What Investment – Pension Consolidation
Whether employed or self-employed, we are all encouraged to put money aside to provide for when we stop receiving any earned income and need to rely on our own capital resources. The ‘saving pots’ we use for this are known as pensions. Both the government and our employers help us build up these pensions during our working lives by making contributions in terms of actual cash and tax rebates which when combined with our own contributions can, over time, build into quite a substantial amount.
Currently, we cannot normally access these pensions until at least the age of 55 (this is due to be increase to 57) and obviously when we do decide to retire and access our pension, we want to be in a position where we able to draw an income from it for the rest of our lives.
So, is there anything else we can do to increase the final value of our pension?
One strategy worth considering is ‘Pension consolidation’.
Pension consolidation means reviewing all of your existing pension plans with a view to selecting the best provider and then transferring all your other pensions to this one provider so that you just have the one pension to manage going forward.
The obvious benefits could be:
- Simpler to manage – you only have to deal with one provider not several. You are not swamped with correspondence from various providers and having to manually consolidate all the values to work out your overall position and keep track of how they are all performing. You also only have one provider to deal with when you start drawing down on your pension (although you still have the option of using the money to buy an annuity, if this is an option better suited to your situation).
- Cheaper – pension providers in this country are commercial entities and all have explicit and implicit costs, any cost reductions you can make through cheaper fund charges or administration costs ultimately result in more money in your personal ‘pot’.
- For example, if a 35-year-old with a £10,000 pension pot invests until 65 in a fund that achieves 5% annual investment growth, but charges 2% a year, the pot will be worth £23,720.
- The same £10,000 invested in a fund that achieves 7% annual investment growth, with a 1.5% annual charge, will be worth £48,541 – more than double.
- Access – you may want to gain access to a far greater choice of assets and/or funds in which you can invest.
- Flexibility – your consolidating provider may offer much great facilities in terms of what you can do with your pension.
Nowadays, it is very likely that we will all accrue pension benefits with a number of different providers especially as employers are now legally obliged to provide a pension scheme for you to join while you are working with them. (According to the Office for National Statistics (ONS),on average around 9% of people changed jobs each year between 2000 and 2018).
The problem is that when you leave that employment, the pension is ‘capped’. The technical term is ‘paid up’. Your pension provider now has the right to increase the cost of administrating your pension as they now have the additional ‘cost’ of dealing with you as an individual and not collectively as they did through your employer whilst you were working with them. Although the pension remains your individual property, it may be many years before you think about looking at it again and in the meantime, these charges will have eaten into your compound growth.
When you join a new employer, you will likely join their pension scheme and go through the whole process again.
A word of caution, however. Not all pensions are the same and moving a pension is a non-reversable event, so you need to be very careful that you do not lose any valuable benefits in any transfer.
For example, some of the older pension schemes used to offer guaranteed annuity rates which in some cases are far higher than any rate that you could secure in today’s market. There may also be additional benefits such as early access or the ability to take more than 25% as tax-free cash.
There are other tax advantages of keeping the pensions separate – you can take three pots of up to £10,000 which are deemed ‘trivial’ and don’t count against your lifetime allowance or trigger a cut in your annual allowance due to the Money Purchase Annual Allowance rules.
Some schemes may also have exit penalties which would deplete the size of your pot.
Technology has made the process of consolidation much simpler and the big on-line pension providers now promote pension consolidation as one of their services and will do a lot of the legwork for you.
But as always, if in doubt, take advice from a suitably qualified adviser. Don’t leave looking at this for fear of an advisory fee. As can be seen from the example, this could be a very costly error of judgement.