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BLOG: Escape the 9-5 with these tips and tricks to retire early

Paloma Kubiak
Written By:
Paloma Kubiak
Posted:
Updated:
27/07/2023

Early retirement may be a pipedream for many, but with careful planning, smart investing, prudent spending, and most importantly by starting early, you may be well positioned to start living a work free life at 55.

The Financial Lives 2020 survey published by the Financial Conduct Authority (FCA) in February 2021 showed that 58% of those who are over the age of 45 and aren’t retired, have put little or no thought into how they will manage financially in retirement.

This is especially concerning as one in four Britons who aspire to retire early aim to do so by age 60, as per a survey by Aviva.

Early awareness and action are therefore critical in being capable of retiring early, and here is what you need to be mindful of:

1) Knowing your pension pot and actively managing it

According to the FCA, the average pension pot in the UK is £61,897, while the Pensions and Lifetime Savings Association (PLSA) recommends a couple would need an income of around £30,600 a year to have a moderate standard of living. This climbs as high as £36,200 a year for those living in London.

If you are looking to retire early, you would need to make sure you have enough in your pot, which together with the maximum state pension will allow a comfortable lifestyle.

Ask yourself the tough questions including – “how much would I need a year to live my current lifestyle?”, “how many holidays would I like to go on”, “am I maximising my tax-free investments each year?”, and “am I on track to retire at 55?”. Once you know these answers, you can start to plan how you’ll achieve that dream of early retirement.

2) Maximise your tax free contributions

Pensions and ISAs are great savings options, and by maximising your contributions to both, it’s possible to be more efficient with your finances for the future.

Currently, you can contribute up to 100% of your earnings (or £3,600 if you have no earnings) into a pension – up to a maximum of £60,000 a year.  One of the main benefits of saving into a pension means that you’ll get tax relief on the contributions you make.

So, for a basic rate taxpayer, for every £1,000 you save – it costs you £800.  And if you’re a higher rate taxpayer, for every £1,000 you save – it costs you £600. When it comes to taking money out of your pension, you can access up to 25% of your pension tax free (usually up to £268,275) and the rest will be taxed as income at your marginal rate of tax.

If you’re a member of your employer’s company pension and pay contributions by salary sacrifice, you save even more money as it reduces the amount of National Insurance contributions you pay. And of course, you can also make contributions to your spouse or partner’s pension and help them save for the future too.

Alongside this, having the ability to save as much as you can into your ISA will enhance your future income options. At the moment the maximum you can save into an ISA is £20,000 and you can do this by either saving regularly or paying in a lump sum. The additional benefit of an ISA is that it’s tax free – you won’t be taxed on any growth on your savings while in the ISA and you won’t be taxed when you take any money out.

Whether saving into an ISA or a pension – the earlier you start the longer your money has to work for you as it has longer to grow.

For an ISA, if you can afford to save the maximum £20,000 a year for 20 years and it grows at 5% a year, you’d end up with around £612,407.30. For stocks and shares ISAs, the potential growth on your fund could be higher – over the last 20 years (2002 to 2022) the average annualised return of the FTSE 250 was 9.5%.

With your pension, let’s say a 30-year-old wants to retire at age 55 with an annual income of £30,000 and has already saved £20,000 into their pension. To achieve this, you’d need to save around £560pm. Remember you get tax relief on your pension contributions so to save £560pm it would cost you £448pm as a basic rate taxpayer.

If you’re a higher rate taxpayer, it would still cost you £448pm but you can reclaim another £112pm back from HMRC. We’ve assumed your pension pot would grow by around 8% per year and inflation would sit at 2%. As a higher rate taxpayer, to achieve your goal a total of £6,720 would need to be saved each year, but it would cost you £4,032.

3) Invest

Make your money work for you!

Most of us need a ‘cash cushion’ in case of emergencies, and with interest rates on the increase there are definite benefits of keeping some of our savings in cash.

However, when you consider interest rates alongside the current rate of inflation, it often means that the real value of your money is eroded over time.

It’s therefore important to diversify your savings and investments and wherever possible, consider investing some of your cash for the longer-term. Investing in options that can outpace the rate of inflation will significantly help with your longer-term goals.

Make sure you know what you’re paying in fees and charges as these can all affect the total return on your savings over the longer-term.

4) Do what you need to ensure financial independence

No one wants debt but if you do have any, prioritise this and aim to pay off any debt before you retire or leave the job market. Keep an eye on your spending and target any credit card or loan debt first – particularly with the current interest rates, it would be very easy to see credit card debt snowball if not prioritised. Ask yourself if you really need that purchase – particularly big items – or will it just add to your debt?

Once any debt is paid off, direct any excess towards your mortgage and once that’s paid off save as much as you can into your savings and investments.

5) Start early and start now

It’s tough to save for many, particularly at the moment but the most effective way to save is to start as early as you possibly can and save as much as you can afford. For example, if someone wanted £500,000 when they retire to provide an income of, say, £34,000pa, you’d need to save around £125pm if you started saving at age of 20 years. If you wait and don’t start until your 40s, you’d need to save around £470pm for the same amount.

Kirsty Anderson is pension specialist at M&G Wealth, and &me