Pensions can be confusing, and when ministers keep chopping and changing the rules it is easy to make mistakes.
But it takes a lifetime to grow your pension savings, and getting it wrong can have serious consequences come retirement.
Here, we reveal the common mistakes people make – from taking a lump sum in the wrong way to triggering a little-known tax penalty – and estimate the cost to your retirement fund. So, which ones are you at risk of making?
1. Opting out of workplace pension: £48,000
Most employees are automatically signed up to their workplace pension if they are over the age of 22 and earn more than £10,000 a year, but this is not mandatory and you can opt out.
When the cost of living is rising or other savings goals, such as buying a home, are a priority, stopping pension contributions may feel like an easy way to save money.
Starting early is the simplest way to build a decent pension pot. This is because your money has longer to grow and for compound interest to work
But leaving a workplace pension scheme is like turning down free money. Through auto-enrolment, workers contribute a minimum of 8 per cent of their salary into their pension each year – but they pay just over half of this themselves: 1 per cent comes from the Government, through tax relief, and 3 per cent from their employer.
Someone earning £35,000 would contribute about £1,150 a year, with a further £287 coming from tax relief and £863 from their employer. Some workplaces are more generous and may match what you put in or even offer more on top.
You are automatically enrolled if you are over 22, but you can opt into a workplace pension if you are younger.
Research by Scottish Widows found that opting out of a pension for just four years, from age 18 to 22, could mean you retire with £48,000 less than if you’d continued contributions. That is because even a small savings pot set aside at this age has a long time to grow until retirement.
Susan Hope, from Scottish Widows, says: ‘If you’re struggling, it is usually better to reduce payments rather than stop altogether, so you keep benefiting from that employer top-up and compound growth.’
2. Delaying saving: £300,000
Starting early is the simplest way to build a decent pension pot. This is because your money has longer to grow and for compound interest to work.
Leaving it later means you have to save more each month to end up with the same amount.
A 25-year-old earning £35,000, saving 8 per cent of their salary, could have £560,491 by age 68, according to number-crunching by wealth management company Quilter. This assumes annual investment growth of 5 per cent, wage growth of 3 per cent, and fees of 0.7 per cent.
If the same person waited until 45 to start saving, they would have £262,188 by retirement.
Maike Currie, from PensionBee, says: ‘Time is the most powerful ingredient in retirement saving, and starting early gives compounding the fuel it needs to work its magic. Delaying means you’ll need to save far more to reach the same goal.’
3. Using a default fund: £607,806
Unless you choose otherwise, your pension is invested in the default fund, which is a one-size-fits-all investment fund chosen by your company.
Some are better than others, so it is a bit of a lottery, although it is generally a middle-of-the-road investment option designed to be a fairly steady earner rather than a top performer.
Research by financial education group Investing Insiders found that the best-performing default fund in the five years to December returned 180.3 per cent, while the worst lost 98.6 per cent.
That means someone who had invested £100,000 five years ago could either have £280,300 or just £1,400.
In the defined contribution pensions used in the private sector, the responsibility for turning a pension pot into a viable retirement fund is on the worker, not the employer. So it’s important that you take matters into your own hands and check you are happy with where your money is invested.
A 21-year-old earning £30,000 could have £234,618 in their pension by retirement with annual growth of 3 per cent, according to PensionBee, assuming minimum contributions and 2 per cent annual wage increases.
But if their money grew at 5 per cent a year instead, they would amass £439,785, and at 7 per cent their pot could be worth £842,424 – that is a huge £607,806 more.
Holly Tomlinson, financial planner at Quilter, says: ‘Many people don’t realise how their pension is invested. While sticking with the default fund can be the easy option, performance can vary significantly.’
4. Paying too much in fees: £28,000
When choosing where to invest, pay attention to fees – they eat into returns and can have a significant impact over time.
This might be more difficult to control in a workplace pension, where you may not get to choose the provider, but it is worth checking – and it is particularly important for anyone with a self-invested personal pension (SIPP).
Someone who contributes £5,000 a year for 30 years could end up with £291,000 with annual charges of 1 per cent, according to analysis by investment platform AJ Bell, assuming annual growth of 5 per cent.
But halving the fees to 0.5 per cent could see their pot grow to £319,000.
A major pension perk is the ability to withdraw 25 per cent of your pot as a tax-free lump sum once you reach 55 (although this is rising to 57 in 2028)
But fees are not the only thing to be mindful of – consider factors such as the fund’s strategy, risk level and its performance track record.
5. Not asking HMRC for a refund: £52,680
One reason pensions are such an efficient way to save is because you receive tax relief on contributions.
For a basic rate taxpayer, an £80 contribution is effectively topped up to £100 by the Government. For higher rate payers, a £60 contribution is topped up to £100.
But many higher and additional rate taxpayers do not realise they may need to actively claim back this extra tax relief.
There are two ways that tax relief is applied to contributions: net pay, where contributions are taken before you pay tax; and relief at source, where they are made from your post-tax income.
With relief at source pensions or Sipps, only the 20 per cent basic rate of tax relief is applied automatically and you must claim the extra 20 per cent through a tax return or by contacting HM Revenue & Customs (HMRC).
More than £1billion of pension tax relief is sitting unclaimed by 800,000 higher earners, according to a Freedom of Information request by the pension consultancy LCP.
Based on an annual pension contribution of £8,782 (the average figure given on tax returns), this could mean a loss of £1,756 each year for a higher rate taxpayer.
Assuming you saved that amount every year for 30 years, that’s a huge loss of £52,680 before taking into account any investment growth over that time.
You can claim tax relief for the past four years, so it’s worth checking if you’ve missed out.
To check how your tax relief is paid, have a look at your payslips or you can ask your employer or pension provider.
7. Taking a lump sum when you don’t need it: £31,250
A major pension perk is the ability to withdraw 25 per cent of your pot as a tax-free lump sum once you reach 55 (although this is rising to 57 in 2028).
Many use this to clear their mortgage, pay for house renovations or other big-ticket items.
But if you don’t need the cash, think carefully before taking it.
Money which is saved in a pension can grow tax‑free, so by withdrawing it you may miss out on further investment growth, especially if you plan to just leave it in a savings account.
Say you had a £200,000 pension pot and withdrew 25 per cent (£50,000) as a tax-free lump sum. Over a decade, the remaining £150,000 might grow at 5 per cent to £245,000.
But if you had left the full amount in your pension, the £200,000 could grow to £325,000 and the amount you could take as a tax-free lump sum would be £81,250, according to analysis by AJ Bell.
Catherine Foot, from retirement specialist Standard Life, says: ‘For some people, the reassurance of having that money in hand outweighs the potential for a larger pension pot down the line. But choices made in the short-term can jeopardise financial security later on.’
8. Triggering a little-known tax penalty: £100,000
Normally you can contribute up to £60,000 or 100 per cent of earnings to a pension each year – whichever is higher – and receive tax relief.
However, the amount you can contribute while receiving tax relief falls dramatically if you have taken taxable income from your pension.
Steve Webb, from LCP, says: ‘It might be you are short of money because you lost your job, but hope to get a new job and start pension saving again’
A tax rule called the ‘money purchase annual allowance’ reduces the amount a saver can pay in and earn tax relief from £60,000 to just £10,000 a year. This does not include the tax-free lump sum, which can be withdrawn without triggering the tax penalty.
But why might you access your pension but then want to keep paying into it?
Steve Webb, from LCP, says: ‘It might be you are short of money because you lost your job, but hope to get a new job and start pension saving again. In which case, you may regret using your pension pot as an emergency cash reserve.’
For someone who usually contributes £30,000 a year to their pension and wants to keep saving for another five years, triggering the tax rule could cost them £100,000 in lost contributions, as they’d be limited to £10,000 a year – £20,000 less than they wanted – or just £50,000 over the five years.
9. Not shopping for the best annuity: £25,075
Annuities are not as popular as they once were, but can be a great option for those who want clarity on exactly how much they can spend each year in retirement.
An annuity is where you give a company a lump sum from your pension in return for a guaranteed yearly income until death.
But many people don’t realise they should shop around for the best deal, as the rate they pay out can vary substantially.
For a 65-year-old with a £100,000 pension pot, the best annuity pays £7,544 a year and the worst £6,541, according to financial services firm Just Group – that’s a difference of £1,003 a year, or £25,075 over a 25-year retirement.
Be sure to disclose health conditions or lifestyle factors, such as smoking, that could affect your life expectancy. These could qualify you for an enhanced annuity, which pays more. David Cooper, director at Just Group, says: ‘You only have one chance to get the best deal, and the better the deal the more income you will enjoy for the rest of your life.’
For a free copy of The Complete Guide To Pensions For The Over 50s, written by Money Mail editor Rachel Rickard Straus, call freephone 0808 303 7283 or visit mailfinance.co.uk