I'm was lucky enough to go to the O2 this weekend to watch the boxing match between Kell Brook and Gennady Golovkin. It was a gutsy show from the Brit, even if it was all over a little sooner than I would have hoped.
Boxing isn't a sport for everyone and, likewise, people have investment preferences too. In this vein, another contest was reignited last month when Andy Haldane, the Bank of England's chief economist, put the cat amongst the financial services pigeons, when he stated in a Sunday Times interview that 'property is almost certainly better for retirement than pensions'. Cue lots of posturing from both sides.
The British obsession with property
Property is a real favourite with us Brits and house prices make for a slightly more interesting conversation than pensions, if the glazed looks of my friends are anything to go by. But is property really better for retirement than a pension? I'd argue not, particularly for younger generations.
A recent survey* of the so-called 'Millennial' generation (those aged 18-39) showed that 24% still view property as the best way to save for retirement. However, with house prices still rising much faster than wage growth, affordability is a real issue. With young people struggling to even save enough for a deposit for their own home, let alone a buy-to-let, is this the message we should be giving people?
Over the past couple of decades, it is true that a lot of money has been made from buy-to-let, however, so are Mr Haldane and a quarter of Millennial right?
In December last year, the Daily Mail ran some numbers looking at Property vs ISAs. They looked at a buy-to-let deposit vs an equivalent ISA investment. After all costs, and including a number of assumptions, buy-to-let came out on top over 25 years. Translating this to pensions (albeit using 'back of the envelope' calculations), if you invested the money in a pension and enjoyed the 20% tax relief on your contributions, all other things being equal, there is very little between the two.
I think it's also fair to say that a pension investment is less expensive, and less onerous to maintain and manage, than a buy-to-let property. It's also important to note that pensions are now extremely tax efficient for inheritance tax purposes, unlike buy-to-let.
I can't make the remotest sense of pensions
At this point, it's probably also worth touching on the point that everyone thinks pensions are complicated. Indeed, in a previous interview in May this year, the same Mr Haldane made the comment that he “can't make the remotest sense of pensions”. If the Bank of England's chief economist can't understand, what chance you and me?
But actually, the basic premise of a pension is pretty simple:
1) you are either lucky enough to have a defined benefit scheme with your job (like Mr Haldane) so you work, earn a salary and your company just pays you an agreed percentage of said salary every year in your retirement, or
2) you have a defined contribution pension and/or a personal pension. You may have to contribute yourself, as well as your employer, and how much it grows depends on how well the underlying investments perform.
When you get to 55 you can take a lump sum of 25% tax free and then do what you like with the rest (subject to individual tax obligations).
Yes, there are more nitty-gritty details and maximum contribution amounts, but there is more to buy-to-let than simply purchasing a house too.
Compounding: pensions knock-out punch
The final point I would make is that, unlike a buy-to-let, you can start a pension from a very early age and even small contributions can quickly add up.
Imagine this: if, at the age of 21, you invested £2,500 a year for 10 years (so a total of £25,000), over the next 46 years it would grow to be worth the same amount as if you started saving at the age of 31 and invested £2,500 a year for the next 37 years (investing £95,000 in total)**. That's the power of compounding for you, and to me the knock-out punch that makes pensions the outright winner.
Past performance is not a reliable guide to future returns. You may not get back the amount originally invested and tax rules can change over time. Darius' views are his own and do not constitute financial advice.
*Source: Zurich. 1018 people aged 18-39 surveyed by YouGov in June 2016.
**These calculations assume the same constant annual rate of return for each scenario.