A how-to guide to private pensions

We all dream of enjoying a financially secure retirement.

But in the here and now, the chances are that you’re far more concerned with finding your first job, taking care of your kids or getting a brilliant business idea off the ground. And that’s okay! But alongside all that, wouldn’t it be great to do something to secure your future as well – so you can continue to have a good standard of living once you retire? The good news is that with a private pension plan you can do just that. Read on to find out how they work.

Why do I need a private pension?

Because, to put it bluntly, the state pension is not enough. It’s likely that we will live longer than the generations before us. But at the same time, we are having fewer children. In fact, according to the Federal Statistical Office of Germany, one in three people in the country will be aged over 60 in 2050 compared with just one in six under 20. Due to our aging population, there are fewer and fewer young people to financially support pensioners and state pensions are declining as a result. In numerical terms, this means that you will have to live on 48 percent of your last salary (minus taxes) once you retire. So if you want to keep enjoying a comfortable lifestyle with treats like holidays and meals out, your best bet is to invest in a private pension. This is a flexible way of growing your money in preparation for your retirement. It involves making voluntary, sometimes subsidised, payments into various private pension schemes.

What will happen if I don’t have a private pension?

If you don’t have a private pension, you will have to get by on less than half of your previous income when you retire. This difference between your net salary and pension is known as the pension gap. And it’s bigger than you think. This is because of inflation, which drives up prices while your pension remains virtually the same. Inflation of just 2 percent, for example, will write off a third of your money over a period of 30 years. In other words, your money will be worth less – and you will get less for it.

Who should take out a private pension?

A private pension is the best way of closing the pension gap so that you can maintain your current lifestyle when you retire. It’s a worthwhile investment for everyone – from employees to the self-employed and parents on parental leave.

When it comes to the state pension, the less time you spend paying into it, the less you will receive. We are starting professional life later and later than previous generations, giving us less time to make pension contributions. With career breaks, part-time work and self-employment all becoming increasingly popular, we are also more likely to have contribution gaps.

A private pension is an excellent way for part-time workers and people who take time out of work to make up for reductions in their entitlement to the state pension. And it’s especially important for the self-employed, who have to rely much more heavily on private pension plans. The bottom line is that if you don’t want to leave yourself vulnerable to the whims of the state, a private pension will give you more control over your future.

When should I set up a private pension?

You should think about taking out a private pension as soon as you are on a firm financial footing, with a stable income and some money put away for a rainy day.

Once that’s in place, the best time to start investing in a private pension was yesterday, but the second best time is today. After all, every single euro you pay into a private pension will work to your benefit. A plan with reasonable returns will help you to grow your money, as the interest you earn on your initial investment will also earn interest as the years go by. This ability to earn interest on interest is known as the compound interest effect, something Albert Einstein dubbed the eighth wonder of the world.

The three pillars of the pension system

In Germany, retirement provisions are based on a system of three pillars: statutory pensions, subsidised pensions and private pensions. Statutory pension insurance is obligatory for all employees. Subsidised pensions are provided through your employer or through Riester contracts. Private pensions consist of private life and pension insurance as well as fund savings plans. Ideally, we recommend combining the three pillars according to your requirements.

What are my specific pension options?

The basic pension

The basic pension is also known as the Rürup pension. It works in a similar way to statutory pension insurance and is suitable for the self-employed. You pay into it for as long as you work, profit from tax benefits, and then later receive a pension until the end of your life. You can choose when you want to start receiving your pension.

The Riester pension

The Riester pension is a state-subsidised private pension. You benefit from state subsidies during the savings phase in the form of a basic allowance and a child allowance. Low-income earners with many children benefit most from this. You also receive a one-time bonus if you start saving before you turn 25.

Company pension schemes

Company pension schemes are a way of supplementing your pension through your employer that can bring you closer to your personal pension goal. Part of your gross salary is invested into a private pension scheme, which gives you advantages in terms of tax and social security. Your employer must contribute at least 15 percent.

Private pension insurance

Private pension insurance is an incredibly valuable source of income during your retirement which can be adapted to your needs. You can decide when to retire and whether you want to receive a monthly pension or a one-off cash injection.

How much does a private pension cost?

Less than you think. From just 25 euros a month, you can give yourself the peace of mind that you’re saving for a secure retirement. A good rule of thumb is to set aside about 10–20 per cent of your net income. By taking your age, income, lifestyle and any pre-existing conditions into account, your pension plan can be tailored to your personal situation. Plus, you will enjoy more financial benefits than you would with other types of saving. This is because only savings that are clearly going to be used for retirement purposes are eligible for tax benefits.

Does a private pension come with any tax benefits?

You enjoy tax benefits on every amount that you explicitly save towards your pension. This does not apply to investments in property or securities accounts because these funds are not earmarked for retirement and could be used for other purposes. Depending on your specific pension plan, your tax benefits will take effect either during the savings phase or the pension payout phase. Since the basic pension scheme is a counterpart to statutory pension insurance, payments into it are tax deductible.

How long do I have to pay into my private pension for?

A private pension is a long-term investment and the more time you spend paying into it, the better. With a private pension, you can stop making contributions and start to receive payouts from the age of 62. If you are struggling to pay into your private pension, you can pause your contributions and restart them at a later date. And if things are going well, you can increase your contributions at any time.

When and how is my private pension paid out?

You can choose to retire and begin receiving your pension payments at any time from the age of 62. Depending on your pension product, you can opt to receive a monthly pension, a one-off payment or a combination of the two.

Still have questions? We’re here for you – simply book a personal consultation with our team of experts.