Low-cost flexible alternative to a pension

EdInvestor · 16 April 2006 at 2:01PM

Here's an idea for anyone who wants to save for retirement, has no employer contributing to a company scheme, and doesn't like the inflexibility of pensions.

The I-plan from Squaregain

This plan takes advantage of the new range of index tracker funds called "Exchange traded funds",which are traded on the stockmarket like a share.

They have very low charges - between 0.3 and 0.5% - and now cover a lot of different exchanges, as well as the FTSE100 and All share so you can get wide foreign exposure. There are also income based trackers now, both equity and corporate bond, so you can also reduce the risk of investing in standard trackers.

The I-plan involves opening an ISA with Squaregain (cost:25 pounds a year). You pay in your money monthly from your bank account ( or in a lump sum if you like, up to the annual 7k ISA limit).There is no annual fee, no stamp duty and no commission on purchase or sale of the ETFs.

So how would it compare with a pension?

Let's say you paid in 200 pounds a month for 35 years from aged 30 into a standard stakeholder and an Iplan and both grew at 7%.

The I plan would provide a return of 6.6% after charges of 0.4%. At 65 your fund would be worth 314,946. This fund is all yours - you can take the capital and the income out any time, tax free.

A pension receives tax relief, so your contribution would be grossed up to 256 pounds a month.But basic stakeholder charges are 1.5%. After 35 years with a return of 5.5% after deducting charges, your fund would be worth 317,072.

Very slightly higher than the I-plan.

BUT - and it's a very BIG but -

You can only get 25% of the capital out of the pension tax free.The rest you can't get out at all.It has to stay in the pension and provide you with an income until you die.

And this income is taxed.

Chrismaths · 16 April 2006 at 3:23PM

Ed, if you are going to compare things, you have to compare like with like. You've compared a tracker to an actively managed fund, and assumed that they will have the same underlying performance. The reason you pay for an actively managed fund is so that they will beat the market on a risk-adjusted basis. All who load of b****cks is talked about active managers not beating indices - not all active managers are equal! Some are good, and are worth their money (compare the result of a low cost FTSE tracker since 2001 with a decent fund manager - I won't mention names as that would constitute a recommendation, and the FSA would be on my bottom pretty quickly), some are bad, and a lot are in the middle (closet index trakers). Index investing is rubbish, as they are weighted on market capitalisation. So if you invest in the FTSE 100 today, you get over 20% in two stocks in the same sector!!, and over 40% in two sectors. That is not low risk. The majority of most decent fund managers over the past year or two have had much less than this in these sectors, in order to control risk, however most of the performance over that period has come from those 2 stocks, and yet most of them have managed to keep pace (more or less) with the index, whilst taking less risk! Charges are ONE factor in deciding on an investment - the true metric by which to judge investment is risk-adjusted performance after charges. A focus on only one factor of the three is not a great idea.

Sure, ISAs are alternatives to pensions - this has been covered in depth elsewhere, and in fact is the road that the wife and I are going down. But that is because of our personal circumstances.

BTW, another thing to take into account with ETFs is that you don't pay stamp duty. They are great products, but they are not the be-all and end-all - they are one tool to use in your portfolio. I personally use them where I can't find an active manager who I think can add value, and to take advantage of short-term trading opportunities.

cheerfulcat · 16 April 2006 at 3:25PM

EdInvestor wrote:

There is no annual fee, no stamp duty and no commission on purchase or sale of the ETFs.

There is commission payable on sales.

dunstonh · 16 April 2006 at 4:04PM

You got the charges wrong on the stakeholder. You can still easily get 1% amc with a stakeholder and with fund based discounts it could be better. Given the term you have mentioned, you can get some personal pensions with an amc around 0.6% p.a. So, in effect, you have given the pension 0.9% less performance than it should have.

You also havent considered the impact of pension contributions on working/childrens tax credits. Whilst it is hard to work out the exact amount extra you benefit by and that not everyone would benefit, it still needs to be considered.

Using REAL pension plans, your figures of £200pm net, a stakeholder pension would be £376,000, not £317,000 as you say. A personal pension could bring that through £400,000 with the right provider.

EdInvestor · 16 April 2006 at 4:59PM

Chrismaths wrote:

Ed, if you are going to compare things, you have to compare like with like. You've compared a tracker to an actively managed fund, and assumed that they will have the same underlying performance.

No I haven't. I've compared a stakeholder pension invested in a tracker with an ISA plan invested in an ETF (which is the same as a tracker). Plenty of people invest pensions in trackers.

I agree with you on the risks in ordinary FTSE trackers which is why I mentioned the existence of the new divi ETF and the corporate bond one.You can now choose a selection of trackers which makes risk adjustment much easier.

BTW, another thing to take into account with ETFs is that you don't pay stamp duty.

Yes I mentioned that, but CC is right, you do pay commission on sales.But since you're not selling, you're just buying, this is not really relevant.

DH

I'm sure you're right that the canny investor can negotiate fees under 1% for a pension.But this idea is aimed at the non-canny newbie starting out, who thinks a stakeholder at 1.5% is cheap.

He will be certain to get sold the fully priced product.

dunstonh · 16 April 2006 at 9:13PM

I'm sure you're right that the canny investor can negotiate fees under 1% for a pension.But this idea is aimed at the non-canny newbie starting out, who thinks a stakeholder at 1.5% is cheap.

He will be certain to get sold the fully priced product.

Even at 1.5% full cost, that is charged for only 10 years of the contract and not the full term.

Chrismaths · 16 April 2006 at 10:26PM

Ed - take those points back - sorry, I should have read the original post more closely. :embarasse

There are actually even cheaper trackers out there than ETFs - I've seen one that charges 0.1% pa. But it's still a cr*ppy tracker....

EdInvestor · 17 April 2006 at 10:04AM

dunstonh wrote:

Even at 1.5% full cost, that is charged for only 10 years of the contract and not the full term.

This would improve matters a bit, increasing the pension fund value to 348,746. [The fund would have accumulated to 40,722 after 10 years].But the pension fund would still be the loser net of tax,quite apart from the capital access question.

The problem with the extra charges is that they effectively cancel out the value of the tax relief for the basic rate taxpayer, a mere 1% will do it.:(

Those on higher rate tax still do OK because they get the extra 18% rebated cash in hand from the Revenue ( so effectively they can accumulate a free ISA on the side, lucky HRTs.)

But for BRTs with no company contribution, it's really hard to see why they should bother with a pension - which may be why Gordon Brown has rejigged the incentive so that the ISA is the one that should now be maxed out first.

THe BRT can then wait until be s/he becomes an HRT and then reconsider the position, without losing out in the meantime.

EdInvestor · 17 April 2006 at 10:24AM

Chrismaths wrote:

There are actually even cheaper trackers out there than ETFs - I've seen one that charges 0.1% pa. But it's still a cr*ppy tracker....

Have you seen the new FTSE divi tracker Chris? Seems to me that this one helps to get rid of the risk problem of the standard tracker caused by the weighting. Half each into an Allshare ETF and the divi ETF would considerably broaden the range of share exposure.

It would also give a big boost to the yield

One of the problems with UT trackers, is that many of them are not as cheap as they seem. Fund expenses are taken off the dividend yield of the fund, and in many cases the yield is very low, indicating the provider is charging more than 2%, definitely not cheap!

Check yields on trackers here

The yield figures aren't available for pension funds but I imagine they're much the same.At least with the ETF, WYSIWYG because the divi plops into your I-plan cash account at regular intervals - reinvesting it is free.

Low-cost flexible alternative to a pension

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