Opting out of automatic enrolment into a workplace pension for the first ten years of working life could cut 20% off the value of the retirement fund, according to research conducted by the Pensions Policy Institute.
The report, The impact of opting-out of private pension saving at younger ages, commissioned by Prudential, showed that the cut would amount to nearly £19,000 for a median-earning man.
A man on median earnings of £22,400 from age 22 to state pension age could expect a final pension fund of £93,600 based on minimum contributions of 8% of band earnings. This fund could generate a £23,400 tax-free lump sum and a pension income of £3,850 a year after tax.
If the employee opted out for the first 10 years, he may be £620 better off annually in terms of disposable income by not making pension contributions.
However, the impact of this later in life when taking into account the lost tax relief and employer contributions over that period, plus the long term investment return, could reduce his retirement fund by nearly £19,000 to £74,800.
The tax-free lump sum could reduce to £18,700 and the pension income could fall to £3,100 a year after tax – an overall reduction of 20%.
Meanwhile, the cost of opting out could be even higher for a lower-earning woman on a salary of £17,300 with a typical work history including a five-year break to care for children, two years to care for elderly parents and four years of part-time work.
If she also opted out for 10 years at the start of her working life, she may be £290 better off annually in terms of disposable income by not making pension contributions.
But the impact of this later in life when taking into account the lost tax relief and employer contributions over that period, plus the long term investment return, could reduce her potential retirement fund of £35,000 by 25% to £26,100, providing a tax-free lump sum of £6,500 and a pension income of £1,000 a year.
Barry O’Dwyer, deputy chief executive at Prudential UK, said: “Auto-enrolment is expected to encourage an extra four to nine million people either to start saving into a pension earlier, or to save higher amounts.
“But we need to be realistic and recognise that for some young people starting out in their career or building a family, taking on the additional expense of investing in a pension may not be a high financial priority initially.
“That’s one reason why employer contributions and tax-relief on pension contributions are such important incentives – they don’t cost the individual anything yet they contribute significantly to the final value of a pension at retirement.”
For more articles on the 2012 pension reforms and auto-enrolment