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Pensions: how much should I pay in?

Pensions: how much should I pay in?
A pension is a tax-efficient way of saving for your retirement, but it can often be difficult to figure out how much you should pay throughout your life. In this article, we explore how much pension you may need.

What is a good pension amount to aim for?

Some advisers recommend saving up to 10 times your average salary by the time you retire.
For example, if your average salary is £40,000, you should aim for a pension pot of around £400,000.
Another useful tip is that you should aim to save 12.5% of your monthly salary.
With a workplace pension, this is more likely if your employer matches your contributions..
So, if you earn £30,000 a year and pay £125 per month (5% of your salary), your employer would contribute £75 (3%). 
Some employers offer a higher contribution if you increase the amount you pay into your pension. 

What’s my target income in retirement?

First, you need to decide your desired retirement income.
So, you’ll need to figure out how much pension you need to live comfortably.
One of the quickest ways to figure this out is with the '50-70' rule, which is when you aim for an annual income between 50% and 70% of your working income.
For example, if you earn £50,000, you will want to save between £25,000 and £35,000 a year. a year.
Want a more accurate figure? Then you’ll have to do a few calculations, using the below.

How to calculate your retirement income needs

  1. First, you need to figure out your current monthly expenditure.
  2. Deduct any recurring costs that may no longer apply after retirement. This may include mortgage repayments (if you expect to have paid it off), commuting costs, pension contributions, and regular savings.
  3. Make deductions for reduced housekeeping costs (for example, if you have children who will move out). A smaller household can mean lower bills for food, energy, transport, entertainment, and holidays.
  4. You should also consider other savings, such as running fewer cars, getting a cheaper vehicle, or taking holidays at cheaper times.
This will give you a monthly income figure on which you could, in theory, live comfortably.
You can find out how much retirement income you may receive from your pension and how to boost it using Unbiased’s pension calculator.

What extra money might I need in retirement?

By working out your target income, you’ve assumed your needs and spending stay around the same, but in reality, that won’t be the case.
You’ll want to treat yourself occasionally, and will face one-off expenses.
Extra costs might include:
  • Luxury holidays
  • Home repairs and improvements
  • Healthcare expenses
  • Vet bills (if you have pets)
  • Helping your children financially
  • Saving for care costs
So, it’s wise to aim for a decent safety margin when saving for retirement, instead of the bare minimum.
This may mean a higher income, or a larger pension pot (depending on how you access your pension).
Also, your costs may increase significantly by the time you retire. The cost of living tends to double every 25 years, so work out what it may be by the time you retire and by the end of it.

How long will my retirement last?

To work out how much you need to save, you need an idea of how long your retirement could last.
This means estimating your retirement age and how long you will live.
A typical retirement age might be 65. You may wish to retire sooner, but need to factor this into your calculations as it means less time saving and more time living off your pension.
If you retire later than 65, you may not need to save as much and may be able to save more.
Your lifespan is less easy to guess, but you can get a rough idea, based on your health and lifestyle, by using a life expectancy calculator.
An average 65-year-old today who retires at this age could expect to live to around the age of 84 if they are a man or 89 if they are a woman.
Those who keep fit and have a healthier lifestyle could live longer, but you’ll need more savings.
Image of a retired couple sat on a bench looking at a cruise ship

How much state pension will I receive?

If you qualify for the full new state pension, you’ll receive £203.85 per week (£10,600 annually in the 2023/24 tax year) from the state pension age, which is 66, but is due to rise to 67 from 2026. 
The amount you get will increase over time, so will maintain its buying power – and if inflation or wage growth is below 2.5%, it will outgrow both of them, thanks to the 'triple lock.'
On its own, the state pension is not enough to live on, but may help you achieve a sustainable retirement income from your private pensions.

Do I have any final salary pensions?

Some workplace pensions are known as final salary or defined benefit, which offer a guaranteed income for life.
If you have one, or think you might, find out how much it will pay and when payments will start (known as your ‘pensionable age’).
You can add this figure to your state pension to have a clear total of your guaranteed income.
Now, you can work out how much more income you may need from other pension pots.

How big should my pension be?

You can now decide what size pension pot you need and have the most important figures:
  • Your preferred annual retirement income
  • Your guaranteed retirement income
Deduct your guaranteed income from your preferred income to discover how much you’ll need to generate from other sources.

An example: Steve's pension pot

Steve has no final salary pensions and anticipates receiving the full new state pension from the age of 68. In retirement, he is aiming for an annual income of £25,000.
From 68, he’ll need to make up around £14,400 a year from his private pensions. If he retires three years earlier at 65, he’ll need to find £25,000 annually himself.
Assuming Steve lives until 85, how big would his pension have to be to generate that income?
Hypothetically, Steve has saved a pot of £250,000 and a financial adviser finds him a dra that delivers 4% growth. He draws £25,000 a year for three years, followed by £14,400 for each subsequent year after he starts receiving his state pension. which delivers 4% growth. He draws £25,000 a year for three years, followed by £14,400 for each subsequent year after he starts receiving his state pension.
Assuming nothing changes, his pension will run out in around 20 years, which is as Steve expects. But this scenario depends on Steve’s pot growing by 4% annually.
If growth is lower or Steve takes out more, his pot will run out sooner – and he may live longer than 85.

How much can I pay into my pension?

So far, we’ve looked into how you should pay into my pension, but the other big question is how much you can pay in.
There is an annual allowance that limits the amount you can save into pensions and get tax relief.

How much can I pay into my pension if I’m unemployed?

A person usually cannot pay more into their pensions each year than they earn annually, but what if you have no earnings, or earn very little?
You can still pay in a reasonable amount and receive tax relief if you can find the money to do so.
If you earn less than £3,600, you can pay up to £2,880 a year into a personal pension such as a stakeholder pension or a self-invested personal pension (SIP).).
This money benefits from tax relief to grow to £3,600, which is enough to build up a decent-sized pension pot.

How can I stop my pension from running out?

If you want a guaranteed income for life, you may prefer to buy an annuity with your pension pot rather than use a drawdown scheme.
The advantage of an annuity is that it never runs out, but the annual income may be lower than with a drawdown scheme.
In the above scenario, what if Steve chose an annuity? He could use his £250,000 pension pot to buy a guaranteed income of around £10,600 per year, nearly £4,000 less than his target.
However, he would have more security if he were to live a very long time.
Another option for Steve is to buy an annuity with £100,000 of his pension pot for an annual income of around £4,200 and drawdown the remaining £150,000.
In this scenario, assuming 4% growth on his drawdown scheme, his pension would run out in around 20 years – but after that, he would be left with a guaranteed income of roughly £14,800.

Can I use other sources of income in retirement?

If your pension pot isn’t enough to meet your needs or you ‘outlive’ it, you may have to find other sources of retirement income.
These might include:
If you can’t do any of these or don’t own your own home, you may be reliant on the state pension if your private pension runs out.

Am I saving enough for my pension?

The first thing to do is find out how much is currently in your pension pots.
You may also have old pension pots from previous jobs – track these down and ask an adviser about combining them into one pot, known as ‘pension consolidation’.
Your pension provider should be able to give a projection of your expected pension pot at the age you plan to retire. A financial adviser can also give you an independent forecast.
Then, you can discuss your retirement income needs with your adviser, who can let you know if your projected pension pot is large enough to meet them.
If not, they can recommend an affordable increase in your monthly pension contributions.
Every pension contribution you make benefits from at least 20% tax relief. If you have a workplace pension, your employer contributes to it, making it the most efficient way to save for your future.
Unbiased can quickly connect you to a financial adviser regulated by the Financial Conduct Authority who can help you build the retirement you want.
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