Many employees are already paying 5% of their salary into their workplace pension through auto-enrolment, with an additional 3% employer contribution. However we know that many employers match additional contributions (up to certain limits), yet their employees may not realise this or understand the benefits of it – so they don’t take advantage of it.
WEALTH at work has created some examples to highlight this to employees. They show how someone in their 20s can increase their pension pot by 25% in retirement by saving an extra 1% a year with an employer match. Two of the examples are for basic rate tax payers earning either £20,000 or £40,000, and there is an example for the lucky few earning £55,000 in their 20s to demonstrate how it would work for a higher rate tax payer.
Example 1: Paul – Basic rate tax payer, aged 25, earning £20,000 per year
Paul plans to retire at his State Pension age of 68. At the moment he pays 5% of his salary into a pension, and his employer pays 3% through auto enrolment. It is estimated that his pension pot value at age 68 will be £99,341[1].
If he and his employer were to increase their contributions by 1% (£200) each, an extra £400 per year would be going into the pension. However, his outlay is only £136 due to the pension contribution being taken before tax and National Insurance are deducted.
The total pension contribution is now 10%, and the pension pot value is estimated to increase to £124,177 – an increase of £24,836. This is a 25% increase of the original pot.
Example 2: Trisha – Basic rate tax payer, aged 25, earning £40,000 per year
Trisha plans to retire at 68, and pays 5% of her salary into a pension, and her employer pays 3%. It is estimated that her pension pot value at age 68 will be £198,683[2].
If she and her employer pay an extra 1% (£400) each, an extra £800 per year would be going into her pension. However, her outlay is only £272 due to the pension contribution being taken before tax and National Insurance are deducted.
The total pension contribution is now 10%, and the pension pot value is estimated to increase to £248,353 – an increase of £49,670. Again this is an increase of 25% on the original pot.
[1] Assumptions: The employee is a member of a DC workplace pension scheme, the percentage contributions shown are paid with immediate effect and do not change in the future, pension contributions are paid by salary sacrifice by an employee based in England or Wales and are within HMRC limits, any pension savings already held by the employee are ignored, the member is exactly 25 years of age (their birthday is today), annual salary increases by 2.5% each year, pension charges of 0.75% apply, investment growth is 5% each year, the pension value is adjusted for inflation at 2.5% each year.
[2] Assumptions: as before.
Example 3: Kate – Higher rate tax payer, aged 25, earning £55,000 per year
Kate plans to retire at 68, and pays 5% of her salary into a pension, and her employer pays 3%. It is estimated that her pension pot value at age 68 will be £273,189[3].
If she and her employer pay an extra 1% (£550) each, an extra £1,100 per year would be going into her pension. However, Kates’s outlay is only £319 due to the pension contribution being taken before tax and National Insurance are deducted.
The total pension contribution is now 10%, and the pension pot value is estimated to increase to £341,486 – an increase of £68,297. Again this is an increase of 25% on the original pot.
[3] Assumptions: as before.
Jonathan Watts-Lay, Director, WEALTH at work, comments; “We speak to many young people at our financial education seminars and of course, a pension is something most feel they don’t need to worry about at their age.
However, when we point out the difference saving more in their 20s can make, compared to starting in their 30s or 40s, especially when their employer matches any additional contributions, suddenly saving an extra 1% seems like a really good idea.”
He adds; “Employees need financial education early on in their careers so they understand the value in starting to save for retirement well in advance and the huge difference it can make to the amount of income after leaving work. As part of an overall wellbeing strategy, many companies are seeing the benefit of sourcing specialist providers to help with this. There are also online platforms available such as our Financial Healthcheck – this can help employees build their knowledge throughout their career on a range of financial matters, such as understanding their savings options including their pensions, and the huge impact their contributions will make in the long run.”