Workers sleep walking to a cash-strapped retirement
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Workers who are switched from final salary schemes to defined contribution pension arrangements could face a massive pension shortfall of £41,000 when they come to retire, according to new analysis.
Figures from insurance company show that a 25 year old worker paying in to a defined contribution (DC) pension scheme from 2009 until age 65, could obtain a pension of £16,023 year in 2049 terms. By contrast, the same worker paying into a final salary scheme over the same period could expect to receive an annual pension of £54,714 at age 65.
If the same DC worker retires at age 60, instead of age 65, the gap between the DC and final salary pension benefits is even wider. The DC worker would receive a pension of only £8,836, just 18 per cent of the average final salary pension for a 60 year of £47,826.
With only one in four firms with final salary schemes still allowing new staff to join these gold-plated arrangements, the vast majority of workers starting employment today will be relying on a DC pension to see them through retirement.
But few people realise the vast sums required to fund a decent sized pension. As a rule of thumb, each £100,000 of pension fund could buy you an annuity today of £5,000-£8,000, depending on your age, gender, inflation proofing and state of health. So a £300,000 fund might buy you a pension for life today of £15,000-£24,000.
But given that the average DC pension pot for someone buying an annuity today (after taking 25 per cent tax free cash) is only £25,000, (according to the Association of British Insurers), most people are going to be in for a big shock.
The best rate available today for a 65 year old male in standard health, buying a level annuity with a £25,000 pot is 7,100 a year. The various solutions to the pension crisis are relatively stark: employers and employees making higher contributions, working longer, additional saving via ISAs and other tax efficient investments and doing equity release once you reach retirement.
Delaying saving is not an option either. Putting off the decision to start saving from age 30 to 35 could mean a difference in fund size of nearly £40,000, based on a monthly contribution of £100 a month until age 65, according to Prudential.
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