With the full amount of the new State Pension in the UK at just £168.60 a week, I reckon most pensioners will need more money than that to live on in retirement.
Indeed, just over £8,767 per year will not go very far, so wouldn’t it be a good idea if you could build an additional pot of money on your own, which you could use to add to your State Pension when you retire?
The financial sacrifice you need to make to achieve a fund capable of trebling your income in retirement (when added to the state’s provision) may not be as great as you think – especially if you start early in your working life. I reckon allocating £4 per day could do it.
How it could accumulate
Saving that much works out at £1,460 per year, or almost £122 per month. Could you commit, right now, to putting that much away every month for the rest of your working life? If so, you could be in line for a splendid time when you finally stop working and turn your attention to other things.
But things will only work out well if you make your money work hard for you over the coming years. And for me, that means investing the money into shares and share-backed investments because studies have shown that over the long term, the returns from that asset class have beaten all the other big classes of assets such as cash savings, bonds and property.
In the UK, for example, the long-term average yearly total return from the stock market, in general, is often cited as being around 8%. If you can compound your money at that rate of return and add £122 each month, the online calculator I used suggests you can expect to end up with a pot worth £448,000 after 41 years.
How the pot could pay you
And you can use it then to deliver the income you need in retirement. One option would be to put the money in a FTSE 100 index tracker fund and collect the dividend payments. Right now, the Footsie is yielding north of 4%, suggesting you’d get about £17,920 per year in dividends. Add that to the £8,767 State Pension and you will have more than trebled your income as a pensioner, to £26,687.
This illustration ignores the effects of inflation, but you can make sure the buying power of the fund keeps up by increasing the payments every time your income increases while you are paying in. Hopefully, the State Pension will increase over the years to keep up with inflation too.
During the building-up phase, before you draw on your pension pot, I’d choose to hold my investments in vehicles that have tax advantages, such as pension schemes and Stocks and Shares ISAs. And within them, I’d consider investing in managed funds, low-cost index tracker funds and carefully selected individual shares.
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Kevin Godbold has no position in any share mentioned. The Motley Fool UK has no position in any of the shares mentioned. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.