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Having some basic understanding of how pensions work is vital. The differences between the best and worst pension plans can be significant and have quite an impact on your income in retirement.
One of the most important factors influencing your pension fund value at retirement is the impact of pension fees and charges. Over 30 years or more of saving into a pension scheme a high level of charges could reduce the potential pension fund at retirement by tens of thousands of pounds.
A total annual pension fee is generally made up of three parts:
Charges can vary across providers and change regularly. Advice fees may be between 0.5% p.a. and 1% p.a. platform fees between 0.3% p.a. and 0.5% p.a. and investment management fees between 0.3% and 2% p.a.
Based on the above example, total fees may vary between 1.1% and 3.5%. It’s easy to think a couple of percent is nothing to worry about. If Argos offered you a 2% discount on a new washing machine you may not be tempted to rush out and buy? The difference is pension funds are built up over many years. The power of compounding over the long term should not be underestimated.
A Which report* showed the impact of fees on the value of a typical pension fund. It compared how a fee free pension fund created by a 25 year old may fare over the long term depending on the level of fees. It showed an approximate £75,000 of difference in the fund value at age 65 between a fund attracting one percent fees and one attracting fees of two percent per annum.
Let’s take another example showing the impact of only one quarter of one percent. If we compare total fees of 1.75% versus 2% per annum on a pension fund of £225,000. After 15 years the pension pot with 1.75% annual fees will be worth £456,214 and the one with 2% annual fees £440,402. A difference of almost £15,000 after 15 years.
The impact of fees can be significant but it is important to appreciate some level of fees are necessary and that the cheapest is rarely the best. It is important to consider value as well as cost.
What does your Adviser deliver for their charge? Paying a little more for investment management if it results in your pension fund growing more than the industry average over the long term is money well spent. You may decide that the platform you use or your pension product has many features you will never use and seek out a cheaper alternative.
It is important to decide what you want from your pension fund. Ideally, you should think ahead and put a retirement plan in place. Do you just want to lower costs? Or do you want more control/flexibility over where the fund is invested? Would a different type of pension fund, perhaps a Self Invested Personal Pension (SIPP) better match your needs? What level of risk are you prepared to take. If you do decide to transfer a pension it is really important you are sure it is the right thing for you. If you do transfer there is usually a cost and no going back.
This blog is intended to provide a general review of certain topics and its purpose is to inform but NOT to recommend or support any specific investment or course of action. The past is not a guide to future performance. The value of investments can go down as well as up and you may not get back the full amount you invested. Tax and financial regulations can change. Any figures quoted above are correct at the date of publication.
* Which report (Oct 2016)
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