Britain’s army of self-employed workers are being left behind when it comes to saving for retirement. Research shows almost three quarters of these workers aren’t making any private pension savings. And most of those who are, aren’t saving enough.
About 4.8 million people in Britain consider themselves self-employed, according to the Office for National Statistics, a 45 per cent increase since 2000. Those who work for themselves are missing out on occupational savings schemes provided by employers; the auto-enrolment regime introduced by the government in 2011 requires employers to offer staff a pension plan, and to pay in to the funds of everyone who doesn’t opt out.
“Many are using what they should set aside for retirement to subsidise the here and now
A review into employment practices — led by Matthew Taylor, the chief executive of the Royal Society of Arts — suggests that self-employed workers should be forced to contribute to a pension through auto-enrolment and have to pay higher rates on their national insurance contributions.
Ministers have promised to look at extending auto-enrolment, but it is likely to be several years before they take positive action. In the meantime, self-employed workers must seize the initiative themselves.
One way to do this is to open a personal pension plan with an insurance company or wealth manager.
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Some 73 per cent of self-employed people do not have a such a plan, according to research published by Drewberry, the pension and investment specialist. The company warns that 91 per cent of those who do have personal pensions are contributing 10 per cent or less of their pay to the plans, which could leave them with a shortfall on retirement. While workers in occupational plans make similar small contributions, they benefit from the extra contribution made by their employer.
Lack of disposable income is one reason why many self-employed people aren’t saving — they are twice as likely to have £200 or less to spend each month after meeting basic living expenses, according to Drewberry.
Private pension schemes offer good value — every pound that you contribute qualifies for a top-up from the government in the form of income tax relief. So it costs a basic-rate taxpayer £80 to make a £100 contribution, and £60 for a higher-rate taxpayer. Once invested in a pension, your money grows free from income and capital gains tax.
Martin Bamford, a chartered financial planner with the financial adviser Chase de Vere, says: “By factoring in a pension contribution to your monthly budget, you can establish financial goals for your business that support your lifestyle today and in the future.”
The mathematics of compound interest mean money invested earlier in life works harder than pension contributions you make closer to retirement. Studies suggest someone who starts a pension at age 25 will have twice as much in their pot at 65 as someone who waits until they’re 35, and four times as much as someone who doesn’t start until they are 45 years old.
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Bear in mind that most private pensions are flexible. “You can start, stop, increase or decrease your payments without charge or penalty,” says Philippa Gee of Philippa Gee Wealth Management.
Maike Currie, the investment director for personal investing at Fidelity International, recommends a self-invested personal pension (Sipp) that gives you maximum control over where your contributions are invested. You have access to the same range of funds that you would when making use of an individual savings allowance (Isa), and potentially other assets if you want to make more sophisticated choices.
Ideally, self-employed people should save up to 20 per cent of their earnings. However, one of the problems with being self-employed is not knowing your profits or earnings until after the end of the tax year, when it is too late. Danny Cox of Hargreaves Lansdown, the financial planner, says: “Most self-employed people save into a pension on a monthly basis, and then make a top-up based on an estimate of their earnings in the last month of the tax year.”
The rules on pension tax relief can also be valuable here. Ordinarily you may invest no more than £40,000 in a private pension each year. However, under the carry-forward rules, unused allowance from the past three years can be brought forward to this year.
So if you made no pension contributions before this tax year your allowance in the 2017-18 tax year would be £160,000. This freedom is worth exploiting if your income tends to arrive in fits and starts. Making sure that your partner is exploiting their pension saving opportunities is also crucial.
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If you’re concerned about tying up money in pensions that you might need for your business, consider saving in other tax-efficient ways. Isas offer almost equally generous tax breaks to private pensions, but can be accessed at any time; money invested in a pension can’t be withdrawn until age 55.
Mr Cox says: “A Lifetime Isa is a good option for retirement savings for self-employed, basic-rate taxpayers. Up to £4,000 can be saved annually and the government adds up to £1,000, which can be accessed tax free and without penalty from the age of 60. Higher rate taxpayers should consider pensions first, however, because of the 40 per cent tax relief.”
A key thing is not to assume that your self-employment will fund your retirement. Mr Bamford says: “People have the belief that the self-employed will keep working into later life, making the need for pension savings redundant. Some also have grand ideas about selling businesses for large amounts of capital — we need to robustly challenge these assumptions.”
However, self-employed people do receive a state pension like everyone else, providing they have made the relevant national insurance contributions. You need to pay in for a minimum of ten years to qualify and 35 years to get the maximum payout.
Bear in mind that the state pension age is changing and from 2020 will be 66, increasing to 67 between 2026 and 2028, 68 between 2937 and 2039, and linked to life expectancy after that.
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Other considerations
Life cover
Workers often have the protection of a “death in service” benefit from their employer, which the self-employed don’t. You might want to buy life insurance to financially support a spouse, partner or child if you were to die.
Income protection
You do not get sick pay if you work for yourself. Consider an income protection policy, which pays an income until you can return to work.
Maternity pay
While you don’t qualify for maternity pay from an employer, you may qualify for the government’s allowance. This is 90 per cent of your average net weekly earnings up to a maximum of £140.98 a week for up to 39 weeks. There is no statutory paternity payment.
Private medical care
Medical cover is a benefit enjoyed by many employees. Going solo means you have to foot the bill for the premiums. You can buy annual cover or opt for a pay-as-you-go option.
Insurance
Professional indemnity insurance will ensure that you are covered against claims made by clients for financial loss or reputational damage. As an employee you would typically be covered for negligent advice, or design or service failures with compensation paid out. Public liability insurance might be worth considering too.