While it may not stretch as far as it once did, a £1 million retirement pot is still something to aspire to – and may well be within your reach. Here’s all you need to know about becoming a pension millionaire.
How far does £1 million go in your retirement?
Your thoughts may turn to the Frank Sinatra and Celeste Holm’s duet in 1956’s High Society, where the “necessary luxuries” of sipping Champagne in a marble swimming pool at a country estate with a gigantic yacht, a supersonic plane, and caviar to spare are forever on hand.
While tastes may have changed in the ensuing years, and inflation has somewhat eroded the true worth of such a fortune, £1 million is still a considerable amount that can fund a relatively comfortable retirement should you abstain from excessive spending. Whether or not it would be enough for you depends on your own circumstances, both in terms of the length of your retirement and the lifestyle you are accustomed to.
Most of us would have never held wealth in excess of £1 million in our accounts at any one time, though a seven-figure pension pot would come with the expectation that it must last for several decades. While you may rely on a salary today, income during your retirement is likely to be much lower. For some, retirement might be a succession of luxury holidays, while others may have more modest goals, perhaps even continuing to work part time. On retirement, some may put their pot into drawdown, while others may buy an annuity.
While this must all be considered as part of your retirement planning, you should also be thinking about the impact of inflation – the Consumer Prices Index was up by 9.9% in the UK as at August 2022. Just as £1 million would have been a much grander figure back in Sinatra’s 1950s, it’s also likely that it’s real value will erode further in the decades to come, or by the time you actually retire.
When should I start investing for my retirement?
If you want to reach that magic million, the truth is you need to start investing for your retirement as soon as possible. The earlier you start investing in a pension, the better the outcome is likely to be in the long-term by the time you need to draw from it.
The powerful effect of compound returns means your pot can grow quickly if you contribute to it regularly. In the first year of investing, you generate returns on your initial investment. In the second year, you invest the capital plus those returns, and you generate further returns on the total. And so it goes on, helping you to build a bigger pot. Our compound calculator can help you see the benefit of starting your investment journey earlier.
You should also consider the potential tax benefits of investing for your retirement, with the government adding tax relief to contributions you make to your pension pot, up to the value of your total annual earnings or the annual allowance, currently £40,000, whichever is lower.
Tax relief is linked to the highest band of income tax you pay. This means that if you’re a higher-rate or an additional-rate taxpayer you could claim extra tax relief on top of the basic 20%. Higher-rate taxpayers can claim a further 20%. Currently, additional-rate taxpayers can claim an extra 25% to a combined rate of 45%, though it was announced in the September 2022 mini-budget that this additional rate is to be abolished.
Those that are impacted may want to maximise their pension contributions before changes come in effect in April next year to secure that 45% relief since next year the maximum relief will be 40%. You can book a free call with our team if you’d like some guidance on how you can make the most of your pension allowances.
The bigger picture
As Nutmeg’s investment team has outlined; the probability of positive returns increases the longer you hold your investment. This is especially apparent over a prolonged period, over several decades, in which a personal or workplace pension may be accumulating wealth.
Past performance is no guarantee of future returns, and there are naturally periods of volatility in which the value of your investments may go down. There is no guarantee that market history will repeat itself but taking the big picture view and understanding the fundamentals of investing over several years could make one day’s or one month’s volatility seem insignificant.
So long as you have emergency funds available and can afford to invest, it may be wise to start investing in a pension plan at as young an age as possible. You can do this through your workplace, with all employers in the UK obliged to offer a scheme, and/or through a personal pension – Nutmeg’s personal pension can be opened from the age of 18.
Setting your risk level
Alongside time, the other big determinant of how much you will have in your pension pot at retirement is how much risk you are prepared take.
In most cases, this is determined by your exposure or ‘asset allocation’ to different types of investment classes, especially equities and bonds. To reach £1 million you are likely to need to contribute to your pension regularly and choose an adequate investment risk level that will give your pot the best opportunity to grow.
If you are naturally risk adverse and choose a lower-risk level pension portfolio which may contain more bond and less equity exposure (held through ETFs), then it may be harder for you to build a substantial seven-figure portfolio unless you contribute significantly and often.
While past performance is no guarantee of future returns, a higher-risk portfolio with a greater allocation to equity ETFs may be better suited to reach your target level, still with regular contributions. However, with more risk comes greater capacity for loss, and higher risk portfolios may not be suitable for everyone; it depends on your personal circumstances.
Past performance and asset allocation of the Nutmeg fully managed portfolios may help you understand the different approaches. You may also wish to consider financial advice when making pension planning and investment decisions. This can be especially vital when considering the pension lifetime allowance –, set at £1,073,100 for the current tax year and frozen at this level until the 2025/26 tax year – which can potentially have a big impact on wealth planning.
If you’d like to speak to someone about your retirement planning, you can also book a free call with one of Nutmeg’s experts.
A roadmap to becoming a pension millionaire
Ok, so let’s say you’ve considered all the variables, and you’ve decided you need at least £1 million for your retirement. As well as financial advice, there are also tools available online – such as pension calculators – that can help you to decide how much to invest, and how often.
While making predictions can never be an exact science, with so many variables in play such as market movements and inflation, we can still make predictions as to how investing for retirement may play out across different scenarios.
The Nutmeg investment team has put together the following scenarios for us, based on basic assumptions which mirror the FCA mandatory rates on pension simulations in terms of intermediate expectations around returns (5% per annum) and inflation (2% per annum). The following scenarios do not factor in pension tax relief, as this can vary from individual to individual based on their own contributions.
It’s important to note that most pensions, including the Nutmeg pension, will not allow you to access your investments until you are 55-years old, rising to 57 from 2028. Therefore, if you wish to invest for an earlier retirement, you will need to consider a mix of investment wrappers that could help you to achieve this – such as an ISA, which can be accessed at any time. ISAs have a lower annual allowance than pensions, currently a maximum of £20,000, and there are different tax rules – you don’t benefit from tax relief on your contributions, but you don’t pay income tax on withdrawals.
So, anyone hoping to retire early will need to carefully consider how they split their contributions across different wrappers to ensure they are able to access enough income early in their retirement – say between 40 and 57 – before they can drawdown from their pension. This may be complex, and a financial adviser or planner could help.
Retiring at 55 with £1 million
An early retirement on £1 million may be over-ambitious for most, but how about retiring at 55? What if a 20-year-old was to give themselves 35 years to build their pension pot? Assuming a 5% annual return, this investor would need an ongoing contribution of £895 per month to their pension.
This blanket assumption does not factor in that a during the course of this person’s 35-year career, their salary is likely to change over time. What if they chose to contribute to their pot as a percentage of their overall income? If we factor in a contribution adjusted by wage inflation at an average of 2% per year, the initial monthly contribution falls to £675, which will then grow as the years go by to £1,620 at the very last contribution before retirement. However, please bear in mind we are not taking in consideration here what the true value of £1 million impacted by inflation might be in 35 years, rather that is end figure we are aiming for in these scenarios.
But what if our case study was actually 40 rather than 20? Over 15 years the contribution would have to be much bigger at £3,355 per month or an initial £2,925 , rising to a final contribution of £4,724, taking into account our inflation expectations. This just goes to show the importance of starting investing in a pension at a much earlier age, if possible.
Retiring at 60 with £1 million
Is 60 a good age to retire? To claim the state pension, the current age is 66 years old for both men and women, though this will start increasing again in 2026. To retire before then with your million would certainly make life easier, of course.
Let’s go back to our 20-year-old, who this time would have a much longer timeframe of to invest in a pension pot. To reach £1 million, over 40 years she or he would need to invest £690 per month, or an initial £505 taking into account wage inflation, rising to a final contribution of £1,338.
To give another scenario, for a 35-year-old, who would be investing for 25 years, the figures are £1,595 per month or an initial £1,285 rising to £2,530 on the final payment with 2% wage inflation.
How to plan your millionaires’ pension pot
The scenarios we’ve laid out here are of course only rough estimates and must not be taken as financial advice. Throughout the course of your life, the amount you contribute each month/year is likely to change, and this is likely to be across different workplace and personal pensions.
With this in mind, it may be worth considering consolidating your pensions in to one, easily manageable pot. You may wish to use the government’s Pension Tracing Service to aid you if you have mislaid details of previous workplace schemes. However, this will only help you find contact details of schemes, rather than specific individual pension accounts.
How Nutmeg can help
While we can’t promise to make you a pension millionaire, Nutmeg’s award-winning pension, voted Boring Money’s Best Buy Pension 2022, can help you to manage your retirement planning in an easy and cost-efficient way.
You can also transfer existing pensions to Nutmeg and use our financial planning service to create a retirement plan that’s right for you. Book a free call to speak to the team to understand your options.
Discover more: Understanding pensions in an era of disruption.
Four takeaways for retiring with £1 million
To summarise, if you are planning on retiring with £1 million in your pension pot, there are four important questions worth asking yourself.
- How much money do you need each year?
- Do you have any other income?
- What is your retirement lifestyle goals?
- How long do you need £1 million to last?
As with all investing, your capital is at risk. The value of your portfolio with Nutmeg can go down as well as up and you may get back less than you invest. A pension may not be right for everyone and tax rules may change in the future. Please note that during any transfer, your investments will be out of the market. If you are unsure if a pension is right for you, please seek financial advice.
Projections are never a perfect predictor of future performance, and are intended as an aid to decision-making, not as a guarantee. The projection excludes the effect of Nutmeg’s fees, investment fund costs, and market spread.
Key assumptions for projections
- Investment returns calculated at 5% per year
- Wage inflation calculated at 2% per year
- Pension fees and costs excluded from projections
- Pension tax-relief is excluded from projections