One myth I want to dispel straight away is that planning your retirement is complicated. Pensions have never been more accessible, flexible and most importantly.....simple. As a financial planner and one of the most widely quoted investment experts in the national press I'm going to walk you through how to:
- work out how much money you need to achieve the retirement you want
- calculate how much you need to save a month & build a retirement plan
- put your plan in motion and start your pension savings today
- (most importantly) invest and manage your own pension successfully & decide which funds to buy
- calculate your own annual return target
The good news is that all this takes less than 15 minutes to achieve. I've deliberately broken this post up by the above topics because some of you may already have a pension in place so are just interested in learning how to run your pension. You can just skip to the sections that are relevant to you.
Step 1 - How much money do you need to retire?
When you are building a retirement plan you need to work out how much money you need to retire. So lets pretend:
- I want to retire at age 60 and I'm currently 37 years old.
- I earn £25,000 a year
- I have a repayment mortgage
- I have a small existing pension with £20,000 in it
So my net monthly wage is £1,674 after taxes. My mortgage costs me around £600 a month which will be paid off by the time I retire. I can afford to put around £50-100 a month into a pension at the moment.
Other than my mortgage my bills are around £800-1,000 a month. In retirement I want to have the same lifestyle as I do now as a bare minimum, but hopefully I can have a better one as I also want to travel. So let's work out how much I need to retire...
Here is a fantastic FREE pension pot calculator which can be quickly used to work out what sort of pension income you are likely to get. You can also use it to build a retirement plan to see at what age you can retire and how much you need to save to get the retirement income you desire. I've personally used it build my own retirement plan.
So using my figures above, if I pay £50 a month into a pension by the time I'm aged 60 my pension pot would be worth around £39,400. Yet this would only give me an estimated pension income of £1,740. Nowhere near what I need!!
If you are to have the same lifestyle in retirement as you do now then you typically need an annual pension income of around two thirds of your current salary. Fortunately the calculator estimates this for you and in my example that equates to £16,700 (this is my minimum pension requirement). If I want to travel I will need a lot more money than that.
So now you do the same exercise to find your minimum pension requirement.
Step 2 - Calculate how much you need to save & decide your annual return target
A lot of people will see a figure like I have just produced above and become deflated and defeated. But you shouldn't! It is just the foundation upon which to build a retirement plan that will achieve what you need.
So the next step is to use the calculator to test a variety of scenarios. You can use the section with the tabs titled 'increase your contributions', 'delay your retirement' and 'delay starting your contributions' to do this. Yet the sections work independently of each other. I prefer to change the assumptions on the bigger calculator myself.
After tweaking the figures the calculator suggests that if I saved £300 a month into a pension (didn't take a tax free lump sum at retirement) and delayed my retirement to age 65 then I'd be likely to receive a pension of £6,820 a year. Which is 40% of my target - so we are getting there.
Ok next click on the 'advanced options' link in the bottom right of the calculator. In here are the background assumptions that the calculator uses. As a default it assumes your investments will grow at a rate of 5% a year. Given that equities (shares) historically average 5-6% a year that is a fair assumption. However, I've decided to change the assumption to the higher level of 8%.
When I re-run the calculator with the new assumptions I will now hit my target of a £16,700 a year pension by age 65 if I save £300 a month an have an average annual return of 8%.
alternatively if £300 seems too much then by altering the retirement age to 70 I can achieve my desired pension by saving just £180 a month
By having a target annual return figure it helps you to stick to your plan. Investors often become distracted by what other people's investments are doing or by how much the FTSE 100 moves. You need to ignore all that and focus on your own target return. In years when you achieve more than your target this just helps make up for the years when you won't. By using a target return approach you avoid emotional knee jerk investment decisions.
Don't forget that I've assumed that my employer is not contributing to the pension at all. If your employer will do then input that figure and your own monthly contributions can be reduced.
So I've developed a retirement plan in minutes.
- I know that ideally I need to save between £180 & £300 a month
- If I do I will be able to retire between age 65 and 70
- only if I achieve an average of 8% return a year (of course some years will be lower and some higher)
Now things to bear in mind:
- In the future I will likely earn more money and therefore be able to pay more into my pension
- a future employer may also pay into my pension
- I can always increase or decrease your pension contributions
So to start with I plan to put £100 a month into my pension as I can stretch to that. In the future I will need to increase my contributions as soon as I can afford to.
Step 3 Put a plan into action today
Now the most important thing is to put your plan into action and maintain momentum. To do this you need a pension product to save and invest your money in. There are lots out there. The most versatile type of pension is what is known as a SIPP (short for Self Invested Personal Pension). I strongly suggest that you download the following FREE SIPP guide* which tells you all you need to know about SIPPs including:
- How to get started with a SIPP
- How to benefit from the new pension freedoms with a SIPP
- How to improve existing pensions in a few simple steps
- How the pension tax rules work
- Tax advantages of a SIPP and how they could boost a pension
Currently the most popular SIPP in the UK and the winner of numerous 'Best SIPP' awards is the Hargreaves Lansdown Vantage SIPP.
Step 4 - How to invest your pension to meet your target annual return
The hurdle for most people when it comes to running their own pension is not knowing how to do it and maximise their investment returns. Yet learning to run your own money is actually far easier than people imagine. The key is to pick an investment strategy and to stick to it through thick and thin. But what is the best investment strategy when investing your pension?
This FREE short series of emails helps answer that. After researching thousands of fund managers and their performance the email series explains what it is that separates the successful managers from their peers. Each of the concise emails will take you just 2 minutes to read a day over a coffee. I use the conclusions to run my own money with just a few minutes effort a month. Plus you will get a FREE e-book titled - 39 Simple ways to pay less tax that anyone can do.
If you've followed the above guide you should have
- built a retirement plan
- calculated your investment return target
- put your plan in motion
- & now you're learning how to invest your pension fund successfully
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