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Do private pensions increase with inflation? Here's everything you need to know

Learn how to protect your retirement savings against the effects of inflation, with help from pension experts PensionBee.

By Rebecca Roberts | Last updated Mar 20, 2023

Pension advice with PensionBee

In association with

When planning your family's future, it's important to consider how inflation can affect your finances - particularly your pension. Should rising living costs continue, over time, the money you've saved in your pension or otherwise may not go as far in the future. For example, £10 today won't be able to buy as much in two or three decades due to the effects of inflation.

Understandably if inflation continues to rise, this may have a significant impact on your pension savings, especially if you're relying on it as a fixed income in retirement. As Mumsnet user Amboseli points out, when planning your retirement you need to take inflation into account. "So today £300k might be enough to generate £12k pa income, but in 25 years time you'd need to generate probably double to have a reasonable standard of living so would [you] need a pot worth £600k?"

It's important to be aware of the effects of inflation on your pension. If your pension value remains the same, this decreases your purchasing power in the future, which over time could mean that your pension savings might not get you as far as you'd hoped, and you may find that your standard of living decreases.

This can be particularly concerning for families who may have additional responsibilities, such as caring for children or elderly relatives. Fortunately, there are steps you can take now to protect your pension. By being proactive, you can put steps in place to ensure you can enjoy a comfortable retirement. Online pension provider PensionBee have created an inflation calculator so that you can see how your pension could be impacted. 

So, do private pensions increase with inflation? Read on to learn more.

To help you get started, we take a closer look at exactly how inflation affects your pension, the steps you can take to protect your retirement savings, and provide you with practical tips to ensure you have a financially secure retirement in the future. 

What is inflation?

Inflation is the rate at which the cost of everyday things like food, transport and electricity increase over time. 

It’s measured by the percentage change in the price level of a basket of goods and services in an economy. When inflation occurs, the purchasing power of money decreases, meaning the same amount of money can buy fewer goods and services than it could in the past. 

PensionBee provide a good example: 

  • If it cost £1 a year ago but £1.02 today, the inflation rate was 2%.
  • If it cost £1 a year ago but £1.05 today, the inflation rate was 5%. 

Inflation rates change constantly, and while the value of goods generally rises due to inflation, they can also fall when there’s deflation. High levels of inflation can have significant economic impacts, such as reducing the value of savings and income and increasing the cost of borrowing. 

Inflation and pensions

What causes inflation?

There are three causes of inflation:

  1. Demand-pull effect – this is when an increase in spending power increases the demand for goods and/or services. This increase in demand then leads to a rise in price.
  2. Cost-push effect – when production costs increase, there’s a need to increase the total price of the goods being sold.
  3. Built-in inflation – this type of inflation occurs when the natural rise of costs is reflected by a rise in salary or wages. An increase in wages means someone can purchase more with their money, and the cycle continues.

How inflation erodes your money

Inflation can impact not only what you can afford today, but also what you’ll be able to afford in the future. Here’s an example: if you buy a pint of milk for £1 today and inflation jumps to 10%, next year the same pint will cost you £1.10, and then if inflation sticks at 10%, it will cost you £1.21 the year after. 

The effect of inflation is most noticeable when you’re looking at large sums of money, such as your pension pot. For example, if your pension pot is worth £50,000 today, to keep up with inflation and maintain the same purchasing power in 10 years time, with an assumed inflation rate of 2.5% per year, you’d need to have £64,004.23 in your pot. This means over those 10 years you’d need to either contribute or have investment growth of an additional £14,004.23 in order to have the same purchasing power as today. 

It’s important to keep the impact inflation could have in mind when planning for your future financial goals, including retirement and your pension pot.

PensionBee experts shared advice on pensions and inflation
“Our new tool aims to take the guesswork out of retirement planning, helping savers navigate the impact of inflation on their pension pot.”

Becky O’Connor, Director of Public Affairs at PensionBee

Inflation calculator

Use PensionBee’s helpful calculator for free

Find out more

Becky O’Connor, Director of Public Affairs at PensionBee comments: “While pensions are a great way of saving for the future, they aren’t immune to the effects of inflation. Although pensions usually grow at a faster rate, inflation still has the ability to erode the purchasing power of a saver’s retirement savings, as their money has to go further to afford everyday goods and services. While it’s positive to see the inflation rate fall to 10.1% in January, it does still remain close to the historic highs seen in the previous few months. 

“As record high inflation levels are most noticeable when considering large sums of money, our new tool aims to take the guesswork out of retirement planning, helping savers navigate the impact of inflation on their pension pot. By arming savers with the necessary information and knowledge, we hope to encourage adequate future planning so everyone can look forward to a happy retirement. 

“Savers should remember that pensions are long-term investments, specifically designed to beat inflation, and that intermittent ups and downs won’t usually have a lasting impact on their savings.

“However, as always, I would urge all savers to continue making contributions to their pension, as and when they can, to help offset the impact of inflation and ensure their pension can last for as long as possible in retirement.”

Your pension and inflation

Pensions are a great way to save for the future. Not only is your money invested with the aim of growing over time, but if you’re employed, most eligible workers will benefit from Auto Enrolment, meaning both you and your employer have to contribute to your workplace pension, and a minimum contribution rate applies. This is: 

  • Employees have to pay at least 5% of their annual ‘qualifying earnings’, which includes 1% tax relief from HMRC.
  • Employers have to pay at least 3% of an employee’s annual ‘qualifying earnings’ into their pension.

Do private pensions increase with inflation?

The extent to which private pensions increase with inflation depends on the terms of the pension plan itself. Some have inflation-linked benefits, which means the value of pension payments increase in line with the rate of inflation. 

However, not all private pensions offer this feature, and even those that do may have limitations or conditions attached to the inflation adjustment. Therefore, it's essential to check the terms of the pension plan carefully to determine whether and how the pension payments will increase with inflation. If you're unsure, it's always a good idea to check with a pension provider like PensionBee to understand the details of the pension plan and any special benefits your pension may have.

Does the State Pension rise with inflation?

In the UK, the State Pension increases annually in line with the “triple lock” guarantee. The triple lock ensures that the State Pension increases each year by the highest of three possible measures: either by the growth in average earnings, by the rate of inflation as measured by the Consumer Prices Index (CPI), or by a minimum of 2.5%, whichever is highest of the three. 

While the triple lock pledge was suspended for one year between 2021 and 2022, it has now returned. For 2023, pensions and benefits will be uprated by 10.1 percent, in line with the September 2022 CPI figure. 

5 ways to protect your pension against inflation

During periods of economic uncertainty, it’s a good idea to look again at your retirement plan, and consider if you need to make any adjustments. 

Here are five ways to protect your pension income from the increases in the cost of living.

  1. Retire later
  2. Use up cash ISAs first
  3. Withdraw less
  4. Stay invested - but look at where
  5. Add to your pension

Keep reading to discover exactly how each option can help protect your pension.

1. Retire later

Delaying retirement can help safeguard your pension from the impact of high inflation on the stock market, which can cause the value of your investments to fall. It may be best to withdraw pension income when stock markets are less volatile, as taking money out of your pension during a market downturn can deplete your savings more quickly. 

While it's impossible to predict when inflation will decrease, postponing retirement and delaying pension withdrawals may be a wise strategy to protect your financial future.

PensionBee shares ways to protect your pension against inflation

2. Stay invested - but look at where

Don't panic if you see the value of your pension investments falling, as markets often go up and down. Selling out of your investments when markets are falling isn’t usually a good idea as high inflation can reduce the buying power of cash and you’re likely to lock in your losses. 

As you approach retirement, it’s usual for people to move their pension into less risky investments to preserve their savings. You may want to review your pension every few years to ensure it’s invested in the right assets for your life stage and still meets your long-term objectives. Diversification that’s right for your life stage is key. 

3. Withdraw less

During a period of high inflation, withdrawing less money from your pension may be a wise decision. While it might seem counterintuitive during a period of high inflation, keeping more of your savings invested gives your pension a better chance to grow over time and keep up with inflation.

Traditionally, people entering retirement have been told to withdraw around 4% of their total pension pot’s value as income each year, but during times of high inflation, it may be beneficial to reduce this amount, especially for smaller pots. Remember, you can adjust the amount you withdraw each month to balance out higher expenses in some months. By making strategic decisions about your pension withdrawals, you can help safeguard your financial future.

4. Use up cash ISAs first

To help protect your retirement savings from inflation, consider using alternative sources of income first, such as cash ISAs. This can give your invested pension time to recover in the event of a stock market downturn. 

Since inflation can erode the value of cash savings, taking income from specific investments, like bonds or dividends, can be a better option than selling investments at a loss. By adopting these strategies, you can insulate your pension from the negative impact of inflation.

5. Add to your pension

Falling stock markets can be an opportunity to buy more assets at lower prices. Therefore contributing more to your pension, if you have disposable income, can be beneficial in the long-term, but there are tax implications if you have already started drawing on your pension.

Gain advice about your pension from PensionBee

Importance of growing your pension pot

Inflation can diminish the value of your money gradually over time, especially if it is kept idle under your mattress or in a low-yield savings account. 

Pensions offer additional advantages, such as your employer contributing to it on your behalf, the government increasing your contributions through tax relief, and the benefit of compound interest. 

If you’re looking to consolidate your old pensions into a hassle-free online plan in anticipation of retirement, consider PensionBee, the UK’s leading online pension provider. 

About PensionBee

For far too long consumers have struggled to manage their retirement savings. Pensions are often complicated, presenting a significant obstacle for savers wanting to take control of their money. In addition, many of us have no idea what we have saved, or how our pension is being managed.

This is where PensionBee can help. Our technology platform is designed to make it easy for savers to combine their old pensions into one diversified online plan, so they can take the first step towards a happy retirement. We’ve created pension calculators and retirement forecasting tools to help savers plan ahead, so they can build a clearer picture of what they should be contributing to meet their retirement goals. Then, when they reach the age of 55 (57 from 2028), we help our customers make hassle-free withdrawals.

Risk warning: As always with investments, your capital is at risk. The value of your investment can rise or fall, and you could receive back less than you invest. This information should not be considered as financial advice.