How Big Does My Pension Pot Need to be?

How much pension do I need?

One of the big questions many people have is wondering how much money they’ll need in their pension pot to provide them with sufficient income in retirement.

Realistically, your goals should determine how much retirement income you need to retire, rather than the other way around. In turn, this will decide how much you’ll need in pension savings.

What kind of retirement lifestyle do you want?

Ask yourself: what exactly do you want out of your retirement? What are your goals for when you reach retirement age?

An early retirement

You may have always wanted to retire early compared to the standard retirement age, making the most of your years after work.

Of course, to take an early retirement, your pension pot will have to be able to support those extra years when you’re no longer working.

An expensive retirement

You may have always wanted to travel in your retirement, ideally going on long cruises to see as much of the world as possible.

If you’re targeting a more expensive retirement like this, you’ll need to make sure your pension pot can provide you with the level of income you’ll need.

A “comfortable” retirement

You may have no other goals other than to just spend time with your grandchildren while maintaining your current lifestyle.

You may go on a few holidays a year, or perhaps treat yourself to a new car. But otherwise, you’re content with simply having enough to live comfortably.

To live this kind of retirement, you’ll need slightly less in your pension pot compared to one of the more expensive strategies.

Your retirement will be personal to you, your family, and your goals

This list is far from exhaustive, as the kind of retirement you want will be personal to you.

But, no matter what your goals are, it’s the lifestyle you want that will determine how much retirement income you’ll need. In turn, this will tell you how big your pension pot needs to be.

How will you save towards your target retirement income?

Once you have an idea of what kind of retirement lifestyle you want, you can start looking at how far your pension plan currently goes in achieving your goals.

Through a workplace pension scheme

If you’ve ever been employed, your employer will likely have been legally obligated to offer you a workplace pension plan.

Your workplace scheme will be invested on your behalf by a pension manager, meaning the value of your pot has the potential to rise over time.

Your scheme will be one of two types: a “defined contribution” pension, or a “defined benefit” pension.

Defined contribution (DC) pensions

DC pensions’ value is set by the amount that’s put into the pension pot.

Under the current auto-enrolment rules, if you’re over the age of 22 and earn at least £10,000 a year, a minimum of 8% of your salary must go into your pension fund. Of that 8%, your employer must pay at least 3%, with the final 5% coming from you (including pension tax relief).

Yours and your employer’s monthly pension contributions will be taken directly from your salary when you’re paid.

While DC pensions won’t give you a guaranteed income, they are a great way of saving for your retirement. You can increase your pension contributions as your earnings increase to ensure your pot will contain enough when you come to withdraw money from it.

Defined benefit (DB), or “final salary” pensions

DB pensions, also known as “final salary” pensions, function by giving you a monthly income for life, based on factors such as your annual income when you come to retire, and how many years you worked for your employer.

The upside of DB schemes is that your pension income is guaranteed. However, the downside is this figure is most likely fixed, and so it’s harder to take flexible amounts as your needs dictate.

DB schemes are quite rare these days, with most workplace schemes being DC.

Through a private pension pot

Private pension pots, also known as “personal pensions”, are invested by a pension manager in a range of investment classes, just like a workplace scheme.

Using a self-invested personal pension (SIPP)

A SIPP works in a similar way to a personal pension, except that you’re able to choose your own investments across a range of shares, funds, and property.

If you’re concerned your workplace or personal pension won’t provide you with the amount you need to retire, a SIPP is a hands-on way to design a portfolio to boost your available retirement income.

Most investment houses offer a SIPP for private pensions, including these best pension providers in the UK; Hargreaves Lansdown, AJ Bell, and Interactive Investor.

Using income drawdown

Depending on what kind of pension you use to save for retirement, you may be able to make the most flexi-access drawdown.

This involves starting to draw down your retirement funds while leaving the remainder of your pension pot invested. By doing this, your pot can access your money while also leaving the rest of your funds to grow.

Bear in mind that you may have to pay Income Tax on the money you withdraw, depending on how much you take.

Don’t forget about the State Pension

When you’re working out how much you’ll need to retire, don’t forget to include the money you’ll receive from the State Pension.

The State Pension provides a guaranteed income without any investment risk. So, while it may not provide you with income that directly meets your goals, it can help support you with some extra income for shopping and bills.

When will you receive the State Pension?

As of July 2021, the State Pension Age is 66. It will rise to 67 in 2028.

How much State Pension will you receive?

Under the new State Pension, as of the 2021/22 tax year, the maximum State Pension you can receive is £179.60 a week. That works out as £9,339 a year. This will rise to £185.15 (rounded to the nearest 5 pence) in the 2022/23 tax year, giving you £9,627 a year.

To receive the full amount, you need to have made 35 years of National Insurance Contributions (NICs) during your working life.

Which of these pension options will be right for me?

Your personal circumstances and goals will determine which of these options is best for you.

In all likelihood, your retirement income will come from a range of sources, including:

• Workplace pensions from one or more employers
• Personal pensions you have set up yourself
• The State Pension
• Any other savings or investments you have
• Employment – you may decide to continue working part-time or on a consultancy basis when you retire.

Working out how much you need to save in pension contributions

Once you know what you want to achieve and how you plan to get there, you can start looking specifically at how big your pension fund will need to be.

How big is the average UK pension pot?

According to the Telegraph, the average person in the UK has a pension pot of £61,897.

Assuming a retirement age of 67, that would likely work out at around just £3,000 a year in pension income. Including the money you receive from the State Pension, the average UK adult has a retirement income of just over £12,000.

If you plan on living a fairly modest lifestyle in retirement, this might be enough to support you.

But, if you’re targeting a more expensive lifestyle, this may not be enough.

The 12% rule

One figure that’s often bandied about is the idea of saving 12% of your earnings into your pension pot.

However, investment house Hargreaves Lansdown doesn’t necessarily see this as a sufficient target. In fact, they argue that to achieve a “comfortable” retirement, you may need to be saving as much as 24% into your pension pot.

According to their figures, this would give you somewhere near £33,000 a year in retirement income.

Saving half your age

Another popular strategy is to save an equivalent percentage to half your age.

So for example, you should be saving 12% of your income into your pension pot aged 24. This should then rise to 15% aged 30, and so on.

This method means you start saving money earlier than you might have otherwise, giving your pension savings more time to make the most of potential investment growth.

Significantly, this figure obviously rises as you get older. This ensures you save even more of your money, meaning you’ll save the most money as you reach your greatest earning potential.

So, by the time you come to retire, you should have built up a good pension pot.

Use a pension calculator

Realistically, as your goals will determine how much you need, how much a “good” pension pot is will be specific to you.

If you want a quick way to work out how much income you need to retire, you could use an online pension calculator.

These tools allow you to input all your income and outgoings, working out what your income will be.

It then gives you a clear, visual image of how much pension income you’ll likely need to retire, allowing you to create a retirement plan that will help you reach your goals.

There are many calculators available online, such as the government-backed Money Helper’s, formerly known as the Money Advice Service.

Taking financial advice

If you’re unsure how big your pot is going to need to be, you may want to take personalised pension advice from an independent pension adviser.

Independent financial advisers can provide you with personal pension advice for how much you’ll need to retire.

They’ll be able to use cashflow modelling to give you an accurate calculation of how much pension income you’ll need to live the lifestyle you want, alongside the rest of your money and assets.

By working with an independent financial adviser, you can have the confidence that you’ll have enough to live on in your retirement.

Their impartial advice will include a retirement plan that will tell you how much you need to pay into your pension now so that you have enough income later when you retire.

Make sure you choose a qualified advisor who’s authorised and regulated by the Financial Conduct Authority (FCA).