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Retirement planning is a very complex subject, that, quite rightly, has been the focus of much public and media debate recently.
The main issues, for individuals in the UK are:
- the relatively low level of pension benefits provided by the state.
- the demise of employer sponsored ’final salary‘ pensions. Many of these schemes now closed to new members.
This all puts a much greater onus on people to make their own plans for generating a retirement income.
Ethical and environmental retirement planning
There are a wide range of personal pensions schemes which offer access to an ethical fund, and in some cases there is an environmental investment option.
However the quality of the offer varies quite markedly with some pension schemes employing strict ‘screening’ or avoidance criteria and others taking a much more general approach, often termed a ’best in sector’ screening approach. If you are looking for an ethical or environmental option within your pension, it’s important to consider taking advice because this is a highly specialised area.
So what are the options?
A private pension offers tax relief on member and employer payments into the scheme, normally at the same rate the member pays income tax: 20%, 40% or even 45%.
This makes payments to a pension very tax efficient, so for a many people a pension scheme should form part of their retirement planning.
Growth within the scheme is also exempt from personal tax, which over time should help the fund to grow.
However, pensions are inflexible in a number of ways, for example the capital is locked away until the member reaches retirement age (55-77). Overall investment charges can also be higher than for direct investment. On most schemes arranged in the UK you can expect to pay charges of 1.5% per annum or above to invest with a top-performing investment manager.
ISAs (Individual Savings Accounts)
An ISA is a form of tax ‘shelter’ with no income tax or capital gains tax due on investment earnings or growth. This can be particularly useful for higher rate tax payers because investment income would otherwise be subject to higher rate tax.
ISAs are however potentially subject to inheritance tax.
See our free in-depth guide to ISAs and tax efficient investments.
It is much better to start planning as early as possible – your investments need plenty of time to grow. Many people delay making a decision on pensions, which can cause problems later on. Someone who is 50 and wants to plan for retirement at 65 will have to invest far more than a 20 year old with the same retirement income target.
It is also important to consider the burden of tax on your retirement income. For example, in some cases individuals may be subject to higher rate tax on their pension income. By holding a spread of different types of investment: ISAs, pensions, and direct investments, it is possible to spread your retirement income across a number of tax allowances, reducing the overall tax you pay.