Many people think membership of a pension scheme will guarantee them an adequate income in retirement, but this is rarely the case. Even with the State’s auto-enrolment scheme, low contribution rates mean that pensions may ultimately not be adequate to meet people’s needs after they leave the workplace.
Pensions take-up is historically very low, says Brian Kingston, senior financial planning manager in RBC Brewin Dolphin’s Dublin office. “Not enough people have even started them, let alone are contributing enough,” says Kingston, adding that there should be a “huge education piece” around the importance of pensions.
He appreciates, however, that people have competing needs, such as education, bills and mortgages. “There is a lot of kicking the can down the road – a lot of people tend to delay starting one, and even those who have one are unsure about how much is in their pension pot.”
The best way to look at it is to consider what level of income you will require post-retirement, Kingston says. “The traditional retirement age is 65, although the State pension only kicks in at 66. If you wanted an income of €45,000 a year, you would need a pot of about a million euro.” For a 25-year-old, this would necessitate monthly contributions of about €500, but for a 45-year-old, it is €2,000 – four times as much.
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“The best thing is to start it, understand how it works, make your contributions and try to increase them as much as you can,” Kingston advises.
Shane O’Farrell, director of workplace markets, employer solutions at Irish Life, agrees that it isn’t a “one size fits all” situation. “Pension contributions are a direct percentage of salary, so two people on very different salaries may both be paying in 5 per cent but the end result – or the amount of money they finish up with in their fund – will likely be significantly different in pure euro terms.” He also points out that the required income after work will be largely aligned to the income someone has had throughout their working life.
“As a baseline, we recommend that people aim to have at least one third of their salary as an income when they finish working. But for each of us, it really comes down to the kind of life you want to live and how well you’re likely to be set up financially at that stage,” he says, noting it depends on factors such as whether the mortgage will be paid off or if there are other income sources to supplement the pension.
The cliche is a cliche for very good reason – a person starting at age 35 can expect a pension fund about 80 per cent larger than someone starting at age 45. “The earlier you start, the better, and the longer you can save for, the better too,” O’Farrell says.
For those closer to retirement, there may be the – fortunate – issue of too much in the pension pot. While for most people this is not an issue, O’Farrell says, anything above the standard fund threshold (SFT), which is currently €2 million, can be considered to be “too much” because anything in excess of that is subject to a penal excess tax regime.
Kingston agrees. “Being worried about getting too close to the threshold is a nice conversation to be having with people,” he says. “If you are lucky enough to have a pension pot of €2 million, the effective tax rate on anything above the threshold is effectively 59 per cent, so you have to be very careful if you are in the great position of having that threshold problem and how you manage drawdown.”
After years of consistent reduction, the Government has recently decided to increase the SFT quite significantly in the short term, with four annual phased increases of €200,000 resulting in a new limit of €2.8 million which will likely be in place from January 2029. “Anybody who was previously caught by the limit should speak to an adviser about further opportunities they may have,” O’Farrell says.
“This is a positive change and anyone nearing retirement who is likely to be impacted should get advice to understand the new headroom and ensure they navigate the intricacies as best they can, paying particular attention to the timing of their retirement and the impact of any benefits they may already have taken.”