Get on your bike and start a Pension early

By Frances McNally

So….are you too young to start thinking about a pension?

The simple answer is NO!

Although pensions will be the last thing 20 something’s will want to hear about!…. we need to start educating our college graduates about retirement savings and the merits of starting to save early for retirement.

The sooner a pension is started, the less a person will have to save on an annual basis to provide for a worthwhile fund at retirement.

Obviously, you need to look at whether or not you can reasonably afford to save for retirement. Putting pension money aside should be considered an unavoidable outgoing and not a luxury. Unfortunately, the reality is that it should be up there on the list with a mortgage, food and electricity as one of the things people need to realise that they cannot do without.

The good news is that we are all living longer – the average life expectancy for men is 78 and it is 82 for women. The bad news also is that we are all living longer! Retirement ages are gradually being pushed out. For anyone born after 1960, the retirement age will be age 68. Apparently the first person born who will live to age 150 has already been born.

In Ireland, the “Pensioner Support Ratio” which is the ratio of working age people to people aged 65 and over is projected to decrease from approx. 5 to 1 today to approx. 2 to 1 in 2055 according to Eurostat. So the task of financing the growing number of people on state pension will fall to a lower number of workers. This in turn will have an effect on the state pension amounts payable in 30 years’ time and whether it may be means tested or not.

If you have the opportunity to join your employer occupational pension scheme you should join it at the earliest opportunity and enjoy the benefit of the extra contributions your employer will make to your retirement fund. It’s like having a tax-free pay rise, as payments into a pension qualify for tax relief. By not becoming a member, you are essentially passing up this “free” money.

If you are a “20 something” and are just starting out and have no significant drains on your finances other than holidays, paying off a student loan and rent, they should consider putting some money into AVCs (Additional Voluntary Contributions). They will grow a pension pot fast and give a person greater control and independence from pension shocks. As financial commitments grow, the AVCs can always be scaled back if necessary. You should regularly review the contribution amount and change the amount as your life circumstances change. If you get a promotion/pay rise you can increase it, if you have children or are saving for a house deposit you can temporarily reduce it.

If you are in your 20’s or 30’s, chances are you will have at least 40 working years ahead of you – more if the retirement age is extended further as life expectancy grows. This gives you a longer period to deal with the highs and lows of investment markets and look towards investing in more high risk growth funds in the earlier years. Most default funds now have a de risking strategy in place as you approach retirement age to minimise the effect of market shocks as you approach retirement.

If you start your retirement savings earlier, you will receive generous tax relief for longer. You may even receive higher tax relief in the early years before the tax advantages of saving for retirement are reduced by future governments!

There have been numerous surveys over the years to show the financial benefits of regular retirement savings in your 20’s and 30’s compared to the steep contribution required to achieve your desired level of retirement savings if you start saving at age 50 – which is the age most of us start to consider our retirement.

From the graph below you can see that if you start contributions at age 20, the expectation is (using a 10% contribution rate and other certain assumptions) that you could expect a projected pension in current value terms as approx. 30% of current salary. If you wait till age 50 to commence contributions with the same assumptions, this projected pension in current value terms drops to approx. 10% of current salary.

An easier way to describe this maybe would be to compare retirement savings to the Category 3, 14km climb up to the top of Molls Gap in the recent Charity Ring of Kerry 180km cycle on 4 July which some friends in the industry and colleagues in CPAS participated in.

There is no doubt that it is a great achievement when you get to the top of Molls Gap, but it is a steep cycle over a short period of time, and the effort required is significant, very similar to the significant pension contributions required if you only start pension saving at age 50 and have expectations of a worthwhile fund at retirement.

Other cycling events are on the flat and have no time limits. They may have some inclines and descents along the route which would allow for some recovery time over the duration of the cycle. This would be similar to starting your regular retirement savings early and experiencing the cyclical nature of the markets together with the effects of compounding returns over your working years.

Personal circumstances and our ability to save will differ for us all over our lifetimes. Jerry Moriarty of the IAPF recently said that “If a person only saved for their pension for 10 years from 25 to 35, and then left the fund to grow with no additional contribution to age 65, the benefit would be greater at 65 than if they had saved for 30 years from 35 to 65.”

We should all consider which retirement savings cycle we would prefer!