Pension alert: ‘Fundamental misunderstanding’ hits workers – how to fix the savings ‘myth’

Budget 2021: Sunak reveals changes to pension charge caps

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Pension contributions tend to be made automatically in the workplace due to automatic enrolment and as such, pensions may slip to the back of worker’s minds. The extent of this was recently examined by Hargreaves Lansdown, which warned workers are falling for a “pension savings myth”.

Fundamental misunderstandings

In September 2021, Hargreaves Lansdown conducted a survey of 1,000 people on their pensions. The results showed only 35 percent of people said their pension was invested in the stock-market. One-third (33 percent) said it wasn’t while 32 percent said they didn’t know.

While some may assume this is down to young workers being inexperienced or possibly naive, the research showed awareness did not increase as people got older. Of 25-34-year olds, 35 percent said their pension was invested in the stock-market, while 33 percent of 45-54-year olds said the same.

Hargreaves Lansdown warned this points to a fundamental misunderstanding of what a pension is and could be one reason why people do not engage.

Helen Morrissey, a senior pensions and retirement analyst at Hargreaves Lansdown, commented on these results.

“Around one third of people know their pensions are invested in the stock-market,” she said.

“It’s an alarming figure, but it’s understandable, because we talk about saving, rather than investing, in a pension. It means people are confused into thinking their contributions are stored in some kind of bank account until retirement.

“This fundamental misunderstanding stops people from engaging with their pension planning. By being invested in the stock-market, they can benefit from long-term returns that really boost their retirement savings. Knowing the impact these returns can have should encourage people to contribute more.

“They also have the power to decide where their contributions are invested and so can choose to invest in a way that suits their retirement plans, and also in line with their values. This could be to invest in a more environmentally sustainable way for instance or to remove certain companies or industries from their investments. If we can tackle this fundamental misunderstanding of what a pension is then it could prove to be a powerful catalyst for engagement.”

For those who are unsure of where their pensions are invested, Ms Morrissey concluded by providing guidance on where people should start to hunt them down.

“Contacting either your company HR/pensions department or your pension provider is the ideal first step if you want to know more about where you are invested,” she said.

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“They will be able to tell you where you are invested and point you towards online resources such as fund factsheets and online tools so you can explore things like your attitude to risk and fund performance. This should really help you start to understand more about where you are invested.

“As well as your pension provider there are also guidance services such as the Money and Pensions Service who you can contact for more information. You also have the option of speaking to an independent financial adviser if you feel you need more support.”

Pension contribution rules themselves were addressed in the recent Budget, as Rishi Sunak attempted to rectify certain tax anomalies.

While many commended the Chancellor’s efforts, some warned an opportunity to tackle additional problems were missed.

“Net pay” pension schemes

In the Budget, it was announced the Government would be introducing a 20 percent top-up for low earners in “net pay” pension schemes from April 2024.

This, according to analysis from interactive investor, corrects a longstanding inequity between those on low incomes in “relief at source” pensions, who receive tax relief on pension contributions and those in “net pay” pension schemes, who do not.

The Government estimated 1.2 million low earners would benefit from slightly higher pension contributions as a result – an average of £53 a year. The Treasury estimated the correction will cost £25billion between 2025 and 2027.

Becky O’Connor, Head of Pensions and Savings at interactive investor, commented: “The correction of the so-called ‘net-pay anomaly’ puts right a quirk of the pension taxation system that unfairly penalises low earners saving in ‘net pay’ workplace pension schemes, whereby they do not receive tax relief on contributions because they earn less than the personal income tax threshold, whereas other workers in ‘relief at source’ schemes do get the relief.

“The type of pension scheme someone is in is not generally something within an individual’s control, so lower paid workers in this type of scheme are missing out through no fault of their own. This correction has been on the cards for some time – the anomaly has persisted for many years.

“However the 20 percent top up will be introduced from April 2024. There is no suggestion it will be backdated for those who have missed out in previous years.”

Money Purchase Annual Allowance

Steven Cameron, Pensions Director at Aegon, also welcomed the Government’s recognition of pension investments “super power” in contributing to a green economic recovery. However, Mr Cameron warned the Government failed to tackle damaging Money Purchase Annual Allowance (MPAA) rules.

Generally, if a person starts to take money from a defined contribution pension pot, the amount they can pay into a pension and still get tax relief on might reduce. This is known as the MPAA and for most people, the amount they can pay into your pension each tax year and get tax-relief on is £40,000. But if they trigger the MPAA, this reduces to £4,000 a year.

Mr Cameron broke down why this is limiting retirees: “While the DWP promotes pensions as a critical means of saving for retirement, it’s often been speculated that the Treasury views them more as a drain on income tax receipts because of the tax relief pension contributions receive. We hope this new mindset will discourage Chancellors present and future from whittling down pension tax reliefs further.

“However, we’re disappointed to see no relaxation of the Money Purchase Annual Allowance. This would have offered welcome relief to those over age 55 seeking to rebuild their pension plans post pandemic.

“The industry has been calling for the government to raise the limit of the MPAA, so the lack of any change will be a blow to those who may have been unknowingly caught out by its little-known rules.

“The MPAA means anyone over 55 who accesses their pension flexibly has any future pension contributions into a defined contribution scheme limited. This limit remains at £4,000, despite many calling for it to be increased to at least £10,000. Many individuals have been caught unawares by dipping into their pension during the pandemic for short-term financial support. We remain keen that the limit is increased to £10,000 to give individuals more freedom to get their retirement planning back on track.”

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