Are we all saving enough for retirement?
There finally seems to be some level of commitment at a government level to dealing with Ireland’s looming pension crisis. This is as a result of an ever-widening gap between what people are saving for retirement, and how much they will actually need to enjoy a comfortable retirement.
The OECD suggests that people on average should target a replacement income in retirement of 70% of their pre-retirement earnings. Higher earners probably don’t need such a high replacement level, as they often have other assets to call on, and enjoy reduced expenditure as mortgages and other debt tends to have been paid off. However for low earners, they require a replacement income of up to 90% of their pre-retirement earnings to survive, as they tend to need every penny that they earn just to get by. Currently the maximum state old age pension for a single person is €12,652 – this represents just 33% of the average annual earnings in 2017. And with less than half of the population (and only about a third of private sector workers) having any pensions savings at all, many people face survival at best, penury at worst in retirement.
Will the policy makers save the day?
The pensions crisis is one of the biggest challenges facing policymakers today. Think of the National Debt or Brexit on steroids! It just doesn’t get the coverage as it is such an enormous challenge and it is a problem that can be (and usually ends up being) kicked down the road for the next government.
The problem is that state old age pensions and also the pensions of public sector workers are paid for from current tax revenues. There is no pot of money set aside to cover these promises. Currently we have 5 workers paying tax for every pensioner who receives a pension. Over the coming decades, this ratio will drop to 2 workers for every pensioner. The problem is getting worse, so the options of policymakers are limited.
How are you fixed yourself?
Because the state is not going to rescue us, each of us needs to fund our own retirement to a large degree. Your own state of readiness depends on many factors, including
- Your desired lifestyle in retirement
- How much you will save between now and retirement
- How much your employer will pay into your pension fund
- How much you have already saved
- What assets you may have to sell to fund your retirement lifestyle
- What windfalls are likely to come your way – e.g. an inheritance.
Aviva carried out some great research in both 2010 and 2016, called “Mind the Gap” in which they examined the gap between what people are saving and how much they need. Their key finding is that Ireland has the third largest pension gap in Europe, with an average pension gap of €12,200 per person, per annum. 51% of people said that they are not prepared for retirement.
In order to achieve the OECD replacement figure of 70% of pre-retirement earnings, Aviva calculated the following average additional pension savings (not total savings) that people need to make,
- For a 30 year old – €5,100 per annum.
- For a 40 year old - €6,700 per annum.
- For a 50 year old - €9,700 per annum.
- For a 60 year old - €28,000 per annum.
(Source: Aviva’s Mind the Gap, 2016)
What needs to be done?
The state has a critical role through pension policy. Within the next few years we are certainly going to see auto-enrolment of all workers in pension schemes. This means that your employer will be obliged to automatically include you in a pension scheme, where a fund will be built up for you based on contributions from yourself, your employer and the state itself (through tax relief or some other credit system). Of course you will be allowed to opt out, but the default position is that you must be included in a scheme. This will be a major change in Irish pension policy and hopefully will have the desired effect of improving retirement outcomes for people. This approach has certainly been successful in other countries. We now need to see how auto-enrolment will be rolled out, as the devil is always in the detail!
However, as identified in the Aviva research, we all need to take personal responsibility too and save more. A very rough rule of thumb is that you should save half your age as a percentage of your earnings – a 30 year old needs to save 15%, a 50 year old should be saving 25% of earnings etc. This is a very rough calculation though, nothing beats your financial adviser examining fully your specific circumstances and advising the right contribution level for you. However it’s pretty simple – the quality of your retirement lifestyle will be a direct result of the assets you build up yourself.
We also need to educate ourselves better on where we actually stand in our own retirement journey. How much are you likely to have in retirement? Is that enough to meet your needs? What are your options to improve your situation? Are you missing tax saving opportunities?
At the end of the day, spending money today on retirement saving is hard, as there is no immediate reward. However hopefully you will live a long and happy retirement – this will certainly be hugely enhanced by the retirement planning you do today.