Pension priority: Think twice about stopping your contributions to save cash

Have you been actively trying to bolster your cash savings during these unprecedented times? There’s nothing wrong with building up a savings buffer, but don’t let it compromise your long-term financial health.

Earlier this week, we talked about the risk of short-termism, and the temptation to ‘pull up the drawbridge’ in times of crisis. But the reality is that making knee-jerk decisions could simply be storing up trouble for the future – and one particular area that appears to be under threat is our pensions.

In the midst of an ongoing pandemic, with health, financial and job worries often joining us at the dinner table, it’s unsurprising that we’re adopting a more cautious mindset with our money. According to AA Financial Services, 85% of UK adults spent less during the first UK lockdown.1

What’s more – in the second quarter of this year, the UK savings ratio surged to 29.1% – the highest level on record. That means that for every £100 of income earned, households put away £29.10 – perhaps a rare silver lining to the pandemic?2 It’s a habit that’s likely to continue for some time, as individuals and families prioritise getting on a more stable financial footing, to be ready for whatever’s around the corner.

Of course, there’s nothing wrong with building up a savings buffer, but what is worrying is that some savings have been realised by cutting pension contributions – impacting your long-term financial health.

Don’t gamble with long-term security

It’s human nature to think short-term – and periods of crisis and volatility tend to amplify this tendency.

But hanging onto too much cash because you’re feeling uneasy about what the immediate future holds is arguably a recipe for disaster later down the line. That’s because the interest you can earn on that cash is – certainly at the moment – next to non-existent.

For example, if you saved £100 a month in an average easy-access cash savings account (currently earning just 0.22%)3, it would be worth £35,910 in 30 years’ time, after inflation.4 If you invested the same amount into a pension returning 5% a year, however, in 30 years you’d have a pot worth £72,416 (calculation includes an annual charge of 0.5% and an annual inflation rate of 0.2%).*5

Looking long-term

There’s no question that it’s sensible – essential, even – to have an emergency fund, accessible at short notice, covering at least three to six months’ expenses. But once you’ve got this in place, it’s wise to start looking more long-term.

Long-term pension savings are the smart option – even if it’s a little nerve-wracking putting hard-earned money into a pension pot, where it’ll be locked away until you’re 55 (57 from 2028).

If you’re worried that, given the tough situation many businesses now find themselves in, your pension provider or the companies you’ve invested in through your pension may not be around in a few years, don’t be! The government’s Pension Protection Fund safeguards the money held in Defined Benefit schemes, and the Financial Services Compensation Scheme protects your Defined Contribution pension if your pension provider fails.

Taxing times

There’s another reason to make the most of your pension contributions in the short-term. With the UK coronavirus debt currently sitting in the billions (and counting), and the autumn budget having been scrapped, Chancellor Rishi Sunak will no doubt soon start exploring ways in which the government can recoup some funds.

One possible option is to introduce sweeping tax reforms that take aim at the likes of pension benefits and tax breaks. So, there’s an argument for taking advantage of the reliefs and allowances you have at your disposal right now, and investing as much as you comfortably can, before the Chancellor sets his sights on reform.

Cut, don’t cancel

That said, if targeting your pension contributions is the only option you have to build your cash buffer, then at least consider reducing your pension payments to the minimum you can, so that you can still benefit from employer contributions.

If you’re self-employed and work has dried up, perhaps you could pause your pension contributions and carry over any unused allowance to the next financial year, when your work situation may look a little brighter.

Keep your eyes on the prize

The coronavirus pandemic and subsequent recession has forced many of us to refocus on our financial well-being, re-prioritise goals and renew our approach to achieving them. The latter includes recognising that there’s expert support on hand to help you make more informed financial decisions.

The time and effort you spend now on planning could pay off massively in the years to come – not just in terms of potential financial reward, but also in the peace of mind that comes with knowing you’re on track for that retirement you desire.

Want to understand more about why cutting pension contributions now could cause long-term complications? Contact Wellesley Wealth Advisory today!

Sources:

1 AA Financial Services, a national survey of 2,110 adults, June 2020
2 Office for National Statistics, Households’ Saving Ratio, September 2020
3 Moneyfacts, Savers urged to act quickly to secure best fixed-rate account deals, September 2020
4 Candid Money, ‘How Much?’ Savings Calculator
5 Candid Money, ‘How Much?’ Investment Calculator
*This figure is for example purposes only and not guaranteed. What you will get back depends on how your investment grows and on the tax treatment of the investment.  You could get back more or less than this.

The value of an investment with St. James’s Place will be directly linked to the performance of the funds you select and the value can therefore go down as well as up.  You may get back less than you invested.

An investment in equities does not provide the security of capital associated with a deposit account with a bank or building society.

The levels and bases of taxation, and reliefs from taxation, can change at any time. The value of any tax relief depends on individual circumstances.