Why you won't retire at 65

If you were hoping to escape rising retirement age, here's why you may need to think again.

You won’t be able to start drawing your state pension until you reach state pension age. For many years this was set at 65 for men and 60 for women. But you can’t fail to have noticed this is all changing.

First of all, state pension age for women has already started to increase. It will rise from 60 to 65 between 2010 and 2020. Under current Labour legislation, retirement age is due to step up gradually again so that by 2046 it will be set at 68 for everyone.

As it that wasn’t bad enough, the coalition government plans to bring the changes in much sooner so that retiring at 65 will quickly become a thing of the past.

Wave goodbye to early retirement

The chances are you’re hoping to hang up your boots at the earliest opportunity. And, while you may have to wait an extra year or two before you become entitled to the state pension, perhaps you have set your sights on doing so well during your working life you can finance a long retirement yourself.

This is a sound objective, but not one that’s particularly easy to achieve. In fact, according to a new study from Aviva, the UK has the biggest pensions gap in Europe. This means the difference between the amount of income we need to live comfortably in retirement compared with the amount we actually expect to receive. Not wholly surprisingly the shortfall is significant.

The report reveals that on average we need an extra £10,300 every year to close the gap. The table below illustrates how dismally we’re doing compared with other European countries:

Pensions gap across Europe

The figures show average pension shortfalls for all people retiring between 2011 and 2051, which in the UK is based on some 31 million people. In total the pensions gap in the UK amounts to a colossal £318 billion a year.

Closing the gap

These are pretty worrying statistics. But how can you make sure you don’t get stuck with a shortfall in retirement yourself? Clearly the younger you are the better because you’ll have more time available to close the gap. Aviva reports the pension gap for people aged 30 this year is far lower than the average at £1,800 annually. But this figure increases to £3,100 for 40-year olds.

Even if time is no longer on your side it’s never too late to take action to put things right. Clearly, making up an annual shortfall of more than £10K is no mean feat, but it's important to narrow the gap as much as you can. Here are five key ways to build a healthier pension:

1. Start now, save hard

Pensions love decades and decades to increase in value by taking advantage of compound growth over the long-term. Of course, this works at its best for savers who are reasonably young when they start saving. If you have been a little last minute with your retirement planning, don’t panic. There’s an opportunity to make up for lost time by saving as hard as you can now.

In recent years the rules have relaxed and now allow you to invest much more into a pension scheme and still qualify for tax relief. This tax break can really give your pension a valuable boost, and all savers are entitled to tax relief at a rate of at least 20%.

This means you only need to pay £80 out of your own pocket for £100 to be invested with £20 credited to your pension plan from HM Revenue & Customs. If you’re a higher rate taxpayer, you’ll qualify for an extra 20% tax relief which can be reclaimed via your tax return.

Bear in mind that the coalition government is planning to restrict tax relief in the near future. This will likely affect higher earners who may not qualify for tax breaks on all pension contributions going forward.

2. Don’t miss free money

If your employer is willing to pay into a pension on your behalf, you’d be mad to miss it. This is effectively free money, and can really help to step up your contributions levels on top of the amount you’re already paying yourself. If you have recently moved job, or you’re about to, make it a priority to ask about a work-based pension, and set it up at the first opportunity.

3. Choose a cheap pension

Not all pensions are the same. In fact, some are considerably more expensive than others with high charges which can destroy the performance of your plan and easily wipe thousands off the final fund value. If you’re choosing your own scheme it pays to shop around. Take a look at Boost your pension by 25%! for our top tips on how to the right scheme and get good value.

4. Don't forget alternative assets

Pensions are not the only way to save for retirement. You can also enjoy tax breaks by investing in an ISA. If you have some spare cash, using up your ISA allowance - which is £10,200 for the tax year if you invest in stocks and shares - can make sense in addition to your pension.

You won’t get tax relief with an ISA. but your investment will grow free of income and capital gains tax. This means you can draw an income from your ISA when you retire tax-free. You can also take money out of your ISA whenever you like without being tied into a minimum retirement age.

Homeowners should also bear in mind that capital in their properties can also be unlocked via an equity release scheme - or downsizing - to fund retirement.

5. Get the best annuity money can buy

Finally, when the time comes to retire most people buy an annuity which converts their accumulated pension fund into a fixed income for life. The annuity rate you secure will determine how generous your income will be. For this reason, it’s absolutely vital you shop around before you choose an annuity provider. Our guide on how to buy the right annuity is a must-read for anyone in this position.

More: How to build a fat-cat pension | Ouch! New tax rules attack your pension