How much money will you need in retirement? Half your current salary – or maybe a third? Would that be enough to live on if you just need slippers and a real fire for 20 years? Or what about the world travel you’ve promised yourself?
It’s hard to know until you get to retirement age, obviously. That’s one reason for not thinking about it. Another was raised by the attendees of a recent UK Money Bloggers’ summit: the amount of money needed to produce the kind of income you’d like is so huge that many people are put off saving for a pension altogether.
The figures are frightening. Because interest rates are so low at the moment, it takes a lot of capital to earn a decent income. I’ve used a measly rate of 3% in my back-of-envelope workings out but, seeing as the typical dividend on UK shares is about 3.5% at the moment, I reckon that’s a realistic figure of what you might get after charges and without taking too much risk. So, if you’re lucky enough to have a pension pot of £500,000, you can get a whopping £15,000 a year to live on. It doesn’t seem much until you stack it up next to what most other people will get. The average UK pension pot is £50,000, says the insurer Aegon. With a 3% return, that’s kicking off a heady £1,500 a year.
What about the state pension? It does have an impact if you’re entitled to the full amount of currently just over £8,000 a year. To get it up to around £13,500, which is half of the UK’s average salary now, you’ll need a workplace or private pension worth £185,000 to give you the extra £5,550. Then you’ll be living on roughly £1,100 a month. Hopefully you’ll have paid off the mortgage by then.
It seems a lost cause. But there is a glimmer of hope: the magic of compound interest. Albert Einstein (and he knew a thing or two) called it the eighth wonder of the world. It’s the simple process of reinvesting your interest or share dividends (rather than spending it). So instead of just getting £10 every year on your £100 pot (if only we could all earn 10%) and blowing it on handbags, it means putting that £10 back in the bank. Then the next year, you get 10% on £110 (which is £11) and the year after 10% on £121 and so on. Quids in!
The earlier you start, of course, the longer the miracle has to take effect. Ideally, everyone would start saving from birth. Not everyone has that luxury and it’s hard to put money away faced with the demands of mortgage, children and life generally. But it’s never too late to begin, in my opinion. There are plenty of firms who will accept as little as £25 a month into a stock-market plan. If you’re worried about managing in retirement, check out our SMM guide to regular saving here.