The State Pension is currently less than £9,000 a year. Surveys suggest that most retired people struggle to live off this meager income. As such, future retirees would benefit from setting aside their own pension savings.
This might seem like a daunting prospect but, in reality, just £2 a day could help you beat the State Pension.
A daily contribution of £2 might not seem like a lot at first. After all, most people wouldn’t think twice about spending more than this on a coffee every day. However, over the long term, these simple contributions can add up.
Indeed, saving £2 a day will give a total contribution of £730 a year. This could become £913 a year, including tax relief available on self-invested personal pension (SIPP) contributions.
Any money deposited in a SIPP is entitled to tax relief at a marginal rate. That’s 20% for basic rate taxpayers.
Higher and additional rate taxpayers can claim relief at 40% and 45% respectively on their self-assessment. Tax relief is limited to a total of £40,000 a year.
This makes a SIPP an essential tool for pension savers who want to get the most bang for their buck.
Invest for the future
Once you’ve opened a SIPP, the next stage is to start investing for the future. The best way to do this is to use a low-cost passive tracker fund.
For UK investors, the best indexes to track are the FTSE 100 and FTSE 250. Because these are the most significant stock indexes for UK investors, there’s a range of low-cost funds investors can use to track the indexes with no extra effort required.
Since its inception, the FTSE 100 has produced an average annual return for investors in the region of 7%. The FTSE 250, on the other hand, has returned around 12%.
This seems to suggest the latter could give you the best returns on your investment. That said, as the FTSE 250 has more exposure to the UK economy, it’s difficult to predict which direction it will move in the near term.
However, over the long run, it seems reasonable to suggest UK-based companies should continue to grow. Also, most of the FTSE 250’s constituents have some international exposure, which will act as a hedge against Brexit uncertainty.
Growing nest egg
A deposit of £2 a day would be worth £76 a month, including tax relief on pension contributions. These relatively small daily contributions could grow to be worth £250,000 after 30 years. That’s assuming the money is invested in the FTSE 250.
This savings nest egg could produce an annual income of £10,750, based on the fact that the FTSE 100 currently supports a dividend yield of 4.3%.
Therefore, by using the FTSE 250 to accumulate a sizable savings pot, and then switching this holding into the FTSE 100 at the time of retirement, it’s possible to beat the State Pension with just £2 a day.
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Rupert Hargreaves owns no 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.