Saving too much in a pension

Fatbritabroad

More a discussion point than advice really. Talking to an ifa at work ( I work for an insurance and financial services broker) her view was it's not worth saving more than about 500k to 600k in a pension as this will give you just about enough that you can draw an income and stay under the tax threshold . Then it's better to build up further savings in an isa ( appreciate most people can only dream of a pension pot that big !). Also this is more flexible if you want to retire early and tax free on withdrawals

I did read a really good article that brought this home to me. It basically said pensions were a tax deferment mechanism whereas isas were taxed up front ( as you pay into them out of net income) but tax free at the end so the above makes alot of sense . This got me thinking . Am I saving too much for the long term in the wrong place?

To explain my position I'm 36 and a higher rate tax payer though only for last 4 years where I've been very fortunate and had a huge increase in earnings) I've always paid a reasonably high % into my pension as I've always seen this as the best long tern savings especially now I'm higher rate as I always take steps to mimimise tax where I can ( 16% inc. 4% EC) and assuming they don't scrap the tax free cash then this makes sense to me. I have just hit my first financial goal as I have a 100k stashed in my pension. About 1000 gross goes in a month into this. I have about 15-16k in cash and I've started a s and s isa about 3 years ago which has about 19k in it in tracker funds which I pay 300 a month into. No debts other than a large mortgage which I'm trying to make smaller! Over pay 200 a month on this. And save about 200-400 a month in cash savings for short term things like holidays cars etc.

On even fairly modest projections I could have a pension pot of 1m by the time I'm 69 so my question is would you save less in pension and more in isa at this point? . I'm fairly disciplined so not worried about blowing it if I can get access to it. Appreciate it's odd to save more in a pension than short term but like I say I was keen to minimise tax and have always saved a % of pay rises so don't feel like I need this money other than to invest. What do people think?

bowlhead99

Yes, pensions are a tax deferment mechanism with the obvious advantage that you can pay lower rate tax in retirement (at your marginal rate then) than you would pay by paying the tax now (at your marginal rate now)

If your marginal rate is 40% even after your existing pension contributions then there is money to be saved, as even with a £1m pension pot in today's money, you could take out £250k as a tax free lump sum, then of the remaining £750k even if you were drawing a high rate of 5% a year to deplete the pot you would be under 38k of income, so with state pension on top, probably only round about the high rate threshold. The average of the small amount of high rate tax being paid then and the tax free lump sum being paid then would still be lower than high rate tax saved now. So, a net saving, assuming high rate tax is not hiked to something like 60% in future for people on that level of income, which is probably pretty unlikely.

Obviously the benefits of deferring tax (and thus paying lower percentage tax) need to be weighed against the loss of flexibility, because you can't get hold of your pension money until your late 50s, whereas money in an S&S ISA could be spent on upgrading your property or buying all sorts of nice goods or nice services or paying for major life events or having the ability to tell your boss to F off.

I have been on a 40% or even 60% marginal rate before and not maxed out pension contributions because of wanting to have cash or other assets outside the pension wrapper to accommodate other life goals and uncertainties.

Fatbritabroad

Yes I understand . I can't see me wanting to retire before 55-60 really and other than a new kitchen ( which I want to get next year as I get a bonus then) and some nice holidays until I have kids in a few years there isnt really anything I want that I can't buy out of my income at present. The other thing I thought is when I do have kids I'll almost certainly need more short term cash so will reduce pension contributions so wanted a head start while I could afford to put more away
I'm in my 'forever home' so won't want to move so no other life goals other than to make a bigger dent in my mortgage which is large following divorce

Linton

I agree with the IFA and would suggest you put a lot more into S&S ISAs, at the expense of the pension if need be. The extra flexibility could well be more valuable to you than the 25% tax free. Plus having a large S&S ISA pot can give you significant ongoing income completely tax free.

The problem I see with Bowlhead's 5% drawdown example is that, from cfiresim simulation, 5% of initial pot size, inflation adjusted, in most cases leaves you with more money in your pension pot after 30 years than you started with. If you were seriously concerned about inheritance for the kids then this could be fine. However if your circumstances are that on death any wealth remaining is from your point of view totally lost it doesnt look such a good idea. How much better, at least psychologically, it would have been if you could have drawn down excess money in the good times without the annoyance of 40% tax.

One point in the OPs figures which does concern me is the amount of cash saving which seems very low - is there also a cash emergency fund of say 6 months living expenses which is replenished if need be?

Linton

Fatbritabroad wrote: »

Yes I understand . I can't see me wanting to retire before 55-60 really .......

Probably not now, but in 15 years time you may find your feelings and circumstances are rather different. Flexibility is very important.

Fatbritabroad

Yes it's 6 months money about 2.500 a month to cover essentials. My girlfriend also has about 4k in savings as well.I am building it back up at present as I've had an expensive year last year redoing house etc. I'm also due a 22k net bonus in jan next year which will provide a big cash boost so I've got enough to last till then. I'm going to aim to get it back up to around 20k over thr next 12 months

Fatbritabroad

So linton you'd build up further cash savings in addition to the 15k? Rather than investing? I thought at my age it's better to have more jn the stock market than cash. Like I say I am due a cash boost next jan which is guaranteed not performance related hence why I've slowed the cash to reduce. I'm also doing a saye and share purchase plan at work as the app is tax efficient ( 80 gross wages taken for 150 shares.tax free if I hold for 5 years or more). Just started these and can get hold of need be .

jimmyjones_2

I am in a similar position to Fatbritabroad with approximately the same age, pension pot and level of contribution.

I had never considered that I could be over contributing. The HL pension calculator predicts that I will get £28k per annum plus the 25% tax free lump sum so nowhere near the higher rate tax bracket.

Fatbritabroad, where do you get your £1m figure from?

Linton

Fatbritabroad wrote: »

So linton you'd build up further cash savings in addition to the 15k? Rather than investing? I thought at my age it's better to have more jn the stock market than cash. Like I say I am due a cash boost next jan which is guaranteed not performance related hence why I've slowed the cash to reduce. I'm also doing a saye and share purchase plan at work as the app is tax efficient ( 80 gross wages taken for 150 shares.tax free if I hold for 5 years or more). Just started these and can get hold of need be .

If you already have £15K in easily accessible cash, then that could be sufficient. However if you are planning major expenditures in the next 5 years maybe a bit more would be sensible. The last thing you want to have to do is to sell long term investments to cover short term expenses, so you need sufficient cash to ensure that this doesnt happen even if, for example, you lost your job.

Fatbritabroad

Aegon pension future plan value and unlike some it uses a median growth of something like 1.45% so not excessively optimistic. ( meaning the lower forecast you get less than you put in)

Fatbritabroad

I cant get on the website till tonight as its down for maintenance so can't give you exact figures but they give you a higher median and lower forecast and like I say the median is something like 1 or 2% annualised returns which isnt too overly optimistic I'd say. My company also increase in another year or two to 5% contribution. 28k seems low to me for yours. Putting jn 12k a year for another 35 years ( as my pension age is technically 69) would give me 500k without any growth at all!
Realistically like say once I start a family I don't think I'll be able to maintain tge contributions at that level anyway as I'll need more in the short term