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Why can’t I retire at 60? The truth about saving for your pension.

There are significant benefits to being a millennial in the modern world that go beyond technological convenience and the ability to scroll through Facebook perhaps more often than is healthy.

by
Sam Cowan

in Professionals Network

25.09.2020

Standard of living has increased inexorably over the decades whilst healthcare and medicine have continued to increase our life expectancy. In 2018, the World Bank announced that over the last 25 years more than a billion people have been pulled out of poverty, with the global poverty rate now the lowest it has been in history.

However, anecdotally you may hear some millennials feel less than enamoured by their opportunities compared with their predecessors, the baby boomers. This is because there may still be some areas where the environment is less favourable, at least from a financial perspective, than it was for the baby boomers exacerbated by longevity coupled with inadequate planning and housing costs.

To illustrate this problem, a 65-year-old couple today have a 50% chance that one of them will live to the age of 90, which is great from the perspective of longevity but the problem creeps in when we consider the adequacy of our finances to cope with this. It is likely that longevity will continue to rise, therefore millennials will need to prepare for retirement at a greater rate than the baby boomers did.

Retirement is a strain on resources. It is estimated that millennials need to be saving 15-20% of their gross earnings every year in order to provide adequate retirement funding. In contrast, only 5% of millennials are adequately saving, with only 34% enrolled into workplace pensions and 66% with no savings at all. Furthermore, investing for retirement involves locking your money away – something that does not fit with many millennial preferences as 46% of millennials said they wanted easy and immediate access to their investments, while 44% are sensitive to the level of risk assumed to be involved in investing money and think it would be easier to use a cash ISA.

In reality, when it comes to building wealth for your retirement, investments (and particularly pension-based investments) is the only game in town. Indeed, for millennials who have decades before their retirement and can therefore ride out market volatility, higher risk equity-based investments should be their priority when it comes to investing money for later life.

The importance of investing money for the future lies in the compounding of returns over time, described by Albert Einstein as the 8th wonder of the world. £1 invested in cash in 1900 would lead to a total investment in 2020 of £2. In contrast, £1 invested in equities over the same period would lead to a total of £433 – a 100% return vs a 43,300% return.

Why are millennials not saving enough?

Within the last two decades there has been a 46% increase in millennials living at home leading to the term ‘generation rent’, which was coined in 2011 to broadly define the demographic (predominately millennials) who have not been able to make their way onto the property ladder. House prices have increased over 300% since 1992, therefore relative to the baby boomers it is more expensive to buy a property for millennials, many of whom now prioritise renting as this can give them independence at a lower initial cost. Those who are saving for a deposit may have sparse left over to invest for their retirement which is decades away and for those renting, rental payments often outstrip mortgage payments. Consequently, additional living costs could negate retirement planning and so it is no surprise that millennials today often say they don’t have enough money to invest. However, it may be prudent to have a ‘start small’ investment strategy, ensuring you do not opt out of employer enrolment schemes sacrificing your priority of paying to live in the moment and instead begin planning for later life.

The government may also be able to help, having recognised this problem they have begun to address it by introducing new legislative products with accompanied government funding to help generation rent to attain their first home. The Lifetime ISA (LISA), for example, allows savings up of to £4,000 a year towards either retirement or a first home for those between the age of 18 and 39. The government will add up to £1,000 per annum (£1 for every £4 saved) as a bonus. The underlying assets held within the LISA can be held in cash or in stocks and shares with subsequent interest and or dividends being tax-free.

Although a first home may be a priority, this does not mean longer term financial planning should be put off. On the contrary, long term savings and pension planning should be considered as early as is affordable to reduce the strain of building a retirement fund in later life. This is a trade-off between the lifestyle you want to live today and how well you want to live in later years. Even a small amount of regular savings, compounded over decades can yield significant sums if invested well. That’s especially the case when a pension is used due to the tax relief available.

Currently, anyone under 75 with relevant UK earnings can receive tax relief when they make a contribution within the annual allowance to a personal pension. 20% is automatically added by HMRC and any further higher or additional rate income tax relief can be reclaimed on top.

As the COVID crisis has shown, the markets can be volatile and any pension or other investment should be made for the longer term (five years plus) in the context of an individual’s goals, needs, affordability and risk tolerance.

Sam is part of The Professionals Network by Charles Stanley; designed to connect and educate the next generation of investors. Read more articles from our network contributors and find out how you can be part of the network.

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