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Am I saving enough for retirement?

The Greybeard is exploring post-retirement money in modern Britain.

I am sure we’ve all (at least around these rarefied parts) at some time asked ourselves: “Am I saving enough for retirement?”

For years, it’s been a boringly predictable question that has been used to frighten people into upping the amount that they put into their pensions.

Towards the end of every tax year, for instance, the usual scare-story projections are trotted out by lazy journalists looking to file a feature on SIPPs or Additional Voluntary Contributions.

IFAs – those fine, upstanding members of the community – are also keen advocates of the ‘are you saving enough for retirement’ question.

(You’re not? Well, they have just the product for you.)

Most Monevator readers, I’d guess, will have long since learned to switch off when they see the words. Broadly speaking, we will have decided years ago what level of saving was appropriate for our circumstances, and proceeded accordingly.

The savings vehicle of choice might have differed – one man’s SIPP is another woman’s ISA, and all that – but there would be no denying the commitment to serious saving and investing.

Miserly returns

Up until recently, I’d have put myself very firmly in that camp, too.

Now, I’m not so sure.

Take a look at the UK’s latest historic equity returns, as published in the prestigious Barclays Equity Gilt Study 2016, released in March.

Continuously published since 1956, the Barclays study tracks the real (after inflation) returns on cash, equities, and bonds, all the way back to 1899.

Here are the real returns (% per annum) for UK equities, gilts, and cash:

2015 10 years 20 years 50 years 116 years
Equities (shares) -0.1 2.3 3.7 5.6 5.0
Government bonds (gilts) -0.6 3.0 4.3 2.9 1.3
Cash -0.7 -1.1 0.9 1.4 0.8

Source: Barclays Capital Equity Gilt Study 2016.

No surprises there, perhaps. 2015 was a dud, and real returns from equities over the past ten years were just 2.3% a year. Only over the past 20 and 50 years do we see serious returns being achieved.

The only consolation is that cash and bonds didn’t do much better, either, although gilts have fractionally outperformed equities over ten and 20 years.

So much for the risk premium, Mr Ross Goobey1.

Rear view vision

Now let’s turn the clock back ten years, and look at the 2006 edition of the Barclays Equity Gilt Study.

UK equity real returns (% per annum) as per a decade ago:

2005 10 years 20 years 50 years 106 years
Equities 18.9 5.0 7.4 6.6 5.2

Source: Barclays Capital Equity Gilt Study 2005.

You don’t need to have made a recent visit to Specsavers to see the difference.

Ten years ago, the expectations of equity returns, based on past returns, were very different from those of today – and much, much, higher.

And that, what’s more, was in 2006 – in other words, a time when the UK’s stock markets were well into the post-dotcom ‘lost decade’.

Take the equity returns you’d have been looking at in 2005 as having been accrued over the previous 20 years, for instance: 7.4% a year. Incredibly, that’s twice the return of 3.7% seen in our latest figures.

The past ten years? 5.0% a year in 2005 – just over twice the return seen in the latest figures.

Flawed assumption?

All of which matters – at least to many Monevator readers – because the mid-2000s was when many of us were formulating our retirement plans.

Looking back at my own spreadsheets, for instance, I see that I was pumping £530 a month into various retirement-related investment vehicles, by way of regular monthly savings.

That’s net of any tax relief, and also excludes any end-of-year lump sum investments made for tax purposes.

Small beer to some, perhaps. But, totaling it all up, I was probably putting aside £9,000-£10,000 a year.

Again, small beer to some. But significant enough at the time, and especially so given my own circumstances, with one child still in primary school, and one just started in secondary school.

Save more! Save more!

The point is this: doing those same sort of calculations today, and looking at today’s expected investing returns, those Barclays Equity Gilt Study figures suggest that I would need to be putting aside considerably more.

And I’m not at all sure that would be possible, for someone at a similar stage of life, and with similar financial circumstances.

Heck, even though I’m in the fortunate position of being able to invest considerably more these days, it’s still a pinch at times – even though one child has left home, and the other is at university.

What to make of it all?

For me, the bottom line is that even though I was aware – on an intellectual level – that returns over the past few years had been lower, I was unprepared for how much lower they appear to have been.

Or that even though 2015 saw the FTSE 100 finally surpass its dotcom peak – some 15 years afterwards – the intervening years were so dismal as to still halve the long-term returns compared to 2006.

Am I saving enough for retirement? Possibly so. Just.

But I bet many others aren’t, even though they thought that they were.

Note: You might want read all Greybeard’s previous posts about deaccumulation and retirement.

  1. George Ross Goobey was the fund manager who in the late 1940s and 1950s famously persuaded pension funds to invest in equities, not just gilts. []

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{ 59 comments… add one }
  • 51 The Greybeard July 31, 2016, 8:17 am

    Hello Brian.

    You’ll see that I have explained above how the study estimates cash returns. It’s not the best savings account in the world, to be sure. Nor is it necessarily where you’d put large cash amounts, eg tens of thousands.

    Just to be clear, then, let me stress (as the the article says) that these are real returns, ie adjusted for inflation.

    So you’re consistently getting 5% real returns, then? In other words, about 6.6% nominal, using the June 2016 RPI figures?

    As an investor with some cash to invest myself, I’d like to know where you obtain these returns. Perhaps you could share?

  • 52 JonWB July 31, 2016, 10:55 am

    @Teddy

    From the other thread (ISA vs SIPP) I see you are a member of USS.

    Employee NI is dependent on taxable gross salary and for you, there are 3 bands:

    £0-£8,060 = 0%
    £8,060 – £43,000 = 12%
    £43,000 + = 2%

    (see: https://www.gov.uk/guidance/rates-and-thresholds-for-employers-2016-to-2017)

    It sounds like you are on at least a mix of 0% NI and 12% NI, the question is if you are on 2% NI as you earn more than £43,000 (you’ve already confirmed you earn less than the £55K salary cap). Plus, for you, it will be £43,000 of gross taxable pay in the 206/17 tax year AFTER the 8% deduction via salary sacrfice for the Defined Benefit section of USS.

    When you salary sacrifice, you save both Income Tax and Employee NI, since the employer contributes directly to the pension and you reduce your gross salary.

    None of this matters for the salary sacrifice for the Defined Benefit portion of your pension, since the tax relief obtained makes no difference to you, you get a defined benefit based on pensionable salary (up to the £55K cap).

    Where it most definitely does matter is in the Defined Contribution scheme (USS Investment Builder).

    Whilst saving 12% Employee NI sounds better than 2% Employee NI, you are only getting 20% Income Tax relief if paying 12% Employee NI, since you only pay 20% income tax below £43,000. From your persepctive it really is 42% or 32% tax relief via salary sacrifice, depending on whether the money is being sacrified above or below £43,000 (and remember this is gross salary level AFTER the 8% deduction for the defined benefit portion of USS).

    Any contributions to another SIPP provider are highly likely to have to be made as a personal pension contribution (unless your employer confirms they are happy to make direct employer contributions to it via salary sacrifice). For personal contributions, you get income tax relief only and if you pay 40% income tax, you get 20% tax relief in the pension, then you usually fill in a tax return to get the additional 20% as a rebate against income tax you have already paid. So, the loss (or leakage in tax) in being denied salary sacrifice, is either 12% or 2% Employee NI, depending on whether you are above or below the £43,000 threshold.

    If your salary sacrifice for USS Investment Builder starts above £43,000 and then takes you below £43,000, then you have a mix of 42% tax relief and 32% tax relief.

    Some points to consider:

    – The 1% employer match can’t really be beaten (in terms of other pensions). You will be getting at least 32% tax relief on your 1% contribution, then a free 1% of gross salary from your employer.
    – I’m pretty sure the fees for the actively managed USS funds (after the subsidy) are cheaper than anyone else can get in a low cost SIPP for passive funds + platforms fees. For example, the USS Emerging Markets Fund has an annual management charge after subsidy of 0.15%.
    – The major downside to USS is that it is restricted to 10 funds, they are actively managed and you have no control over the underlying managers (so you will not get a market return, it will be above or below).
    – USS has said you can take the benefits from USS Investment Builder flexibly, so you should be able to take the 25% tax free lump sum at 55 from USS Investment Builder, but leave the Defined Benefit until State Pension Age (sounds like this is 67 in your case).

  • 53 Teddy July 31, 2016, 12:03 pm

    Thanks JonWB,

    thats really clear and has helped clarify things greatly. There is only one thing, your third point:-

    “– The major downside to USS is that it is restricted to 10 funds, they are actively managed and you have no control over the underlying managers (so you will not get a market return, it will be above or below).”

    I appreciate the first part (i.e. other providers [brokers] have access to a wealth of different funds, and funds being managed by a manager) but by the second part do you mean that you would not get what you would get in an ‘open’ market i.e. wins (and losses) would be lower?

    As an aside to this (a thought that you prompted…and hopefully I wont upset anybody here…its not a political opinion just a statement of facts)…high rate tax payers have always been portrayed by our politicians as contributing a greater amount to ‘the system’, especially the super, super taxed (i.e. footballers, popstars..oh, and bankers!) BUT if they managed their financial affairs properly (especially via investments/pensions that they could contribute to more easily than ‘the common man’), they can actually end up paying far less tax….is my understanding correct here?

  • 54 JonWB July 31, 2016, 11:38 pm

    @Teddy – I’ll use the USS Emerging Markets Fund as an example and explain what happens if you put some of your money in that fund.

    USS is acting as what is called a fund of funds. This means the USS Emerging Markets Fund is actually placing your money, on your behalf, with one or more underlying fund managers who run their own Emerging Markets Fund. Usually, funds of funds are bad because the fund of funds charges a management fee, in addition to the underlying manager! This is not the case for USS, as they don’t charge a management fee for their fund of funds, they provide a subsidy for members to reduce the overall annual management charge.

    If you logon to USS and go through the options to manage contributions, you can see the fund factsheets which disclose the underlying fund managers in each USS fund.

    You don’t get to choose these underlying fund managers and USS can change them at any stage without your consent.

    Those who have a low cost SIPP would be able to invest in the same underlying fund managers directly as USS, but they will pay much higher fees, so regardless of the underlying funds doing well (outperformance) or badly (underperformance) compared to the benchmark you would still outperform the person with the low cost SIPP who held the same underlying funds (simply due to the lower fees you pay). What they can do (which you can’t in USS) is switch for another Emerging Markets fund manager if they wanted to or initially choose one that you don’t have access to. In USS, you can switch from say the USS Emerging Markets Fund to the USS Cash Fund or vice versa, but you can’t switch underlying managers in the Emerging Markets Sector.

    If you come to the conclusion that USS Investment Builder (because of salary sacrifice – particularly with the 12%/2% Employee NI saving and 1% Employer Match) is by far the best pension option available to you, then I think this is all largely background noise in terms of active funds vs passive funds. Plus, if you don’t like the restriction in choice of USS funds in years to come, you almost certainly can transfer the money out of USS Investment Builder to a SIPP at a later date and before 55 (having locked in the benefit of Salary Sacrifice on the way in).

    In terms of tax and contributing to ‘the sytem’, broadly speaking, I think you are close. The real crux is the difference between absolute levels of tax and overall tax percentage paid by the (super) wealthy, who can have an army of professional advisors to structure their financial affairs to minimise tax. So, the (super) wealthy who are tax resident and are paid via PAYE undoubtedly pay more actual tax in pounds and pence than the common folk, it’s just usually, once investments and increase in net worth are included in the equation, they tend to pay significantly lower percentages of tax.

    There is some evidence to suggest that legal, behavioural action is taken to mitigate some tax changes (e.g. 50% income tax vs 45% income tax and suppression of income for some taxpayers). This is also something that is only really available at the upper levels of the earnings scale – those on lower earnings can’t adjust easily, it is largely outside of their control and so they are stuck with changes thrust upon them.

    We are lucky in this country as ISAs and SIPPs allow us lower (but decent) earning mortals to do similar sorts of things, just on a smaller scale (but even more tax efficiently and with no reporting requirements), all without having to take professional advice (although we can do so if we feel we need it).

    However, for those on lower wages, ISAs are in effect inaccessible, since unfortunately, those people are in a position where all of their income (and more) goes on day to day living costs.

  • 55 Teddy August 1, 2016, 11:39 am

    Thanks JonWB,

    so in essence in a ‘Funds of funds’ you are paying an extra ‘middle man’ between you and the person managing the suite of equities. So for example does HL ‘play’ a similar role as USS in this instance liaising with a fund manager OR is HL directly employing the fund managers?

    You seem quite knowledgeable regarding USS, do you have a connection?

    As for the other comment (and highlighted by another above regarding New Zealand), I just assumed that all countries had their version of tax efficient savings like ISA…so how unique are we in the UK having this provision?

    Not sure if I have taken this thread off track, so if others feel that this is the case please ‘correct’ me.

  • 56 The Investor August 1, 2016, 1:01 pm

    I’ve had some queries about advice et cetera recently, partly related to this thread, and I want to just share a general reminder to all readers of this article/thread or anything else on Monevator (or most other websites for that matter).

    Please remember that nobody — including me and any of the commentators on this site or any other — can give you personal financial advice.

    You are reading a free site where total strangers (including me!) are giving their opinions about stuff.

    We are none of us legally allowed to or professionally qualified to give personal advice, however. No personal finance advice is being offered by anyone here — either in the articles or in the comments — and everyone must do their own research and reach their own conclusions.

    All we can do is share our own understandings and then each reach personal conclusions.

    But if you do anything on account of anything anyone says here and lose all your money, it’s your responsibility.

    As everyone will hopefully understand, if you want personal financial advice and the safeguards that might come with it, you need to go to a professional independent financial provider. (Ideally a flat hourly fee charging one that has been recommending by people you know and trust).

    Online communities like this one work because — to the world’s general betterment, in my view — knowledgeable people are happy to share their knowledge for the common good. But they don’t work if readers expect more than just the exchange of ideas and avenues for further research.

    This is not only a legal thing, it’s also a practical reality if you think about it.

    Nobody online knows you, your specific circumstances etc. Even if one gives a certain amount of info, none of us share everything online (not least for security reasons) so one could easily omit mentioning something like a dependent parent or an inheritance or an upcoming liability or similar. An IFA can and should tease all that out in extended consultation etc.

    In my view it’s always best where possible not to talk about specifics to your situation, but rather try to understand the wider issues relating from products, strategies etc.

    This is a great thread, with lots of excellent information being shared — so please don’t think I’m posting this because I’m unhappy to see it.

    Quite the opposite — this discussion is an online community at its best! 🙂

    But to stress again, we are not sharing personal advice here and everyone must ultimately go off and do further research to reach their own personal conclusions.

    Here ends the public service announcement. 🙂

  • 57 gadgetmind August 1, 2016, 2:21 pm

    @Teddy

    > I would save not only the tax but the NI contribution as well (is it not more than 2%..I thought NI was 12%?)

    NI has many bands and previous comments from you made me suspect that your salary sacrifice would just be from income subject to 2% NI. However, I wasn’t sure to added the “perhaps more” wording.

    Note that there is also employer’s NI at a heavy 13.8%. Salary sacrifice means employers don’t nee to pay this, and some give the employee’s contribution a boost by way of thanks. Mine boost our contributions by 10% and I don’t begrudge them the rest as the scheme does take a lot of admin,

  • 58 Learner August 1, 2016, 4:03 pm

    “I just assumed that all countries had their version of tax efficient savings like ISA…so how unique are we in the UK having this provision?”

    @Teddy I think most do, but the efficiency varies. Some are fully sheltered from tax (except at funding/withdrawal time) while others have a system of tax credits which may or may not completely offset any taxes while held. Definitely research this rather than assume.

    (Semi-related, it seems the freedom to transfer a UK pension to an overseas QROP is seriously limited in practice. For example nearly all NZ QROPS were deregistered recently and the US QROPS list appears to consist solely of specific employer pensions. Again, research required.)

  • 59 gadgetmind August 1, 2016, 4:28 pm

    I often chat to people in different countries (US, Canada, Australia, NZ, China, various bits of Europe) about their pension and investment rules. They are always keen to tell me how complicated they are, and how restricted in many ways. Some bits of what they describe sound great, some total pants, and yes, everyone is faced with a sea of ever-changing rules.

    We have every right to complain about the UK system (particularly the constant meddling with private pensions) but globally speaking, we’re got some pretty handy breaks.

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