We’re heading into the traditional time of year for the big spring clean. It might be no harm to dust off your retirement plans too. Unfortunately, too many of us would sooner clean the windows with a cotton bud than address the issue.
“Pensions are something people put on the long finger either because they are too busy or it seems too boring. But now’s a good time, the beginning of the year, to spring clean your finances,” says Paula Finlay of Davy Private Clients.
“What I see across all clients, from nurses to company directors, is that we all have the same problem – because it is boring, no one wants to look at it. It’s a hidden hazard,” she says.
As people increasingly job hop throughout their career, not actively keeping abreast of their pension contributions means they can easily lose track of the various pots built up along the way. “They’ll tell me ‘Oh I only did a couple of years at X, or Y’,” she says.
But those pots add up, and it’s important to keep an eye on them. “By losing track you might have no idea what you are invested in or what fees are being charged.”
Pension review
In a recent pension review Finlay discovered a 30-year-old client’s pension was fully invested in low risk, low yield, bonds. At that age, with decades of investment ahead of them, they could afford to take on the kind of higher level of risk typically required to give a much higher level of return.
That matters, given that the typical aim is to fund for half of what you were earning on the day you retired.
A €2 million pension pot sounds like winning the Lotto but if you were lucky enough to live for 30 years after retiring, it will bring you in €66,000 a year, half of which will go out in tax.
Starting as soon as you can, and contributing as much as you can, is the key to growing your pot. Building indexation in at the outset, an automatic increase in your contribution of, say, 5 per cent per annum, is a good way of increasing your contributions each year, without even noticing it.
Tax efficient
It helps that pension contributions are highly tax efficient, offering tax relief on contributions, tax-free investment growth and a tax-free lump sum on retirement.
Keep your pension in mind if your circumstances change significantly for the worse too. As a result of the pandemic, some people will have seen their income dry up, and possibly disappear. It’s important to know what impact that will have on your pension contributions, your ability to claim tax relief, and the options open to you.
“Things change, so if you have a broker or a tax adviser, utilise them fully and make them earn their money. Make sure too that the advice you get is personal to your life situation,” says Finlay.
Be savvy about a fund manager’s track record. While past performance is no guarantee of future performance, the difference between a top performing fund manager and a mediocre one can be stark, thanks to the power of compounding.
“A 2per cent difference in annual return might look modest, but when it is compounded year on year, over 20 years, it can have a huge effect on your final fund,” says Suzanne Cashin of Brewin Dolphin Ireland.
Check the fees being charged too. An additional fee of 0.5 per cent per annum reduces your return, and your fund, significantly.
Diversified
Be clear about how diversified your investments really are. Many of the client reviews Cashin undertakes, particularly for self-employed people who make a yearly contribution to a plan, have five or six different policies on the go. Because of that, they think they are well diversified.
“Often they will have selected various different firms for the contribution, but have invested in similar funds with each company, so when we review each fund has the same top 10 holdings,” she points out.
Take time to figure out your tolerance of risk, and the role it plays in retirement planning.
“Too much, and equally too little, can produce bad outcomes,” says Cashin.
We are in a period of historically low interest rates and equally low returns on bonds. It means that a pension with a high level of investment in either will currently be producing poor returns.
“Many people in the past have phased towards such investments as they approach retirement to avoid volatility, but these low returns are also impacting on low annuity rates. As a result, when people reach retirement now, many are opting to stay invested and opting for an approved retirement fund. Heading into bonds if you are not going to purchase an annuity is not the right approach,” she says.
Negative returns
Many cash funds are producing negative returns at present, as banks are charging the funds to hold these deposits. “So you have a fund that is returning negative growth, and then a management fee on top,” she warns.
With pensions, as with any investment, know how much you are paying, and what you are paying for.
“If clients have an investment property, they will be able to tell me what the rent is, what the fees are, how much they owe and what it is worth,” says Cashin.
“They may have a pension fund which is worth as much or even more than the property, but when I ask, what are the fees? where is it invested? what is the return or performance? they very often can’t.” Now’s a good time to put that right.
