Pension Investing In Your 40s.

With mortgages, childcare, holidays and the general cost of living in Ireland, your 40s can be stressful. At the same time, it’s usually when people are earning more than ever before, which adds to the pressure to make smart financial choices.

With your 60s just around the corner, you’re also probably starting to take retirement more seriously, wondering if you will be in a comfortable financial situation after a long career.

This means that one of the most important financial decisions you’ll have to make in your 40s is reviewing your pension, and ensuring you’re getting the best bang for your buck.

Adopting the right strategy is crucial, and seeking tailored advice from a financial expert in your 40s could make a huge difference to your pension pot. But before you do that, you can use this article as your starting point.

We will guide you through all the essentials of pension investing in your 40s, exploring everything from tax perks and fund performance to taking a lump-sum and how much you should contribute.

But let’s begin with our 4 key principles, which we will expand upon in more detail below.

There are over 600 pension funds to choose from in Ireland, and you may have been in the same fund since you started your pension without giving it much thought. But is this the best fund, and are there similar funds from other providers with better performance or lower fees?

Most people are unaware of their pension fund’s performance and charges compared to others, but moving your savings could mean having tens of thousands more to enjoy in retirement.

We’ve selected the best 10 pension funds to compare in your 40s, which may be suitable for you based on their risk profiles and long-term growth potential.

One major worry that people have in their 40s is whether they are contributing enough to their pension to ensure a comfortable and enjoyable retirement.

There is no one-size-fits-all answer to this because everyone has different family circumstances, mortgages, loans, lifestyles, and other expenses that are specific to each person.

Many people aim to achieve around 50% of their salary in retirement, as many of the expenses that you are currently faced with in your 40s, i.e. mortgages and children, will not be the same in your 60s.

This 50% target is arbitrary of course, but whatever you aim for can usually be achieved with a combination of the State Pension and a private pension, provided you are contributing enough to the right fund.

John is 45 years old and he earns €60,000 per year. His pension target is 50% of his pre-retirement income, i.e. €30,000 per year.

With the current State Pension, he would achieve about half of this, meaning his private pension must be large enough so that he can comfortably withdraw €15,000 per year.

John has been contributing €200 to a pension for around a decade, and his current pension pot is €35,000.

His current pension fund has an average annual growth rate of 8.4%. John will move to a lower risk pension fund when he is 55, and then again when he is 60. For the sake of this example, these funds have 4.2% growth and 1.5% growth respectively.

So what does John need to contribute to achieve his goal?

In our simple example, John would need to contribute 10% of his salary to achieve his desired pension pot at 65. 

However, our example doesn’t take into consideration John’s salary, which is likely to increase, or his intention to increase his contributions in his 50s.

And like many people, John also plans to cash in 25% of his pension in a lump sum to pay off his mortgage – so let’s look at how that works next.

People often become excited when they first hear that they can take a tax-free lump sum from their pension.

For many, this is a lifeline in their 50s, and a great way to pay off their mortgage, put their children through college, or pay off any short-term debt.

It can be a great boost when you most need it – but this doesn’t necessarily mean that you should plan your finances around taking a quarter of your pension as soon as possible.

In your 40s, you should begin thinking seriously about the pros and cons of a lump sum payment, and making sure your pension is large enough to cover you and any dependents in retirement after you withdraw the money.

It works like this: when you turn 50, you can usually cash in 25% of your pension pot without paying tax on it, up to a lifetime maximum of €200,000. The rest of your savings are transferred to an ARF – an Approved Retirement Fund, or used to purchase an annuity – which is essentially a fixed annual income for life.

But remember – with an ARF, you cannot continue to contribute to your pension. This means you cannot avail of tax relief on pension contributions, and you will also have to start withdrawing at least 4% from the age of 61 whether you like it or not.

Let’s return to our example of John, who keeps his current pension fund for the next 10 years and it grows at the same rate (8.4%).

At 55, he is tempted to dip into his retirement savings which are now €160,000 because he started to contribute €500 per month. John receives €40,000 tax-free to pay off his mortgage, leaving him with just €120,000 – which he can no longer add to.

However, if he had waited 5 more years until he was 60 to take out his lump sum, his pension would have grown to around €237,000. 

Although John would have contributed €30,000 more over those 5 years, his pension pot would have grown by €77,000, allowing him to withdraw almost €60,000 with a substantial savings pot to retire on.

This shows the real power of compound growth and the dangers of cashing in too early. Taking a tax-free lump sum could be a great option, however, provided you are in the right fund, and you begin to maximise contributions as early as possible. 

By contributing more of your salary, you can build up your pension, and you can take 25% of your savings tax-free when you are happy with your pot.

And because of tax-relief which we will look at next, maximising your pension contributions is a no-brainer if you can afford it.

Our biggest monthly expense is almost always taxes, and most people would bite your hand off if you said you could lower their taxable income so that less of their salary goes to the taxman.

In your 40s, the most efficient way to lower your taxable income legally (i.e. pay less tax), is to avail of tax relief on pension contributions. You can contribute up to 25% of your income between the ages of 40 and 49.

What this means is this: if you contributed 25% of your €100,000 salary, you would put €25,000 towards your pension. Your taxable income would be reduced to €75,000, slicing off a massive chunk of your salary that is taxed at 40%.

If you earned €60,000 like John in our example above, you could put €15,000 per year towards your pension, reducing your taxable income to €45,000. In his case, only €3,000 of your income would be taxed at the higher 40% rate, as opposed to €18,000.

So should you aim to contribute all 25%? This is a tricky question and the answer depends on your unique financial situation. For most people, 25% will be too much, and they will aim to contribute a smaller percentage. 

But as we have learned, building up your pension pot in your 40s in preparation for your tax-free lump sum is crucial – and if you can afford it, it’s a no-brainer.

Essentially, maximising your contributions means that you:

A win-win-win situation, if you will.

Another reason to take advantage of tax relief in your 40s is related to growth and risk – which we will look at now.

With around two decades to go until you retire, you can choose a pension fund with high long-term growth potential. This is a major advantage that you have over people in their 50s or 60s. 

These pension funds are likely to be labelled ‘4’ or ‘5’, indicating moderate to moderately high risk. But because there is plenty of time to ride out any highs and lows, these funds should give you the best returns.

Being too cautious (i.e. choosing an excessively low risk fund) might give you peace of mind that you won’t lose your investments, but this strategy makes little sense when we look at long-term growth of high-equity pension funds. 

This is because the markets have always recovered, and so too have people’s pension funds.

You can then reassess your situation to ‘de-risk’ in your 50s, which will give you more certainty as you near retirement. This will generally mean that your pension growth will decrease as you get closer to retirement.

At the same time, we don’t recommend opting for an extremely high risk (6 or 7) fund – striking a balance in your 40s is key.

The bottom line is this: if you play it safe too early, you will probably be worse off in retirement based on the long-term performance of ‘moderately high risk’ pension funds.

Your 40s are a time of change – and it can often be a challenging decade from a financial standpoint. The speed with which each year passes might also be setting off alarm bells when you discover that you are only about 20 years away from retirement! 

But with the right pension strategy in place, you will be able to enjoy your retirement, which you will deserve after a long working life. 

Let’s briefly recap our 4 key principles before we let you go. 

We recommend using this guide as a starting point, using it to understand some of the key principles before availing of professional financial advice.

A final point: if you have never started a pension, don’t panic. You still have time to build up a substantial retirement savings pot if you adopt the right strategy and start contributing as soon as possible.

We will leave you with some links for further reading below which might be of interest. And with that, all that’s left to say is good luck on your pension journey!