Plug pension gap before it gets too late
Retiring in this country was a lot simpler in our grandparents' time. Most people simply worked until 65 and then claimed the state pension.
Today, many of us have private pensions on top of the state pension. However, we must now wait until the age of 66 to receive the State pension - and this will soon move to 67 and later to 68. And I have little doubt that at some stage in the future, people will have to hit 70 before they see a penny of the state pension.
The income you receive from your private pension when you retire depends on the type of pension you have.
Those in the public sector receive a gratuity of one-and-a-half times their salary after 40 years' service - and an income for life equivalent to 50pc of their pre-retirement income.
For those in defined-benefit schemes that are adequately funded (these schemes are a dying breed), most will provide similar retirement benefits.
Things are more complicated for members of defined contribution plans. Firstly, they cannot be sure what their retirement income will be until they actually retire. At retirement, members of defined-contribution schemes can take some of the fund tax-free, with the remainder being used to purchase an annuity - an income for life.
We are living in a near zero rate interest environment, with rates likely to stay low for the foreseeable future. This has driven down annuity (pension income) rates that retirees are offered at the point of retirement - so low interest rates have a direct correlation on the amount of pension a person can buy. Here are three steps that should help address the challenges your pension could throw your way when you retire.
When you reach retirement, check how much you have in your pension fund and then calculate how much you will need for each of your remaining years. If your income requirement is low relative to the size of your pension, look to guarantee most of your income with an annuity product. If your income need is high for the first five years (maybe because of debt repayments), consider putting money into an approved retirement fund (ARF) instead and review that position after the five years. Be careful not to bankrupt your ARF fund before you reach the finishing line, however.
Your investment strategy throughout the lifetime of your private pension is never more crucial than in the years directly preceding retirement. The simple reason for this is that you have less time than your younger counterparts to make up for any drop in the value of funds.
In general terms, it is unwise for pension savers to have a high degree of their pension pot in equities if they are close to retirement - simply because equities can be so volatile.
Many defined-benefit schemes are integrated with the state pension. In other words, your pension of two-thirds your final salary is inclusive of social welfare. So if your scheme retirement age is 65, you will receive a reduced payment until you are old enough to receive the state pension.
The way to protect against this is to make an additional voluntary contribution, which can then be taken as tax-free cash at 65, or rolled into an ARF and drawn down to make up some of the shortfall. This is a very tax-efficient way of saving for any shortfall.
- Ciaran Phelan is CEO of the Irish Brokers Association
Sunday Indo Business