The cost of opting out of a Workplace Pension as minimum contributions rise

Millions of more workers are now saving into a pension thanks to auto-enrolment. The retirement saving initiative saw minimum contributions rise at the start of the 2018/19 tax year. While it may be tempting to opt out in light of this, it could mean you’re hundreds of thousands of pounds worse off once you reach retirement.

Whilst you may not be affected by auto-enrolment, it’s likely that someone in your life is, perhaps children or grandchildren. The majority of workers are now automatically enrolled in their employer’s pension scheme in a bid to improve financial security once they give up work. If you know someone that’s thinking about opting out of their Workplace Pension, speaking to them about the potential long-term impact could help.

Why is opting out a concern now?

When auto-enrolment was first announced there were concerns that a high level of employees would decide to opt out. However, these concerns proved unfounded and millions of workers have embraced saving for their future. Even following subsequent minimum contribution rises, opt-out rates have remained relatively stable.

As the new tax year started on 6 April 2019, the last of the currently planned increases came in. Employees now pay 5% of their pensionable earnings into their pension, an increase of 2% when compared to the last year. For the average worker, this means losing around £30 from each pay cheque.

Whilst that sum may seem small, it’s come at a time when many workers are facing low wage growth and a rising cost of living. As a result, it’s understandable that some may be considering leaving their Workplace Pension when the increased contributions are realised. However, it’s a decision that could significantly impact retirement income.

The cost of opting out of a Workplace Pension

Employer contributions: First, when you pay into a Workplace Pension, so does your employer. Should you decide to leave your pension scheme, it’s highly likely your employer will also halt contributions. In the new tax year, minimum contribution levels for employers also increased to 3%. It’s an effective way to boost your pension savings with ‘free money’.

Tax relief: Again, tax relief offers you a boost on your pension savings that could make your retirement far more comfortable. It means that some of the tax you would have paid on your earnings is added to your pension in a bid to encourage you to save more. Assuming you don’t exceed the Annual Allowance, tax relief is given at the highest rate income tax you pay. So, if you’re a basic rate taxpayer and add £80 to your pension, this will be topped up to £100. Higher and additional rate taxpayers can benefit from 40% and 45% tax relief respectively.

Investment returns: Typically, your pension is invested. This gives it an opportunity to not only keep pace with inflation, but hopefully outpace it too. As you usually save into a pension over a timeframe that spans decades, you should be able to overcome short-term market volatility and ultimately profit. As all returns delivered on investments in a pension are tax-free, it’s an effective way to invest with the long term in mind. When you start a Workplace Pension, you’ll often have several different investment portfolios to choose from, allowing you to pick the one that most closely aligns with our attitude to risk.

Compound interest: The effect of compound interest links to the above point. As you can’t make withdrawals from your pension until you reach at least 55, investment returns are reinvested, going on to generate greater returns. This effect helps your pension to grow quicker, building a larger pension pot for you to enjoy when you decide to retire.

It can be difficult to balance short, medium and long-term financial needs. Often the different areas you need to save for can seem conflicting. This is where creating a financial plan that reflects personal aims, both now and in the future, can help. If this is an area you’d like support in, please contact us.

Please note: The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.

Considering ethics in finance

Ethics are increasingly playing an important role in our day-to-day lives. You may choose to purchase fair trade groceries, use a green energy supplier or be more aware of your own carbon footprint or water use. It’s a trend that’s inevitably spilling over into finances too.

As the world becomes more connected in the digital age, it’s becoming far easier to see the impact our money can have, whether it’s negative or positive. For some, it’s becoming a defining factor in how and why they make certain financial decisions. Research from Triodos Bank, for example, found that 65% of parents want their savings to help protect the planet for their children. And 60% of women indicated they’d switch ISA (Individual Savings Account) provider if their money were having a negative impact on people and the planet.

Defining your values

First, if you’re new to ethical finance it can seem like a rather ambiguous term: what actually counts as ethical finance?

And that’s because it does have many different definitions depending on whom you’re speaking to. It’s a subjective topic. One person may focus on the environmental impact of their investments, whilst another will place greater importance on social consequence.

As a result, before plunging into ethical finance, it’s important to consider what our personal values are. You have likely already make similar judgements day-to-day, for example, when you’re shopping for new clothes, even if you’ve never considered it from a finance perspective before. You’re not alone in this either. The Triodos research found that while 67% of savers prioritise reducing plastic use and increasing recycling, only 9% considers ethical finance crucial.

Ethical finance is often broadly split into three categories: environmental, social and governance. Among these three areas, there are many different values that are encompassed, reflecting different views.

What is ethical finance?

With an idea of what’s important to you in terms of ethics, how can this be reflected in your financial decisions?

Banking:  When choosing who to bank with, it’s often a decision that’s made based on areas such as the customer service provided and interest rates. However, you may want to think about the ethical practices of the bank or building society too. This can include a whole myriad of areas, depending on your personal practices. Do they operate in a way you consider ethical? Do they heavily invest in industries you’d rather avoid?

There are specialist banks and building societies that were set up to cater for those who want to make ethics a priority in their finances. However, many well-known and established providers are taking steps to improve their practices with a range of different areas in mind too.

Investing: Investing is where ethical finance has often focussed. As an investor, you have the option to support those businesses you believe are having a positive impact. This could be a retailer that removes suppliers with poor human rights reputations from their supply chain, firms investing in sustainable energy, or one that supports local communities.

According to statistics from the UK Sustainable Investment and Finance Association (UKSIF), the UK is the fastest growing market for sustainable investment in Europe. Integrating a range of ethical considerations into investment decisions has grown by 76% in the UK, with €2.2 trillion of UK assets excluding industries deemed harmful, such as arms and tobacco. Whilst there are many different strategies for ethical investing, the research found that the most popular option in the UK is voting and engagement, using shareholder power to enact positive changes.

While ethics may be a part of your decision-making process when investing, it shouldn’t be the only one. Factors such as the level of risk and how it aligns with your personal goals are still important.

Pensions: Your pension may be overlooked when you consider investments. However, for many, it’s likely to be one of the largest savings you have, particularly when you consider how long you’ll be adding to it for. Most pensions are invested, with the aim of delivering returns that outpace inflation and help set you up for a more comfortable retirement. With this in mind, is your pension invested in line with your values?

When you first become a member of a pension scheme, you’ll usually have the option to choose between several different investment portfolios. For example, the pension provider may offer you various options according to the level of risk you want to take. However, an increasing number now offer ethical funds reflecting the growing trend. Of course, as with above, this isn’t the only factor to consider when selecting where to invest.

If you’re keen to learn how you can incorporate your ethical values in your financial decisions, from savings to pensions, please contact us.

Pension changes to be aware of for the 2019/20 tax year

As the start of a new tax year begins, it’s often a time to consider how your financial plan is shaping up and ensuring it’s still relevant for aspirations and goals. You may be thinking about how you’ll use your ISA (Individual Savings Account) allowance this year or how to make the most of investable assets. One key area you should be considering is your pension.

As you plan for retirement, there are three important changes to keep in mind when you’re saving and building an income.

1. Auto-enrolment minimum contributions increase

The auto-enrolment initiative to encourage more people to save for retirement has been hailed a success; with ten million more people saving into a pension. From April 6 2019, workers making the minimum contribution will see their pension contributions rise. This is the latest in a series that aimed to gradually get employees used to the idea of saving for retirement. There are no further planned rises in the future, but they could be announced at a later date.

In the previous tax year, employees were contributing at least 3% of their pensionable earnings. This has now increased to 5%. The average UK employee is expected to pay an extra £30 each month.

Whilst it does eat into the income received and could place pressure on low earners, there are two benefits to the rise. First, by saving more consistently, workers are putting themselves in a better financial position for retirement. Second, employer contributions have increased too, from 2% to 3%, delivering a welcome boost to pots.

It’s also important to note that the Personal Allowance, the portion of income where no tax is paid, has increased to £12,500. This may help to offset some of the income losses for those paying minimum auto-enrolment contributions.

2. Lifetime Allowance increase

The Lifetime Allowance (LTA) is the total amount you can hold in a pension without incurring additional charges when you reach retirement.

The LTA is increasing in line with inflation. This means it’s risen from £1.03 million to £1.055 million for 2019/20. However, it’s still below the high of £1.8 million in 2011/12. If your pension is approaching the LTA, it’s a crucial figure to keep in mind. The additional tax charges placed on your pension can be as high as 55% if you were to make a lump sum withdrawal.

Whilst the LTA can seem high, it’s easier to reach than you might think when you consider how long you’ll be paying into a pension for. If you’re approaching the LTA there may some steps you can take to mitigate the amount of tax you’ll pay. If you have a Defined Benefit pension, the value of your pension is typically calculated by multiplying your expected annual income by 20. For a Defined Contribution pension, the total value will be considered when applying the LTA, this includes your contributions, as well as employer contributions, tax relief and investment returns.

3. State Pension increase

For many retirees, the State Pension provides a foundation to build their retirement income on. Thanks to the triple lock, which guarantees annual rises, those already claiming their State Pension will notice an increase.

Each year the State Pension rises by either the previous September’s CPI inflation, average earnings growth, or 2.5%, whichever is higher. For 2019/20, this means a 2.6% rise to match wage growth. What this means for you in terms of money will vary slightly depending on when you retired, your National Insurance record and, in some cases, the additional pension benefits built up.

If you’ve retired since 6 April 2016, you’ll be on the single-tier State Pension. Should you have a full National Insurance record of 35 qualifying years, your State Pension will rise from £164.35 to £168.60. Over the course of the year, it means an extra £221 in your pocket, helping to maintain spending power.

For those that retired before 6 April 2016, your new State Pension will depend on which tier you fall into. Those receiving the basic State Pension will see a boost of £3.25 a week, taking the weekly amount received to £129.20. If you benefit from the additional State Pension, the maximum cap has risen from £172.28 per week to £176.41.

If you’d like to discuss your pensions and retirement plans, including how changes in the new tax year may have an impact, please contact us.

Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change in the future.

Your guide to purchasing an Annuity

Are you thinking about purchasing an Annuity to fund your retirement lifestyle? It’s crucial to understand the product and shop around for the best deal as research suggests that many retirees could secure a better income.

An Annuity is a way of creating a guaranteed income throughout retirement if you have a Defined Contribution (DC) pension. Should you decide it’s the right option, the money accumulated in your pension is used to purchase an Annuity. Typically, the money paid out from an Annuity will be linked to inflation, maintaining your spending power throughout retirement, though this isn’t always the case.

In the past, an Annuity was the most common way to access pension savings. However, since the introduction of Pension Freedoms in 2015, taking a flexible level of income has grown in popularity. While more pensions now enter Flexi-Access Drawdown, there are still advantages to choosing an Annuity. For many, the security of a guaranteed income provides peace of mind.

Of course, there are drawbacks to weigh up too.

Among the downsides of purchasing an Annuity is the inflexibility. Alternatives to creating a retirement income may allow you to adjust your income, reflecting differing income needs as you go through retirement. However, an Annuity will provide you with a fixed income that won’t change. For some, this inflexibility will mean an Annuity isn’t the right option for them.

It’s important to remember that if you have a DC pension, you don’t have to select a single way to build a retirement income. If some level of flexibility is a priority, you could use a portion of your savings to buy an Annuity, accessing the remainder flexibly. This hybrid approach can provide you with a reliable, base income to offer peace of mind and allow you to adjust income when needed.

Finding the right Annuity for you

There are many different providers to choose from when purchasing an Annuity. It can make searching for the right product for you difficult. However, it’s an important task and one that’s worth investing some time in; after all, it will affect your income for the rest of your life.

According to research from Just Group, up to two-thirds of Britons going into retirement could receive a higher income, affording a more comfortable lifestyle.

One of the key factors influencing this figure is that providers aren’t consistently asking retirees about their health and lifestyle. Certain health issues could qualify retirees for an Enhanced Annuity, which would pay out more. For example, you could receive a greater income if you have high blood pressure or cholesterol. The full impact would depend on your personal circumstances and the provider chosen. However, figures from Hargreaves Lansdown can give you an idea of the difference disclosing health issues can make. A £100,000 pension is estimated to provide an annual income of:

  • £5,456 for someone with no health issues
  • £5,477 for someone with high blood pressure and cholesterol
  • £5,930 for someone who smoked 10 cigarettes a day
  • £6,276 for someone who is diabetic
  • £6,618 for someone that had previously had a stroke

Of course, even if you don’t have health issues, it’s important to shop around. The rates offered when purchasing an Annuity can vary significantly between providers.

Five steps to take if you’re considering an Annuity

1. Speak with a financial adviser: A financial adviser can help guide you throughout the process of purchasing an Annuity, from the initial point of seeing if it’s right for you. By seeing how your income needs will change throughout retirement and getting to grips with whether an Annuity is right for your circumstances, you can have greater confidence in your decision.

2. Understand the different Annuity products: There are many different types of Annuity products available, so it’s important to understand which one would suit you. For many retirees, a Lifetime Annuity is preferred, this would pay a defined income until you die. However, there are fixed Annuities too, which will be an income for a defined period of time.

3. Don’t make quick decisions: When you’re searching for an Annuity, it can be tempting to make a snap decision when you’re offered a rate that seems attractive. However, take a step back and give yourself some time to think. Once you’ve purchased an Annuity there is no going back, so it’s important to make sure you’ve secured the best deal possible.

4. Secure multiple quotes from providers: With two-thirds of retirees potentially receiving a lower income due to choosing the wrong deal, securing multiple quotes to compare should be considered a critical step. There are comparison tables available online that can help you with the initial research. Deciding on the type of Annuity product you want first can help you gather comparable results.

5. Explore other options: An Annuity used to be the most common way to create a retirement income. However, retirees today have far more choice and different products available. Be sure to look at the alternatives before you make a decision to proceed. You may find that a more flexible income is needed when you’ve considered your aspirations.

To talk about building a retirement income that suits your lifestyle goals and savings, please contact us.

Please note: A pension is a long-term investment. The fund value may fluctuate and can go down, which would have an impact on the level of pension benefits available. Your pension income could also be affected by the interest rates at the time you take your benefits. The tax implications of pension withdrawals will be based on your individual circumstances, tax legislation and regulation which are subject to change in the future.

Calculating your investment risk profile

The investment market has been experiencing volatility lately and it may mean you’re considering whether your current risk profile is still appropriate. All investments carry some risk but there are numerous different risk profiles to consider; what’s right for one person can be very different from another.

Calculating the level of risk you can afford to take with your investments can be complex, there are numerous different factors to consider, including these six:

1. Timeframe: One of the first things to consider is how long you’ll remain invested for; the minimum timeframe should be five years. Historically, markets have delivered returns over the long term, but in the short term, values can rise and fall. The longer you’re in the market the more time you have to ride out these dips and reduce the risk of losing some of your capital. Therefore, as a general rule of thumb, the longer you plan to invest for the more risk you can take. Of course, this isn’t the only factor you should consider when you’re making investment plans.

2. Capacity for loss: All investments carry some risk, as a result, you should ask yourself how you’d feel if you were to lose some of your capital. No one wants to think about losing money they’ve invested, but understanding the potential implications of doing so and your capacity for loss is crucial before you forge ahead. If investment values decreasing could harm your financial security, it’s typically a good idea to look at alternatives to investing.

3. Investment goals: What do you want to get out of investing? Do you want to grow your wealth as much as possible or create a portfolio that will deliver a reliable income? These two goals are likely to lead to very different investment strategies, so it’s important to define what you want to achieve through investing early on. Whilst goals are important, they shouldn’t be the sole focus. Taking a high-risk strategy because you want the opportunity to realise significant returns could seriously affect your financial security if you don’t have the capacity for loss, for example.

4. Current investments: If you already have investments, these should play a role in any new investments you plan to make. Your entire portfolio should consider diversification and spreading risk as much as possible. Holding a significant portion of your investment portfolio in a single industry, for instance, would mean any downturns in this area would have a far greater impact. On the other side, spreading risk means you have a chance to take advantage of more opportunities too.

5. Other assets: As recent market conditions have highlighted, investments can and do experience volatility. This can mean the value of your investments decreases at points. Should you need to, do you have other assets you can fall back on? Ideally, you shouldn’t invest without first building up an emergency fund at least. Looking at what other assets you have is critical for calculating your overall financial resilience and therefore the level of risk you can afford to take.

6. Overall attitude to risk: Whilst it’s important to keep the above factors in mind, it’s also important that you feel comfortable with any financial decisions you make. Taking the time to understand how and why the above influence should play a role in investment decisions can help you make the right choice for you. Ultimately, though, your overall attitude to risk and investing will play a role too. You may be in a position to accept a higher level of risk, but if this leaves you feeling worried and concerned about your financial security, for example, there may be alternatives that are better suited to your views.

Remember; regularly reviewing your investment risk is important. As priorities and goals change, investments that were once right for you may no longer be. Likewise, you may find that as your wealth increases, there are new investment opportunities to be taken advantage of. Your investment strategy should be reviewed in line with your wider financial plan and aspiration to ensure it still accurately reflects your goals.

If you’d like to reassess your current investment portfolio or have further assets to invest, we’re here to help you understand how your risk profile should influence decisions.

Please note: The value of your investments can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.