Why invest into a pension?

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Thomas Johnson | 15th October 2020

Why invest into a pension?

A lot of people ask me, why should I pay into pension when I won’t be retiring for another 20, 30 and sometimes 40 years’ time?  The answer is simple, tax relief on any contributions made and compound growth over time.

I recently sat down with one of my clients who we set up a pension for back in 2015, he was 30 at the time and had not paid into a pension before. He agreed to contribute £380 a month into his pension from his surplus income.  As he is a basic rate tax payer, he receives 20% tax relief on any pension contribution he makes, (if he was a higher rate tax payer he would receive a further 20%).  Therefore, for every £380 a month he contributes, HMRC adds a further £95 to his pension (automatically) each month, giving him a total gross contribution into pension of £475 per month.

Fast forward 5 years, and he has contributed a total of £22,800 personally, received £5,700 from HMRC and through investing within an actively managed portfolio which has outperformed the benchmark each year since inception, his total pension pot value after just 5 years is £42,907.08.

Given he is still only 35, if he were to continue contributing £380 personally per month into his pension until his selected retirement date of 65, it can be expected his pension could be worth somewhere in the region of £677,981 at retirement (based upon an average compound growth figure of 5.87% per annum achieved).  It is interesting to note, the benchmark Investment Association Mixed Investment (40-85%) Shares achieved an annual growth of 3.13%, which if continued to age 65 would equate to £385,129.

Past performance is no guarantee for future returns

The results

Given he will have invested a total of £159,600 personally from the ages of 30-65, he will have achieved a total of £518,381 in government tax relief and investment growth, resulting in a total pension pot at 65 of £677,981, which could generate a sustainable income in retirement of circa £30,000 per annum. Given he will also receive the full state pension from 67, he could look to generate a sustainable income in retirement of around £38,000 per annum from age 67.

The below graph illustrates the result in more detail (tap the graph to view in more detail).

By investing within a pension as early as possible, it allows your monthly premiums to gain tax relief, and the funds are invested for longer.  By having your funds invested for longer, they have longer to grow, which when you consider you may not access your pension savings for 20-40 years’ time, the results of compound growth over such a long time, can and will grow your pension savings exponentially.

If you would like to have a complimentary chat about how we manage investments and pensions, or if you would like to talk about creating a retirement plan for you and your family, please contact us directly at enquiries@simpson-woodfs.co.uk or via telephone on 01484 534431.