Can you retire early and not rely on state pension?

Amid calls for state pension age to be raised to 75, here’s why you can no longer rely on the state pension.  

Financial planning August 19, 2019 by Tom Bailey

The state pension age should rise to 75 over the next 16 years, according to a new report by the influential think tank Centre for Social Justice.

While the government already has plans to increase the state pension age from 65, the new suggested state pension age is much more radical, rising to 70 by 2028 and 75 by 2035.

The government’s current plan is for the state pension age to increase to 66 by 2020 and 67 between 2026 and 2028. However, according to the report, which the government has not officially endorsed, the current system is unsustainable as it stands, even with the government’s proposed age increases. As the report notes, the pensions bill has grown from £17 billion in 1989 to over £92 billion today. State pension spending currently makes up £4 of every £10 of welfare spending.

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Added to this, the Government’s Actuary Department (GAD) warned last year that National Insurance contributions need to rise for the state pension to exist in its present form, or else it will be exhausted by 2033.

The new proposal from the think tank, however, has understandably come under heavy criticism. As many critics have pointed out, life expectancy in some parts of the country is roughly around 75.

The report envisages retirees becoming more reliant upon private pensions – something the government has attempted to encourage for the past few decades, with Nigel Lawson firing the starting gun on the self-invested personal pension (Sipp) revolution in 1989.

However, as numerous studies have shown, most retirees or those approaching retirement have inadequate private pension pots. For example, the state pension still makes up the bulk of post-retirement income. According to data released by Just Group, those aged 65 and over derive nearly £6 out of every £10 of income from the state pension. That figure rises to £9 out of £10 for those in lower income groups. In total, nearly 75% of those 65 and over derive over half their income from the state pension.

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At the same time, according to a recent report by the World Economic Forum, British pensioners were expected to run out of money 10.3 years before they died, while female pensioners can expect to outlive their pension pots by 12.6 years.

The expansion of auto-enrolment since its introduction in 2012, however, should help address this savings gap and help make Britain’s future retirees less dependent on the state pension. While previous government’s have attempted to encourage future retirees to save, auto-enrolment now makes contributions from both employees and employers the default position. Employees now pay a minimum of 5% of their salary and employers 3%.

There is also evidence that younger savers have less of an expectation to live on the state pension in their retirement years. For example, according to a survey by Canada Life UK, one in five (20%) of 18- to 24-year-olds do not think the state pension will be in place by the time they retire.

The research also found that a quarter of people aged 18 to 55 thinks that the state pension age will be 70 by the time that they are eligible to claim. Meanwhile, one in three people think that the state pension will still exist but believe it will provide only a negligible income. One in five thinks that it will be means-tested, a controversial idea previously floated by the IMF.

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As Andrew Tully, technical director of Canada Life UK, noted at the time: “People appear to be ‘pricing in’ low expectations of the state pension that will be waiting for them when they retire, most likely because they see successive governments continually moving the goalposts, often with good reason.”

However, it is not clear if this recognition of the state pension’s unreliability is translating into younger workers managing to build up a large enough retirement pot.

According to Adequate Savings Index report by Scottish Widows, published in 2018, only 39% aged between 22 and 29 are now saving enough for retirement.

For many, however, the amount calculated as required for retirement may appear unrealistic. For example, according to Fidelity International, someone aged 25 and aiming to retire by 68 would need to save a total 13% of their annual salary each year with the aim to have seven times their salary saved by retirement.

This would allow them to replace 35% of their pre-retirement income for the rest of their assumed life. That figure, however, also factors in a government pension on top of what the employee has saved.

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