Pensions and ISAs: the perfect combination

Amy Austin

Senior reporter at FTAdviser and Financial Adviser

The days of a pension being the only means of retirement planning are long gone, with the younger generation now favouring a combination of savings tools to help plan for the long-term.

The savings needs of people aged between 20 and 40 have changed over the years with people now prioritising buying a house over saving for retirement.

Many millennials also feel that they are too young to be locking money away for 30-plus years, especially as they do not know what is in store for them in the future.

Therefore, millennials have turned towards ISAs to help them save money in the short-term as this savings tool allows individuals to access their money at any point in time, unlike pensions where the money is locked away until an individual turns 55.

But using a combination of pensions and ISAs allows people to save in the short-term while also allowing them to put money away for later life.

Helen Morrissey, pension specialist at Royal London, said that while saving for a pension is extremely important people have a variety of financial needs - for instance purchasing a house, repaying debt – and will need to use a variety of different products to help them achieve these needs.

Ms Morrisey said: “While pensions lock your money away until age 55 ISAs offer more immediate access and so both products have a role to play.”

Mike Lacey, partner at Berkshire-based financial adviser firm Bowman Pension Consulting also believes that the future retirement needs of the nation will be met by a wide variety of methods.

Mr Lacey said: “ISAs certainly have a part to play. Even though they don’t benefit from tax relief on input, they grow free of tax and could be used as retirement income in the future.

“They can also be used as lump sums to pension in the future – if an investor is a basic rate taxpayer now, moving a lump of money from an ISA pot to a pension as a 40 per cent tax payer will obviously attract tax relief; and even if the contributor pays basic rate tax in retirement, this could be very beneficial.”

He also said that auto enrolment has played an important role in getting more millennials to start saving for retirement.

Mr Lacey added: “The biggest change in the retirement space since the practical death of final salary schemes has of course been auto-enrolment. This has been a great success with tens of millions now engaged in retirement planning, but I do feel more needs to be done in this space – most likely in the form of increased contributions from both the employer and employee, and the abolition of band earnings as a salary option.

“I was pleasantly surprised at how high the take up rate was for auto-enrolment pensions, especially having had contributions increase earlier this year. I feel that the public are getting more used to saving for their retirement, and realise they have to take action themselves to ensure they avoid poverty in retirement.”

But Jon Page, director at Neon Financial Planning, said that while using a combination of savings products is better than not saving at all, individuals will not get optimal results unless they follow a cohesive strategy.

Mr Page said: “Millennials should start by getting a grip on their finances with a solid budget. Then, they should make themselves shock-proof by building up an emergency fund so they aren’t forced into having to borrow. Now they can consider investing some of what they have left.

“Pensions aren’t accessible until an individual is at least 55 under current legislation, so a combination of short and longer term saving is generally a good idea. The earlier you start, the better chance of long-term growth you will have.”

However, while using a range of savings products will ensure that millennials are saving throughout their lives, they must put enough money into these savings tools to ensure they have enough money in retirement.

But how much of their salary should millennials realistically be saving?

Tim Morris, independent financial adviser at Russell & Co said: “This is the million dollar question. Especially because a million pounds in 30 years time will very likely be worth less than half that in today's money (after inflation).

“The ‘multiply by 25’ rule means that if you earn £40,000 you will need £1m in your retirement fund. This means the old 10 per cent rule where you save 10 per cent of your income is probably not sufficient.

“Hence why auto enrolment contributions still need to increase further.”

Ms Morrissey also believes that the current 8 per cent auto-enrolment minimum is too low for millennials to have a comfortable retirement.

She said: “In terms of how much millennials need to be saving into a pension then 12-15 per cent is widely discussed as being able to generate a decent pension pot.

This is far more than the current auto-enrolment minimum of 8%.

“However, checking to see if your employer will match your contribution up to a certain level – that is, if you put in 6 per cent then they will also put in 6 per cent - is a good way to boost how much you are putting away. In addition increasing your pension contribution every time you get a pay rise will also have a big impact.”

So despite it being a good idea for millennials to use a variety of savings tools to boost their savings pots, this will only work if they also increase how much they put into these pots.

Many in the pensions industry are currently calling for government to up the minimum auto-enrolment pension contributions to at least 10 per cent so we will have to watch this space.

Published 04/11/2019

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