By Mark Fairlie.
Young people and millennials are confused about pensions and about how they will pay for a decent standard of living when they retire.
In February 2018, the Chartered Institute for Securities and Investments published a survey which found that 10% of 18-24yr old employees did not “know what a pension was or how it worked”, as reported in People Management magazine. A quarter of respondents believed that their living standards would actually improve during retirement as opposed to just 8% of the wider working population.
Another survey by the Institute found that 36% of employees did not know that they needed to pay National Insurance for 10 years to receive the minimum state pension.
According to asset management firm State Street and as reported on BBC News, “fewer than one in 10 young workers felt financially prepared for retirement.” Women are particularly disadvantaged as females in their late 20s or early 30s are expected to have a pension pot 11% smaller than their male counterparts, according to investment company Fidelity International (BBC News).
How pensions work
Pensions are currently the most popular way for employees and company owners to save for their retirement.
A pension is a pot of cash or assets (like stocks and shares) which someone builds up in value usually over three or four decades. For successive governments, encouraging people to save for their retirement has been a priority in policy and, as a result, pensions attract significant tax advantages.
When a saver pays money into their pension, they automatically receive 20% tax back from the government as an additional deposit. Higher and additional taxpayers also benefit from similar government payments into their pension pots at the rate at which they are charged income tax although they do have to apply for this relief every year.
At 55, a saver can withdraw 25% of their pension pot and they pay no tax on it. When a saver retires, they can leave money into their pension pot and only draw down cash when needed. Alternatively, a saver can buy an annuity policy which pays a guaranteed amount for the remainder of the saver’s life based upon the value of their pension savings.
Starting in 2012 and rolled out over a period of over five years, the government introduced a pensions auto-enrolment requirement on employers. The aim of the roll-out was to encourage millions of more employees to start a personal pension and to boost those pensions with contributions from their employer.
When the scheme is fully operational, an employee will set aside 5% of their salary for their pension topped up by an additional 3% by their employer. If a business or organisation has any staff earning more than the National Insurance primary minimum threshold of £8,164, those staff must be offered the opportunity by their employer to enrol onto a company pension scheme, although each individual employee is free to opt out of the scheme if they inform their employer.
Pensions investment company, Royal London, reported in May 2018 that
“The average person will have to save £260,000 over their lifetime to enjoy a basic income in retirement, climbing to £445,000 if they are unable to get on the property ladder”. (Guardian)
The amount needed in savings for a basic income in retirement has risen significantly since 2002/2003 when the sum required was £150,000.
Dawn Hyams, head of investor insight at The Wisdom Council, told FT Advisor that just under half of all millennials in employment believe they have a final salary pension scheme, more than the number correctly identifying that they actually had a defined benefit scheme.
Many in the pension industry identify their own culpability in the lack of understanding of pensions.
“We talk to investors on a daily basis through our work, and even we were surprised by the huge gap in pension understanding…Providers are making huge efforts on language, but the industry is still too quick to jump into the detail,” explained Ms Hymans to FT Advisor.