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Why Bother To Have Private Retirement Plans?

Richard Beardsworth Pension Expert

By Richard Beardsworth.

Independent Financial Advisor

More Reading on Personal Pensions...

The politicians have been looking at ways to increase government revenue ever since the financial crisis hit. Some have even gone as far as to suggest that workers should forget about investing in private retirement plans to fully enjoy their incomes now, further suggesting that the future will take care of itself. It is clear that such propositions are intended to shift tax revenues from future pension income to current salary by encouraging workers not to save. However, is that really such a wise strategy? More importantly, why bother to have private retirement plans to begin with?

Workers of all ages not planning for retirement find themselves wondering whether it is worth establishing retirement plans considering their current circumstances. We aim to answer that question in this guide. First and foremost, you should begin working on establishing private retirement plans if you have not already done so. We will explain why as we go through this guide.

The starting point for our explanation is the state pension. It is a mistake to think of the state pension as a primary source of retirement income given how much it is likely to pay as compared to how much your monthly bills are. In simple terms, the state pension will not be enough for most people to live on. Additionally, new problems have arisen as a result of reforming the state pension system.

The New State Pension

The new state pension is set to be active from April 2016. When it becomes official, there will no longer be the old system consisting of the state pension and state second pension that we have known for decades. This will create a conundrum for workers who have been relying on the old system but will be subject to the new system when retiring sometime after April 2016.

The new state pension is a flat, single-tear pension system designed to be more equitable than the old system. The old system was far too complex to make it applicable to all retired workers regardless of age, sex, and contribution history. The new system is remarkably simple by comparison. Furthermore, it should turn out to be much more equitable in the long term. Nevertheless, in the short term, there are people who will suffer during the transition.

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Here is what you need to know about the new state pension:

  • Flat Rate Income – Once a pensioner's monthly payments are calculated by the government, they will not be increased except to account for rising inflation. What you get at retirement is what you will get for the rest of your life, indexed to the cost-of-living.
  • State Pension Age – The government intends to save money on state pensions by raising the state pension age. The increase will be gradual, eventually settling in at 67 for both men and women by 2028. Today's youngest workers will have to work longer than ever to enjoy full state pension benefits.
  • Pension Age Reviews – Legislation relating to pension reform allows for five-yearly reviews of the state pension age. Expect those reviews to potentially result in an even higher state pension age in the future.

One other thing you need to know is that your state pension will be frozen should you decide to retire overseas. If you were receiving £120 per week when you arrived in your new home country, you would receive that same amount in perpetuity. Your payments would not rise to keep up with inflation.

It should be clear that the state pension is a supplemental retirement tool rather than a primary source of income. This is the main impetus for establishing your own private pension plans. Depending on the state to support you in retirement amounts to asking to run out of money before you die.

Benefits of Private Retirement Plans

The nature of the state pension should be reason enough to convince workers to establish private retirement plans. However, if not, then there are additional benefits to retirement planning that make doing so worthwhile. For example, consider some of the benefits of pension investing.

First, pensions are considered relatively safe investments due to the way money is invested on behalf of members. The average pension fund is not out engaging in highly risky transactions that would unduly jeopardise solvency. They stick with opportunities, such as mutual funds, that provide a decent return relative to risk. In simple terms, you are unlikely to go broke by investing in a pension. You may not become independently wealthy, but the odds are your pension plan will provide sufficient retirement income if you have employed a wise planning strategy.

Another benefit of pension investing is found in tax relief. There are two aspects of tax relief to consider here:

  • Government Contributions – When you contribute to an occupational pension your pot also receives contributions from your employer and the government. The government contributions come by way of tax relief. Money that you would have paid in income taxes is put into your pension pot instead.
  • Delayed Income Taxes – You should also know that all contributions made to your occupational pension are made with pre-tax pounds. If you were to contribute £2,000 annually, that amount of money would not be subject to income tax in the year you earned it. You will still pay income tax on it, but not until you retire.

Investing in an occupational or personal pension even allows you to provide for your loved ones at the time of your passing. Any funds left in your pension pot can be passed on to a spouse or children with minimal tax liabilities involved. Combined with a good life insurance policy, the pension is an excellent tool for making sure your family is cared for at the time of your death.

Lastly, one of the most attractive benefits of private retirement plans is not having to worry about income once you retire. This benefit may seem difficult to grasp while you are still working, but any pensioner can tell you how wonderful it is not to have to worry about income during retirement. Having sufficient income allows one to relax and enjoy the most important things in life.

Other Kinds of Investment Opportunities

We have focused primarily on pensions thus far. However, the pension is not the only means to establish private retirement plans. You can combine a pension with other kinds of investments or leave off the pension altogether. It is entirely up to you. Some of your other investment opportunities include:

  • Property – Buy-to-let property has emerged as a very strong asset class over the last two decades. Greater numbers of future pensioners are using a portion of their pots, under pension reform, to invest in one or two properties. Those properties could return a substantial amount of retirement income in the future.
  • Equity Investments – Of course, equity investments are still very strong contenders for private retirement plans. Equity investments include things such as stocks, shares, and other similar securities sold on the various exchanges.
  • Peer-to-Peer – Another emerging investment opportunity is known as peer-to-peer lending. This investment involves pooling your money with a group of others willing to act as a bank to loan to businesses preferring not to deal with traditional loans.
  • Commodities – The commodities and precious metals markets are used by some higher net-worth individuals as retirement vehicles. Although attractive, you have to have quite a bit of money to get started.
  • Savings and Bonds – Lastly, some people are hoping to supplement their retirement through the establishment of savings accounts and bonds. These kinds of investments are among the safest on the market. Nevertheless, they also offer the lowest returns. It would be almost impossible to provide the bulk of your retirement income relying solely on these kinds of low return products.

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Hopefully, this guide has helped you to see the importance of establishing private retirement plans. It is not wise to rely on the state pension or hope you win the lottery in order have enough income in retirement. As they say, failing to plan is planning to fail. Do not put yourself or your family in jeopardy by not establishing your own retirement plan. Sit down with a financial advisor now and get something going for your future.

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