6 nasty pension surprises you definitely want to avoid

Pensions, by their very nature, are long term. But that doesn’t mean you can just set them up and walk away. Ongoing planning, including regular reviews, is essential to keeping things working well. Here are some of the common mistakes that might come back to haunt you when it’s time to retire:

1.         Details out of date

We’ll start with one of the easiest to rectify. Always keep things up-to-date.

At the last count, the number of ‘lost’ pensions in the UK was an astonishing 26 billion.[1] In many cases, this unclaimed money is in workplace pensions where the rightful owner has changed jobs and moved house without notifying the provider. A separate survey from Netwealth estimated nearly nine out of 10 UK savers have at least one unclaimed pension pot.

Failing to update important details such as your next of kin, or the names on documents, can also be extremely problematic if there is a major life change before you reach retirement, such as going through a divorce.

2.         Bad timing

Imagine checking in on a pension you’ve not checked in a while, only to find the process of converting your assets to cash has already started – long before you need it to. Many ‘lifestyle’ pensions have automatic de-risking strategies. These may be handy for people taking annuities, but many now prefer more flexible pension access and annuities aren’t the draw they once were. Lifestyling before time could leave your pension with far too low a level of risk if you’re still requiring it for a longer period.

3.         Risk too high (or too low)

Following on from the last point, when self-investing there is often a danger that the risk levels you set at the outset won’t be fit for your purposes further down the line. Investors can either start off too cautiously, meaning they won’t achieve sufficient growth in their investments by the time they retire. Or they set too high a level of a risk, without proper appreciation of the implications of market volatility on their assets.

4.         Putting all your eggs in one basket

Lack of diversification is also a common problem when pensions are self-invested then not paid sufficient attention. It can be tempting to favour particular asset classes, a particular investment style (such as picking stocks that are tagged as ‘growth’ or ‘value’), or even specific sectors, especially if, at the time of initiating, they look sure-fire winners. However, overconcentration can lead to excessive amounts of risk. Most importantly, without regular review of these investments, you might be compounding your losses for years before it comes to your attention.

5.         Stung by taxes

Of all the ways people can get caught out with their pensions, staying on the right side of taxes has to be one of the biggest. Whether you’re saving up or drawing down, it’s essential to make use of the tax allowances when they’re available to you. Failing to do so could mean missing out on a benefit or paying needlessly high levels of tax. Some of the main areas to watch are:

Allowances – annually you can pay in £60,000 tax-free to your pension. This level is tapered for higher earners (£1 for every £2 they earn over £260,000). In previous years, there’s been a lifetime pension allowance which restricted the total amount payable to just over £1 million. However, from this April, this cap is being removed. Also remember, although not directly part of your pension, you can make tax-free contributions of £20,000 into an ISA each year.

Paying attention to your allowances is just as important when drawing down. The first 25% of any sum you withdraw from your pension is tax free, but any amount above that is taxed as income.

Tax relief – increasing your pension payments can help reduce your tax liabilities. You can get tax relief on private pensions worth up to 100% of your annual earnings, either added automatically at source, or claimed back via self-assessment.

Windfalls – effective pension planning can help avoid big charges from windfalls such as capital gains tax, or inheritance tax (IHT). For example, pensions can be an effective way of passing on money to beneficiaries (pensions are usually exempt from IHT). However, there are still complications. Proposed changes mean future inherited pensions funds could have to be taken as income rather than lump sums, if the previous owner died before 75.

6.         Caught out by life events

Circumstances change over a lifetime. Financial goals evolve, plans once set in stone need adjusting. Life events, good or bad, can have knock-on effects for your pension plan. For example, moving abroad could alter your tax allowances, while redundancy or a long-term illness could impact savings goals. And post-retirement, events can still catch up with us. For example, do your plans include future care needs for your or a loved one? Ongoing planning can help keep your pension plan in line with your goals as they change over time.

One thing to think about

Putting the negatives aside for a moment (and the mistakes you need to avoid) it’s worth mentioning here one area that you should still keep in mind when saving into your pension – your principles.

A lot of clients speak to us about responsible investing and how they can account for environmental, social and governance (ESG) factors in their investments. As I’ve written about previously, there can still be a tendency to write this off as a niche concern – a potential distraction from the ultimate aim of growing your pension pot.

Yes, the financials are sacrosanct, but your pension is more than just numbers on a spreadsheet. Investing in line with your preferences is still a crucial consideration. In fact, when done correctly, the additional focus on your desired areas of sustainable investing can give a more holistic view and help you build a portfolio that’s more resilient.

‘Hands off’ not ‘eyes off’

Inertia is one of the biggest villains when it comes to your pension. So, while you ideally want your long-term plans to be ‘hands-off’ (avoiding tinkering with a plan that’s working) it’s never ‘eyes-off’.

That’s what makes financial planning so crucial. It isn’t merely a product, it’s a life analysis.

We’ll look at your goals and objectives to see whether they are still up-to-date, and monitor progress in your pensions and other investments to ensure everything’s still working to plan.

With these regular check-ins and annual reviews you can hopefully avoid any nasty surprises when you least want them.

If you want to find out more about annual reviews, please get in touch here.

[1] Pensions Policy Institute Lost Pensions 2022: What’s the scale and impact?