I can’t believe how fast this year is going. We will soon be welcoming in 2018 and as I usually do at this time of year, I have been giving some thought to my New Year’s resolutions. There will be the usual ones – eat more healthily and learn to play the piano - but this year I will need to give particular thought to my pension savings if I am to achieve my dream of driving the USA’s ‘Route 66’ when I retire.
I was discussing this with one of my colleagues and he suggested that I consider the “Power of One”. Disappointingly, it turns out that this isn’t some mind training technique that will help me reach for the fruit salad instead of the chocolate bar - but is a principle that I could easily apply to invest more in my future.
"but this year I will need to give particular thought to my pension savings if I am to achieve my dream of driving the USA’s ‘Route 66’ when I retire."
The “Power of One” is an idea that Barnett Waddingham’s Workplace Health and Wealth team has adapted from Behavioural Economists’ Thaler and Benartzi’s “save more tomorrow” concept1, which makes saving much easier by committing now to save future pay rises in a pension; meaning there is no drop in your take-home pay. The “Power of One” works on the basis that increasing pension contributions to, say, a SSAS or a SIPP by as little as 1% of your salary each year could have a significant impact on the amount of money you have in retirement.
A 1% of salary increase in personal pension contributions might sound like a lot, especially in the current economic climate but for someone earning, say, £30,000 a year, it is just the price of a couple of coffees and a piece of cake a week (something which I for one should be forgoing anyway!). These additional pension savings in a SSAS or SIPP, however, could benefit from tax relief and investment growth within a tax-efficient environment and could help to increase your pension benefits and financial quality of life in retirement.
The Power of One may not be relevant to you if you are not making regular contributions to your SSAS or SIPP. For example, if you have either Enhanced or Fixed Protection against the Lifetime Allowance Charge, then you or your employer should not be contributing to any pension arrangements, if you wish to retain your Protection against the Lifetime Allowance Charge.
Secondly, you may not be making regular personal contributions to your SSAS or SIPP because you are a high earner with a ‘tapered’ Annual Allowance, or your Company only decides the level of employer contributions it will make on your behalf at the end of each trading year, based on how well the company has done. The “Power of the One-Off” may, therefore, be more relevant to you.
If you have been holding off making any contributions in the current tax year, until you have a clearer idea of what your earnings for the year will be and whether you will be affected by the tapered Annual Allowance, it may now be a good time to speak with your accountant or financial adviser about the scope you have for contributions this tax year.
Where applicable, you may also wish to speak to your company’s accountant to see what scope the company will have to make a contribution on your behalf, before the end of the company year. It is worth noting that your company will only receive Corporation Tax relief on their contributions, which are “wholly and exclusively” for the purposes of the business; that is, in line with your personal contribution to the overall profits of the Company2.
In closing, here are 7 things to think about before increasing your regular pension contributions, or making a one-off contribution:
1. Do you have Protection against the Lifetime Allowance Charge and wish to retain it? You could lose your protection by making a pension contribution.
2. Are you contributing a regular fixed amount to your pension scheme? If so, does the fixed amount need amending, so that it stays in line with your earnings?
3. Are you contributing a percentage of your salary to your pension scheme? Could you increase the amount you are contributing by 1% or more of your salary, without it making a noticeable difference to your take-home pay and standard of living?
4. Is the value of your pension savings approaching the maximum permitted, before incurring a Lifetime Allowance Charge?
5. Will you or your company be eligible for income or corporation tax relief on the contribution?
6. Do you have scope to make the contribution, without incurring a tax charge?
7. Could you take advantage of the ‘carry forward’ rules, in order to ‘mop up’ unused pension contribution allowances from earlier tax years?
If, in any doubt, seek advice from your financial adviser or accountant, as it is not always possible to unravel a contribution, once it has been made.
So will you make a review of your pension contributions one of your New Year’s resolutions? As for me, I will - along with buying a guide book for Route 66!
1. R H Thaler & S Benartzi – “Save More Tomorrow: Using Behavioral Economics to Increase Employee Saving” - Journal of Political Economy, 2004, vol. 112, no. 1, pt. 2
2. You may also wish to read my colleague’s blog from earlier this year on what is meant by the phrase “wholly and exclusively”, in respect of employer contributions.