Delaying pension savings may lead to ruin

Workers in their 20s have to start saving to secure a comfortable retirement, writes Laura Slattery

Amid the thumping basslines, sunburn and beer tents of this summer's Oxegen and Electric Picnic music festivals, there will be a sober, unexpected reminder that a hedonistic rock star approach to living for today might not be so cool when we're 65 and pension-less.

Representatives from the Pensions Board will be handing out leaflets at both events as part of its campaign to get young workers to start their pension early in life and give themselves the best chance of getting together an adequate retirement income before it's too late. It is debatable whether gig-goers will actually take in any of the information that they are offered in between setting up their tent and singing along to Arctic Monkeys.

Recent research conducted on behalf of the Pensions Board found that among those who don't contribute to any pension scheme, 21 per cent said they couldn't afford it, 20 per cent said they were too young to do so, and 12 per cent admitted that they just weren't interested in pensions.

However, four out of five people surveyed said that the State old-age pension would not meet their needs in retirement.

The Pensions Board is hoping its annual awareness campaign - which this year takes in outdoor, online, print, radio and TV advertising - will eventually translate into action, with the message seeping in that putting off saving under a pension scheme now could lead to financial ruin later.

Some 900,000 workers - almost half the workforce - are not contributing to either an occupational scheme run by their employer or a personal pension sold by an insurance company.

Among those who do belong to an occupational scheme, it is feared that most people are dramatically overestimating the level of income that it will provide and drastically underestimating the amount of money that they must put into it to get the pension they either consciously or unconsciously expect.

Defined-benefit company schemes, under which employers promise to give staff a pension based on a proportion of their final salary for each year of service, are slowly dying out.

In the private sector, more than half of workers now belong to another type of scheme known as a defined contribution scheme, where their eventual pension will depend on the amount of money that they put in and the investment returns generated by the pension fund manager on the stock market.

Personal pensions such as Personal Retirement Savings Accounts (PRSAs) also work on this principle.

Personal pension holders can use their money to reinvest their funds in an approved retirement fund (ARF) at retirement.

But for members of defined-contribution occupational schemes, the actual pension will also depend on the cost of purchasing annuities at retirement.

Annuities guarantee an income for life in exchange for a lump sum payment. They are the monthly pensions posted by cheque or lodged to a retired person's account once they have handed over all or most of the pension fund that they have built up to a life assurance company. And because women live longer than men, the life assurance company will require them to spread their pension fund over a longer period.

The examples shown in the table above, taken from the Irish Insurance Federation's (IIF) pensions calculator, show the difference in the weekly pension of men and women who contribute the same amount as each other to a defined contribution or personal pension up until they retire at the age of 65.

A man who contributes €600 a month over 40 years will secure a weekly pension of €336, based on current annuity rate estimates, while a woman who puts in the same amount to a pension will end up with a weekly private pension of just €302 a week. The workers will also receive the old-age State pension, which currently pays €193.30 a week, or just over €10,000 a year.

Most people want to take the 25 per cent tax-free lump sum that they are allowed to take on retirement under pensions rules. If they don't take the lump sum, they will be able to secure a highly weekly pension.

If the workers put off starting their pension until the age of 35, their weekly private pensions will be €227 and €204 respectively. The importance of starting a pension early is also clear from the Pensions Board's online pensions calculator. Two-thirds of a salary is a traditional target for retirement income, but the examples show how difficult it is to make this target based on average annuity rates.

Even if someone on a salary of €40,000 starts their pension at the age of 25, when they are likely to be saving to buy property and have other pulls on their income, they would have to contribute €271 a month, or 14 per cent of their income. If they don't start their pension until they are aged 35, workers - or a combination of workers and their employers - would have to contribute 21 per cent of their salaries - or a net €420 after tax relief every month - to get on the right track.

This percentage would be an unfeasible contribution for most ordinary 35-year-olds, many of whom will be repaying a mortgage and coping with childcare expenses.

By the age of 40, the two-thirds target starts to look even more difficult - monthly contributions of €587 would be required - and by the age of 50, the contribution would have to be nearly half of the salary, or €1,287 a month.

Typically, in the case of defined-contribution company schemes, the employee will put in 5 per cent of their salary to the pension and the employer will match that contribution, giving a combined contribution rate of 10 per cent of salary.

However, this is far from adequate to fund even a pension worth half a person's salary.

A 40-year-old with a salary of €60,000 has seen 10 per cent of their salary going into a pension fund over the last 10 years and is now worth €70,000.

But to achieve their desired pension based on a modest 50 per cent of salary, they will need to start contributing a total of 15 per cent. To do this, they will need to up their own contribution using additional voluntary contributions (AVCs).

The Pensions Board's calculator gives consumers an estimate rather than a hard and fast projection of what their pension will be.

It makes certain assumptions, such as that there will be investment returns of 5 per cent per annum and the person's salary will increase by 3 per cent per annum. A spouse's pension on death in retirement is included.

A few minutes spent toying with the Pensions Board's calculator, or the IIF's version, might change the minds of the half of people with a pension who told its researchers that they did not plan to increase their contributions in the next two years.

Curiously, among those without a pension, 11 per cent said they didn't need one, suggesting that they must have investment properties all over Europe or they are actually rock stars, too glamorous and rich on paper to have to bother with boring things like pensions - until illegal music downloading hammers their royalty payments and leaves them penniless in retirement, reliving the days when all income was disposable.