How to put money away for a comfortable old age

We all want lots of cash to spend when we retire. We know we need to put money aside for retirement while we are drawing a salary. But, for several reasons, few of us act early enough or invest a realistic amount of our income in a pension.

One reason is the dreary complexity of pensions. If you buy a television nobody bores you with descriptions of the cathode ray tube. If you buy a pension, you run the gauntlet of bewildering sets of initials and concepts - is it better to have a company or a personal pension? How about an AVC, a FSAVC or a SIPP?

Assuming you can stand the pulsating excitement, you also need to make sure your contribution doesn't fall foul of the maximum percentage of what the Inland Revenue calls your "relevant" earnings. Once you discover that this percentage varies with your age you can be forgiven for deciding, like millions of other people do, that of course you will invest the right amount in your pension - but not just yet, not in fact until it is too late and your retirement income is more or less doomed to be less than you need.

The Government gives generous tax relief on pension contributions. Each pounds 100 invested costs you only pounds 75 (pounds 60 if you are a high rate taxpayer). But this Government carrot has a stick to match: its tax generosity is accompanied by a requirement to lock up your pension money for years and years, irrespective of what might happen in your life in the intervening period.

While it is perhaps prudent to have a proportion of your investment locked away - removing the temptation to spend too much too soon - losing control of the whole lot can be a serious deterrent to investment planning for retirement. You just never know when you will need early access to some of your capital.

For some people another obstacle is that although you receive tax relief on the way in, your pension is taxed on the way out - when, that is, you start to draw it. Given that your retirement income is likely to be much less than your income at work, this is an unwelcome reversal.

You can see how large obstacles such as these loom in the lives of most of us when you realise that fewer than one employee in a hundred expects to retire on the maximum pension allowable by the Inland Revenue (two- thirds of your final salary up to a salary limit of pounds 78,600). Only one employee in 10 makes any voluntary top-up to his or her company pension. For the millions not in company schemes provision is, if anything, worse.

But there is a solution - the personal equity plan.

Peps should not be seen as an alternative to pensions, which should remain the cornerstone of every retirement plan. Where Peps change the equation is when they are taken in conjunction with a pension, and every sensible retirement package should include both a pension and a Pep. Then you can maximise your tax saving and retain your freedom of action.

Peps and pensions each provide tax breaks that complement each other. Although you make your Pep investment out of taxed income, when you retire you draw all the income tax-free. This counterbalances the tax structure of the pension. But they both grow in a tax-free environment, so over years they will produce a much larger capital sum than would an identical investment in a taxed environment.

The other valuable addition that Peps bring to your retirement package is flexibility. Unlike a pension investment, your money is not locked away.

That exposes you to the temptation to blow part of your retirement savings on frivolous purchases long before you retire. But, assuming you are a mature adult, the freedom to access your money early if you hit a real financial crisis has to be a plus.

So is the complete divorce between your Pep and the annuity rates on which your pension income is based. The beauty of pension income for an elderly person is that, being based on an annuity, it is secure and guaranteed for life. The downside is that if annuity rates are unusually low at the time when you retire you can be trapped for the rest of your life by a low pension annuity income.

Your Pep income by contrast is based on the dividend growth of the underlying investments and not on the vagaries of current interest rates. With a decent Pep income an elderly person could, if need be, delay taking the pension until annuity ratesstrengthened.

The value of the Peps would also increase your ability to enjoy retirement. There is no restriction on when you can spend your Pep money. If you are a high earner you are probably caught by the Revenue's ceiling on pension contributions. If so, you will relish the freedom to invest up to pounds 9,000 a year in general and single company Peps.

The author is Director General of the Association of Unit Trusts and Investment Funds. For more information on Pep-pension combinations, ring 0181 207 1361.