Is a pension worth investing in nowif you're going to be earning a lot more later?

jamesd

ollieg90 wrote: »

I'm 22 and starting in a profession with good prospects. My firm has an up to 10% contributory salary sacrifice pension scheme available as part of my benefits package. ... while at the moment I'm a basic tax tax payer, after training and professional qualification in about 5 years time I'll be well over the higher rate tax amount. Given salary prospects in my industry it's likely that I'll be paying the additional tax by the time I'm 40.

ollieg90 wrote: »

my employers run a benefit credits system, so while I could have up to 10% contributions, that would be in return for sacrificing other benefits such as health insurance, commute subsidies etc. So it's not 'free' in that sense.

Easy part first. The optimal income to be making pension contributions from is income taxed at 40% or 50% tax rate because you get that amount of tax relief. For many people that will mean 40% or 50% tax relief then 20% tax to pay in retirement and this is likely to apply to quite a lot of the income of even a high earner in retirement since it goes up to roughly £40,000 of total income. In a salary sacrifice arrangement the employer 13.8% NI component can help, employee NI is just 2% in the higher rate range and not as significant. Still, if the employer is giving the employee the benefit of all of the employer NI saving, at 40% tax rate the total tax relief is 40% + 2% + 13.8% = 55.8%.

For basic rate pay it depends in part on what happens to the employer NI component. If it's all added to the pension contribution the total tax relief for salary sacrifice is 20% + 12% + 13.8% = 45.8%. So that's more than the total tax relief a higher rate person outside a salary sacrifice scheme would get and stays very attractive for basic rate money. But many employers retain part of the employer NI for themselves, even all of it, and that can reduce the benefit for basic rate money.

So one easy way to decide part of the problem is to ask what the employer does with the employer NI. If it's all provided to the employee in pension contributions that makes a very favourable situation for pension contributions at any tax rate from 20% up. This is a harder choice without salary sacrifice, where the benefit at basic rate is much lower.

However, you don't have a pure income now or later choice. If you can't take the cash value of the benefits you have a choice of benefit question instead and you get to pick which you value most. At a relatively young age like yours, the effective value of something like a commuting subsidy is much higher than a pension because it's money value now when you're at your most financially stressed time. Health insurance probably has a relatively low value when young because you're likely to be healthy. Permanent health insurance that pays an income if you can't work until you reach state pension age should have a fairly high value now because it would pay out for a long time and you'd be living with the consequences of a greatly reduced income for that same long time. Critical illness insurance probably lower value because younger people are less likely to be affected and life assurance probably completely unnecessary.

So for a benefits package that leads me to think that priority for the money should be maximum needed commute subsidy, PHI, pension at the moment.

ollieg90 wrote: »

Ok, thank you for that. I think a pretty clear consensus has formed around starting as early as possible, even if it is a smaller amount. I quite like the idea of it being just another bill, hadn't really thought of it that way.

It's a bill but also a choice. You expect a rapidly rising income. What do you want to have happen to your spending level? Do you want to try to keep it fairly level? If so, you should keep pension contributions down for the moment and concentrate on spending, which can be on things like a property that also provide long term value and long term cost savings compared to renting.

Given your high potential future income your best course is probably commute, PHI, pension for benefits you can't switch to cash. If you can switch to cash, go for commute, PHI (because you can't afford to replace this with income at a young age) and cash instead.

You then have a choice about what to do with the "spending". That can be saving for property deposit to buy you a higher standard of living at an earlier age. It can be for investments outside a pension to help you retire before you can take pension income at a high enough rate - pension income/withdrawing rates have a cap, ISA withdrawing rates don't. So retiring before you can take pension benefits, currently 55, implies accumulating lots of money outside a pension. Basic rate income is a good way to do that.

If your employer will match your pension contributions up to a certain level, take that match. An immediate 100%+ return is hard to beat.

For normal life choices for a person doing long term planning this means take employer matches, take commuting benefit, take PHI, take any pension benefit you can't take as cash as pension and accumulate a property deposit as fast as possible, living in lower cost accommodation, as low as you can handle, until you get that deposit together - because now is probably when you're most tolerant of lower grade accommodation and there's a significant leverage benefit from reducing rent payments to get a deposit accumulated faster. Once the property is purchased, switch to S&S ISA investing with basic rate money at whatever rate you're comfortable with to build up an early retirement and contingency pot that you can draw on as rapidly as you require. As higher rate income starts, put that towards pension and if you exceed the ISA limit consider pension or non-pension investing if you have more cash available.

atush

dunstonh wrote: »

I like threads like this. People with different views, considering options and discussing pros and cons and all being very nice about it.

In reality, there is no 100% perfect answer here. The early start with lower but building contributions or the late start going hell for leather after mortgage cleared still result in provision being made. At the end of the day, you know your personality better than anyone else and as long as you can see the pros and cons of each method and decide for yourself what is right for you AND STICK WITH IT, then that is good.

Very True.

All I can say is that we bought a house, raised 3 kids, and had pensions as well as savings. It can be done with balance and some small sacrifices. Most were done at the same time (ie pension and buying a house were somewhat simultaneous but started the pensions first).