Could your retirement income be below minimum wage?

10th October 2018

The number of people saving into a Workplace Pension has reached a record high. But far from providing a comfortable retirement income, those making minimum contributions could face an unexpected shortfall when the time comes to giving up work.

Pensioners could have less than minimum wage to live on, despite making monthly pension contributions, according to Aviva.

Alistair McQueen, Head of Savings and Retirement at Aviva, said: “Millions of people are sleepwalking towards less than minimum wage at retirement.

“To their credit, millions of employees have embraced auto-enrolment since 2012, in the belief that it will deliver them a comfortable retirement. But based on the current system and today’s data, they’re in for a shock, with many currently on the road to living on less than minimum wage.”

More than 7.7 million people are now paying into their Workplace Pension; compared to just one million in 2012. The statistic indicates that auto-enrolment is a success. However, the minimum contribution levels could mean that many retirees won’t receive the level of income they’re expecting.

The minimum contribution to a Workplace Pension is currently set at 3% for employees and 2% for employers; rising to 5% and 3% respectively in April 2019.

A typical 22-year-old paying into a Workplace Pension would be on track to receive a retirement income equivalent to £6.55 per hour, according to Aviva. It’s an amount that’s significantly below the National Minimum Wage of £7.38.

Working 37.5 hours a week, an employee on minimum wage would earn £14,391 a year. But many workers are on course to receive just £12,772 annually in retirement when their Workplace Pension and full State Pension are combined.

How much you need in retirement will depend on your lifestyle and aspirations. However, according to Which? the average retired household spends around £26,000 a year. This covers all the essential outgoings and some luxuries, such as European holidays and eating out occasionally.

For those that aren’t supplementing their Workplace Pension, it could mean hardship in retirement.

If you’re worried about your level of income in retirement, there are some steps you can take to grow your projected income.

1. Increase your Workplace Pension contributions

Making higher monthly contributions to your Workplace Pension is one option.

Figures suggest that contribution levels were at a high in 2012; with 9.7% of salary being diverted into a pension. However, the figure is now just 3.4%. Aviva advocates the minimum contribution level being increased even further; reaching at least 12.5% by 2028.

If this is a step you want to take, talk to your employer first. They may be able to help with setting up additional payments on your behalf. You can also contact your pension provider directly to set up further contributions.

You will continue to receive tax relief on pension contributions up to either 100% of your earnings or £40,000 a year, whichever is lower.

Some employers may match or increase their own contributions in line with yours to a certain point; making it an even more attractive option

2. Pay into a Personal Pension

On top of your Workplace Pension, you can also open a Personal Pension. This can give you more flexibility to save in a way that suits you. With multiple pensions, you’re able to take varying levels of risk, for example.

You won’t receive any employer contributions with a Personal Pension. So, it’s almost never the best option to do instead of a Workplace Pension because of this. But it can supplement the money you’re already saving directly from your salary and add to your overall income during retirement.

Contributions to a Personal Pension should also benefit from tax relief.

3. Use salary sacrifice benefits

If your workplace offers salary sacrifice schemes, they’re worth investigating. You’ll give up some of your monthly earnings, with your employer, instead, putting it towards something else, such as your pension.

The key benefit to this option is that the money will be deducted pre-tax. So, you’ll pay less Income Tax and National Insurance.

4. Use an Individual Savings Account (ISA)

An ISA is a tax-efficient way to save with the long term in mind. Each year you can put up to £20,000 into an ISA. You won’t pay any Income Tax on the interest or dividends you receive from an ISA. Any profits you make from investments are also free of Capital Gains Tax.

You have two options when opening an ISA; a Cash ISA or a Stocks and Shares ISA.

A Cash ISA will provide you with interest on your savings. The money held in a Cash ISA is safe, assuming you stay within the limits of the Financial Services Compensation Scheme. However, with low interest rates, it is possible that the value of your money will decrease in real terms. A Stocks and Shares ISA will invest your money. This means you may receive returns that outpace inflation, but you are also at risk of losing your money.

If you’re aged between 18 and 40, the Lifetime ISA is also worth considering. You can still choose between cash and stocks and shares account, but you’ll also benefit from a 25% government bonus. LISA accounts have an annual allowance of £4,000, so paying in the maximum means you’ll receive a £1,000 boost. The drawback here is that you will face a financial penalty if you withdraw the money for purposes other than buying your first home or retirement.

To discuss your current pension forecast and the steps you can take to improve it in the context of your personal situation, please get in touch with us today.