BLOG: Don’t say no to automatic enrolment
First the good news: we’re all living longer. Now for the bad news: most of us aren’t saving enough for our retirement.
Research we recently conducted showed that three quarters of people don’t believe that there is a culture of saving in Britain and the financial crisis has dented our ability to save with more than one in four people admitting that they’ve stopped saving in light of the recession and haven’t saved since.
While most of us know we should be saving more, doing something about it is quite another matter. Let’s face it, pension planning is definitely something most of us would prefer to put off until tomorrow.
So, to tackle this problem, the Government decided to capitalise on our innate apathy by introducing automatic enrolment into workplace pensions.
Auto-enrolment means that if you don’t currently have a workplace pension, but earn more than £9,440 and are aged between 22 and the State Pension Age, over the next four years you will be automatically enrolled into a pension plan. You don’t have to do anything, it’ll all be done for you and at some stage you’ll receive a letter from your employer telling you all about it.
To start off with, you’ll contribute 1% of your salary with your employer contributing 1% and over time this will increase to 4% for you and 3% for your employer. So what does this mean in terms of an actual income at retirement and is it worth it?
Every person’s retirement income will be different depending on when they start saving, their salary, the type of pension scheme and their final annuity. But, let’s take an example of somebody who at age 22, earning £26,200 a year is automatically enrolled into a pensions scheme – let’s call him Joe.
At the age of 68 Joe will have a final pension pot worth £181,080 – this assumes he saves continuously for 46 years, only making the minimum contributions. It also assumes a 2.5% annual salary growth (so his final salary would be £32,808) and 5% annual fund growth. This would give him an estimated £10,792 per year pension and if you add on the flat rate state pension of £144 per week on top, Joe would be receiving 55% of the income he used to receive while working.
Now this isn’t going to allow him a luxurious retirement, but it’s probably manageable. For somebody with the same salary who opts out and then decides to opt back in at age 32, their final pot value would be £141,400 or £8,500 per year so a 48% salary replacement when taking the state pension into account.
For somebody who doesn’t opt in until 37, their final pot value would be £114,355 with an annual income of £6,815 per year and a salary replacement of 43.5% including the state pension.
But, if any of these people had started saving from age 22 and opted to increase their contributions to 8% of salary from the start, they would have a pension pot of £203,666 with an estimated annual income of £12,138 or a 59% salary replacement ratio if the state pension is included.
The numbers speak for themselves, the sooner you start saving and the more you contribute, the better off you will be in retirement. Leave it longer to get saving and you will have to put more of your salary aside every month to catch up.
Also, it’s important to remember that when you pay in, your employer is also paying in. This is essentially free money – think of it like getting a pay rise. So when you receive your letter from your employer about auto enrolment, remember that it pays to stay in so don’t say no and once you’re in the scheme stay in and if you can, increase your contributions from the minimum to help you enjoy a more comfortable retirement.
Morten Nilsson is the CEO of NOW:Pensions