Image source: Getty Images
The Self-Invested Personal Pension (SIPP) is a powerful weapon I believe every Briton should consider opening. Thanks to the benefits of juicy tax breaks — and the boost this provides to the compounding process — even someone late to the investing party stands a decent chance of retiring with an abundant income.
Here’s how even someone with less than 20 years to retirement can target a decent income in later life.
Compound benefits
There are some drawbacks to the SIPP compared with, say, the Stocks and Shares ISA, another popular product among long-term savers and investors.
Both of these tax wrappers shield savers and investors from capital gains and dividend tax. But with the ISA, no income tax is due when drawdowns are made. SIPP users pay a penalty if they make withdrawals before the age of 55 (rising to 57 in 2028). ISA users face no such penalties
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
However, such age restrictions may not be problematic for those not looking to withdraw before State Pension age. What’s more, the benefit of tax relief on SIPPs — which ranges from 20% to 45% — may still make this route more financially advantageous over the long term.
A £25k+ retirement income
This is because tax relief accelerates the rate of compound growth, giving pension contributions more time to grow exponentially.
Let’s say we have a 50-year-old who invests £500 a month. They are a higher-rate taxpayer, giving them 40% tax relief. They also manage to secure a 9% average annual return.
Based on this, they’d have a retirement fund of £335,243 by the time they reach their State Pension age of 67. Without this tax relief and the boost to monthly compounding growth, they’d have a far lower £239,459.
That’s a difference of £95,784.
Combined with the State Pension, they’d have a total annual retirement income of at least £25,383. That’s based on a 4% annual drawdown rate on their SIPP, combined with the current full state benefit of £11,973 a year.
A FTSE 100 wealth builder
This is a realistic target, in my opinion, given that a 9% annual average rate of return is between the 8%-10% long-term average that share investing’s historically provided.
Such returns are never guaranteed. After all, stock markets can go down as well as up. But investors can harness the wealth-growing power of share investing with a diversified portfolio of stocks.
Investment trusts like the F&C Investment Trust (LSE:FCIT) can provide this diversification simply, cheaply and effectively. Indeed, this FTSE 100 trust has delivered an average annual return of 11.7% over the last decade.
F&C has been in existence since 1868, and holds approximately 400 global shares in its portfolio. This wide geographical footprint, added to broad sector exposure, means the fund spreads risk while simultaneously providing investors access to many different investment opportunities. This makes it worth serious consideration in my view.
Major holdings range from semiconductor manufacturer Nvidia and e-retailer Amazon, to credit card provider Visa and insurance AIG. Its high weighting of US tech shares makes it vulnerable to rising sector competition from China. But it still creates significant long-term growth potential as the digital economy rapidly expands.
Trusts like this mean even investors who are late to the party still have a great chance of building a healthy retirement fund.
This story originally appeared on Motley Fool
