Importance of your Pension

For many, working is a means to an end, enabling us to get on with our own, non work-related lives. Being ready for retirement is a point in which one has accumulated enough wealth to sustain them for the rest of their lives. Some people will likely overshoot this, ensuring a parting gift/inheritance is left for their loved ones, and some don't quite have enough, making them struggle in their later years. Are you on track for your goals?

Why is Saving Into Your Pension Early Important?

Simply put, compound interest on your returns means that making an early start has huge (compounded!) advantages compared to starting later.

Take a quick peek at the table below, which compares a 25 year old saving £3000 a year until they reach 65, and a 35 and 45 year old saving the same amount every year, but starting 10 and 20 years later. This data is based on making a 4% yearly return after inflation.

Just glancing at this shows the huge impact compounding returns has, and highlights the importance of being saving into your pension as early as you can.

How to Maximise Pension Savings

Simply put, if it is affordable, you should make sure you are maxing your employers pension contributions.

The current UK legal minimum is employee (3%) and employer (2%).

Many employers go above and beyond this, I've seen some double employee contributions, such that employee contributions are 10%, and employer 20%!

Anything over the current 2018, 2% minimum is essentially free money. If you are able to afford sacrificing your portion to increase your employers, this is widely recommended.

The above might seem way too high or low for some, but there is a "Rule of Thumb" for savings, which should allow you to be able to retire comfortably.

The Rule of Thumb for pension saving, to retire at roughly 65~68 is the age you start saving for your pension / 2.

So, if you are a 20 year old, you should be aiming to contribute 20/2=10% into your pension in total (employee+employer contributions = 10%). As a result, for the remainder of your working life, you will only need to ensure your total (employee + employer) contributions are 10% of your pre-tax salary until the day you retire.

If you are 40 years old, the rule dictates you will need to ensure your and your employer contributions total 20% of your pre-tax salary, until the day you retire.

Though this difference may not seem massive, if you can adjust to it early on, it will alleviate a large amount of financial pressure later in life.

As your salary goes up over your working life, you retain this percentage on your current salary, not your starting salary. 

Example Breakdown:

Imagine you are 20 years old on a annual salary of £20k, and your employer will match your contributions upto 5%. This means your total contribution is employee 5% (£1k) + employer 5% (£1k)= 10% (£2k/year). As your salary goes up over your working life, you retain this percentage on your current salary, not your starting salary.
This means if year 1 you are on £20k and your total contributions are 10% (£2k), and year 2 you receive a tasty pay-rise to £24k, you should retain the 10% on the £24k, such that your yearly contributions now total £2.4k.