Bill Jamieson: Less-than-gilded pension age

One of Gordon Browns first measures as chancellor was scrapping of pensions dividend tax relief.Picture: Getty

To this fatalistic proverb a third certainty could be added for many: poverty in old age.

A new report from the National Employment Savings Trust (NEST) suggests small changes to spending habits which could help younger workers build up a pension lump sum worth thousands of pounds.

It’s all true. It’s as a true as it’s ever been. But the sad fact is that these admonitions are likely to go unheeded by most. For just as the likelihood of pensioner poverty has increased, so, too has the amount people need to save to secure anything like an adequate pension. In fact, it’s never been more daunting.

Since the 1940s, despite huge improvements in real after inflation wages and living standards, people have saving less and spending more. The result is that those set to retire some 20 years from now are likely to find themselves poorer than generations before.

Indeed, 2035 is set to mark a tipping point. Says Tony Stenning, managing director of UK retail at fund management giant BlackRock: “Every generation since the 1940s has spent more and saved less and that will not end well. If no action is taken, the baby boomers will be the last generation that will enjoy financial security, particularly in retirement.”

He calculates that those in their 40s were likely to retire with pensions one third lower than people currently in their 50s or older.

Why have we gone backwards in pension provision? Stenning cites the dramatic decline in defined benefit (DB) pensions, which pay out a set income each year as a multiple of years worked and proportion of final salary, in favour of defined contributions (DC) pensions dependent on stock market performance.

Others point to the public distrust that has set in over the long-term savings products. Either the government changes the rules – as Gordon Brown did with the scrapping of dividend tax relief – or pension providers themselves have broken the rules – witness the pension mis-selling scandal of the 1990s. The Equitable Life debacle dealt a blow to confidence. And it didn’t help that last year NEST fell victim to a major fraud. Fortunately, no savers’ money was at risk.

But it is the sheer scale of the amount of pension saving now required to cover us through longer life expectancy that millions of households are discouraged in the attempt.

The Pensions Commission definition of a “comfortable retirement” is two-thirds of salary, meaning a person on the average salary of £26,000 will need £17,000 a year to be comfortable.

Of that £17,000, the state pension will cover £7,700. So savers would need to find £9,300 a year. Even on the best annuity rate available, you would need to save £200,000 to provide that. But the average pension pot is just £40,000.

To get anywhere near this target, says Adrian Boulding, Legal & General pensions strategy director, workers need to save 8 per cent of their salary from age 22 or risk working for longer because they cannot afford to retire.

While low earners are at risk of having little in the way of pension savings they are more likely to hit their replacement rate with the state pension and it is the middle earners who will struggle to reach theirs.

For those starting out in work or who are struggling with a mortgage and young family, it all looks impossible. But there is wisdom in the advice from NEST to start early, even if the initial contributions are small.

Small changes to spending habits such as cutting down on smoking, drinking, or eating out could help younger workers build up a lump sum worth thousands of pounds. Combined with other savings such as taking a packed lunch to work and abandoning gym membership to exercise at home could help a 30-year-old build up a £225,000 lump sum for their old age.

Having one fewer pint of beer and one fewer visits to the coffee shop a week would build up £26,600 by retirement age. Abandoning the gym would save £36,100 and resisting take-away food in favour of a home-cooked meal once a week would add £12 a week to their retirement fund, or £50,900 by the age of 68.

It calculates that a worker who starts saving at 22 should be able to double the amount of income they receive from a state pension by the time they reach retirement age, even if they only put in the minimum level of contributions to a pension scheme.

We’re all human. But if only half these suggestions are taken up, it would help to fund the early year contributions, with additional savings as we grow older. Better to get started and build a savings habit, even if the initial amount is modest.