Recent media coverage has underlined the importance of contributing towards a pension and lately, we’ve witnessed a shift in attitudes. For example, shares ISA provider True Potential Investor’s Saving Gap report shows that in Q3 2016, 35% of Brits contributed nothing towards their pension. By illustrating a 4% decrease on Q2, it shows that awareness is on the up.
However, while we know why pensions are important, many are still confused by their options. For example, the same survey found that more than half of over 55s — those closest to retirement — were unsure how they would access their pension pot.
Clearly, now that awareness is on the up, we need to prioritise education, so that we can fully understand our pension options. With that in mind, we have created this guide to the different types of pensions available and the benefits they offer:
When you have a personal pension, you’ll pay in an amount each month. The money you put in will be invested with the aim of growing the fund ahead of your retirement. You have control over how and where this happens.
£40,000 is the yearly investment limit, although this does depend on your earnings. Once you reach 55 years old, you’ll be able to access the funds — 25% of which is tax-free. You can use your funds to purchase an annuity — a monthly amount that’s paid until death — or take an income via Drawdown.
There are a number of benefits of personal pensions, including:
- Tax relief on the money you contribute.
- Potential to increase the fund through investment.
- Suitable for those who may not have access to a workplace pension.
Unlike personal pensions, a workplace pension is organised through your employer. Each month, you, your employer and the government will contribute to your pension.
At present, the minimum you can put towards your workplace pension is 2%, made up of 0.8% from you, 1% from your employer and 0.2% as tax relief. However, as of April 2018, this will rise to 5% of your total earnings (2.4% from you, 2% from your employer and 0.6% as tax relief). By April 2019, the minimum contribution will be 8% (4% from you, 3% from your employer and 1% as tax relief).
In order to be automatically enrolled within a workplace pension, you must meet certain criteria. You’ll need to be:
- Over 22.
- Under the State Pension age.
- Not currently in a scheme.
- Earning over £8,105 per year. However, if you do earn less than this or work part-time, you do have the option to opt into a workplace pension scheme.
Some of the key benefits of a workplace pension are:
- Easy to set up a pension.
- Optional joining.
- Receive contributions from your employer and tax relief.
Defined contribution vs defined benefit pensions
You may be choosing between a defined contribution and a defined benefit pension. These are different in that the final amount you receive from a defined contribution pension is dependent on the amount you pay in and the investment’s performance. In contrast, defined benefit pensions guarantee a set amount in retirement, although this is dependent on a number of factors, such as your salary and the rules of the pension scheme.
Defined contribution pensions can be either personal or workplace, while defined benefit pensions are always workplace.
With investing, your capital is at risk. Investments can fluctuate in value and you may get back less than you invest. Tax rules can also change at any time.