If you are unfamiliar with pensions it can seem a confusing subject. However there are only three main types of pension:
- State Pension
The state pension is the UK government’s pension scheme. It is dependent on National Insurance contributions and you become entitled to receive it when you reach the State Pension Age (SPA). State Pension age can be between 61 and 68, depending on your date of birth and if you are male or female. Anyone can carry on working past State Pension age.
Click this link to calculate your State Pension age.
For more information go to our State Pension page or follow this link to the Citizens Advice site.
- Personal Pensions
A personal pension is an individual arrangement where your contributions are invested and your retirement income is based on the performance of the fund and annuity rates. There are many different pension providers to choose from, each with their own charging structure and range of funds.
Once you retire, you use your Pension Fund to get yourself an assured income – typically for the rest of your life. While many people often refer to this as their “pension”, it is actually an annuity.
Stakeholder pensions are low cost personal pensions that have to meet strict Government standards to make sure they offer value for money, flexibility and security. Stakeholder plans have charges capped at 1.5% for the first 10 years and 1% thereafter. Contributions can be flexible and have low minimums. They are normally restricted to a few funds managed by the pension provider.
There is no limit on how many Personal Pensions or Stakeholder Pensions you can have so long as you are within a maximum annual contribution.
For more information on Personal Pensions follow this link to the Citizens Advice site.
To compare Annuity Rates follow this link.
- Workplace Pensions
A workplace pension is a pension set-up by your employers. Some workplace pensions are called ‘occupational’, ‘works’, ‘company’ or ‘work-based’ pensions.
A percentage of your pay is put into the pension scheme automatically every payday. In most cases, your employer and the government also add money into the pension scheme for you.
There are two main types of Occupational pension:
1. Final Salary or Defined Benefit schemes
Final salary occupational pensions offer a defined pension amount, which is based on your salary and your length of service with an employer.
The amount of income you receive at retirement depends on the accrual rate; typically of 1/80th or 1/60th of pensionable salary for each year of pensionable service.
Final Salary schemes are considered the best available schemes and it is not generally advisable to transfer away from them.
2. Money Purchase or Defined Contribution schemes
With a Money Purchase occupational pension, your employer pension contributions are invested (often along with personal contributions).The final pension is based on the value of the fund at retirement, which will be dependent on the performance of the underlying investments and annuity rates. There is no guarantee of the amount of pension income, which is also the case for personal pensions.
A Guide to Pensions and Retirement including an explanation of the types of pension, can be found at AdviserBook.
Master Trust Pension
A master trust pension scheme provides a workplace pension that can be used by many unrelated employers and their employees. They are also known as multi-employer pension schemes.
A master trust is an occupational pension scheme or group of schemes that:
- provides money purchase benefits
- is used, or intended to be used, multi employers
- is not used, or intended to be used, only by employers which are connected with each other
- is not a public service pension scheme
There are many large master trust schemes for employers and workers, including NEST, which is the workplace pension master trust set up by the UK government.
Details of master trust pension schemes are available from MoneyHelper.
A list of authorised master trust pension schemes is available from The Pensions Regulator.
Income Tax on your pension contributions
Your private pension contributions are normally tax-free up to certain limits.
Details of Income tax on private pension contributions are available from GOV.UK.
Taking your Pension
New pension reforms came into effect on 6 April 2015 giving people over the age of 55 greater access to their pensions pension pot.
From age 55, whatever the size of your pension pot, you will be able to take it how you want, subject to your marginal rate of income tax in that year with 25% of your pot remaining tax-free.
Pensionwise is a free and impartial government service that helps you understand your new pension options.
Lump Sum payment on retirement
Whether you have a Personal Pension or a Workplace Pension, depending on the size of your pension fund, you are usually able to take part of your pension pot as a tax-free lump sum when you start taking your pension. Your tax-free lump sum cannot be more than 25% of the value of your pension fund. However, taking a lump will reduce the amount of your monthly pension payment.
For current rules governing Lump Sum payments click here.
You can choose to take up to 25% (a quarter) of your pension pot as a tax-free lump sum. You then move the rest into one or more funds that allow you to take an income at times to suit you. Most people use it to take a regular income which will be adjusted periodically based on the performance of your investments.
An explanation of Income Drawdown can be found at MoneyHelper.