How cutting your pension contributions to save money will cost you thousands

Investors risk losing tens of thousands of pounds from their pension if they cut back on contributions to get through the cost-of-living crisis. Katie Binns explains why you should pause for thought.

Almost half of Britons (43%) will not be able to save money in the next 12 months, according to an Office for National Statistics (ONS) survey that revealed the cost-of-living crisis being suffered across the country.

The same number of adults (43%) said it was very or somewhat difficult to afford their energy bills during March, while 17% said they were borrowing more money or using more credit than they did a year ago.

Even those who were financially stable before will likely now have to pare back their outgoings and rework their finances to make ends meet.

Earlier this month, data showed higher-than-normal withdrawals from Self-Invested Personal Pensions (SIPPs) in January and February this year, suggesting investors are leaning on their pensions to help cover the rising cost of living.

Will investors similarly look to their pensions to temporarily cut their contributions, or even stop pension funding altogether to save money? Significant pressures on your finances today might make this an appealing option.

We’ve calculated how big an impact cutting contributions too much and for too long, or stopping your pension altogether, can have.

Keeping an extra £100 a month for rising living costs can lose your pension tens of thousands of pounds

The cash you put in your pension could be worth more when you retire than if you kept it now. That’s because it’s got time to grow, and there’s the added benefit of tax relief and employer contributions. 

If you take a one-year break from contributing 8% of a £30,000 salary towards your pension, you’ll save £1,200 of your own money but miss out on total contributions of £2,400. The cost to your retirement pot would be around £5,000. So instead of having £207,340 in your pot when you retire, you’d have £201,904, assuming 2.5% investment growth and 1% salary growth each year you are working.

If the cost-of-living crisis drags on and you end up taking a five-year break from contributing 8% of your £30,000 salary, you’ll save £6,000 of your own money (around £100 a month) but miss out on total contributions of £12,000 in the process. The cost to your retirement pot would be around £27,000. So instead of £207,340 by age 66, you’d be looking at around £180,385, using the same assumptions.

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Becky O’Connor, head of pensions and savings at interactive investor, says: “The tax relief and employer contributions available with pensions are so valuable. They mean you effectively double the money you are putting in each month yourself. So to give this up to get through higher living costs now is really a big deal and not to be taken lightly. It’s in many ways a false economy.

“That said, times are tough, and pressing pause in order to survive is understandably playing on some people’s minds. If you have to, just be very careful to do so for the shortest time possible and get back on the pension wagon as soon as you can.”

In summary

Your ISA can miss contributions, but there are far more implications for your pension.

There is no free money available to the masses in any way quite like what’s on offer with pensions and so stopping contributions is like looking a gift horse in the mouth. 

Increasing your pension contributions via salary sacrifice can help to cut your overall income, thereby bring down your tax bill and ultimately boost your income.

Reduce pension contributions as a last resort rather than cutting altogether.

If you do temporarily cut your contributions, increase them when your personal finances allow - regularly or lumps sums - or consider working extra months or years.

If you are approaching retirement, it makes sense to keep contributing as much as possible to benefit from the tax relief – it won’t be long till you can access the money.