Pensions – 3 Common Mistakes That Young Professionals Make
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For young professionals there is a fine line between maintaining your lifestyle today and saving for the future.
Pensions are one of the most tax-efficient ways to save for your retirement so let us look at some of the common mistakes that young professionals make when it comes to pensions.
#1 - Not Joining Their Workplace Pension
All firms are legally obliged to offer a workplace pension and there are rules around minimum contribution levels. Currently, employers have to pay a minimum of 3% of your earnings into a Workplace Pension assuming you are eligible to join.
If you don’t join your Workplace Pension you’re effectively giving up free money – both the employer contribution and the tax relief on your contribution.
Let’s look at an example.
Lucy earns £75,000 per annum and pays 5% of her earnings into her Workplace Pension and her employer pays a matching contribution. The amounts are as follows:
Lucy’s Gross Contribution = £312.50 per month.
Lucy’s Net Contribution = £250.00 per month i.e. the amount that gets deducted from Lucy’s earnings.
Employer Gross Contribution = £312.50 per month.
Lucy receives a total of £625.00 per month into her pension at a cost to her of £250.00 per month. In other words she benefits from an additional £375.00 per month by joining her Workplace Pension - £312.50 from her employer and £62.50 tax relief from the government.
#2 - Not Saving Enough
Most people underestimate how much they need to save for their retirement. The Pensions & Lifetime Savings Association (PLSA) publish a set of Retirement Living Standards – Home - PLSA - Retirement Living Standards
For a single person it is estimated that a comfortable retirement would require an income of £37,300 per annum in today’s terms. This assumes that a person:
Replaces their kitchen and bathroom every 10-15 years.
Spends £144 per week on food (including eating out).
Replaces a two year old car every five years.
Takes a three week holiday in Europe every year.
Spends £1,500 per year on clothing and footwear.
Spends £56 on each birthday present.
This is likely to require a pension fund in excess of £1 million.
For many successful professionals earning significant amounts during their career, they may be looking for more than just a comfortable retirement.
As you progress through your career, it is important to regularly review the level of pension contributions you are making especially when you receive salary increases. As you earn more, you should consider paying more than the minimum contribution levels.
#3 - Not Taking Enough Risk
Academic research suggests that over the long term, Global Equities are likely to be the best performing asset class relative to Cash and Bonds. A young professional in their twenties or thirties cannot access their pension until they are at least age 57 which represents an investment time horizon of around 20 to 30 years. If we take into account the fact that most people will take retirement benefits via Income Drawdown, the investment time horizon becomes much longer.
At a relatively young age, time is on your side and you can weather the ups and downs of the stock market so young professionals should take investment risk by investing in a globally diverse portfolio of equities and not be too cautious.
Summary
For a young professional, joining your Workplace Pension, paying in as much as you can afford and investing in global equities can help you build solid foundations for your financial planning journey.
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