pot, remember any other savings you might have such as Isa accounts and Premium Bonds. Research from Charter Savings Banks shows some 77% of retirees use cash savings to generate part of their income, adding on average some 19% to annual income.
Savers should also ensure they have tracked down any lost pensions that may have been forgotten using the government’s free Pension Tracing Service and be sure to factor the State Pension into their calculations too; currently it’s £159.55 a week, or £8,319 a year. Stevens says: “While the State Pension is unlikely to be enough to see you through retirement on its own, it will boost your income. Checking how much you’re eligible for is quick and easy to do online.”
How Much Do You Need to Save?
Once you have considered all of these factors, you can start to build an idea of how much you need to save. Taking the State Pension into account, someone looking to generate an income of £20,000 in retirement will need to fund roughly £11,700 of that through their own pension pot, and those looking for a higher income of £40,000 a year will need to generate £31,700 from their own savings.
Number-crunching from Fidelity shows that those looking to buy an annuity at retirement to ensure a guaranteed income for life would need savings of £380,000 and £1 million respectively to generate these incomes.
It is not surprising, then, that a growing number of retirees are opting to put their money into income drawdown – where you leave your pension pot invested during retirement and take an income from it. Fidelity estimates that retirees in drawdown would need savings of £234,000 and £634,000 respectively to generate the same income levels.
The reason these pots can be smaller is that your money has the opportunity to keep growing, hopefully to the point that it replenishes what you withdraw each year.
So, someone with a £234,000 pension pot, withdrawing £11,700 to make their income up to £20,000 should be looking to achieve growth on their investments of around 5% if they want to maintain the amount in their pot.
Andy Parsons, head of investments at The Share Centre, says: “While many people will feel cautious about investing the money they have worked so hard to accrue during their lifetime, it’s important to remember that the lower the risk of an investment, the lower the returns and growth.”
“This this could mean taking a higher degree of risk than you might have liked and that your investments may be more vulnerable to a fall in the stock market.”
The key is for drawdown investors to build a diversified portfolio of funds which can produce a reliable dividend yield without taking undue amounts of risk. Maike Currie, investment director at Fidelity International, likes the Silver-rated JOHCM UK Equity Income fund which has a strong focus on companies with above-average yields. The fund, which has returned 34.2% over the past three years and yields 4.3%, has BP, Barclays and Aviva among its top holdings.
Currie also likes the Invesco Perpetual European Equity Income fund which seeks out companies paying decent dividends on the continent. The fund, which has investments in France, Germany and Switzerland, has returned 47.4% over three years and yields 3%.
