Pensions
We all know we should have one, but “future you” can deal with this, right?!
Annoyingly Pensions is one for the long game – better planning now means less worrying later.
And honestly, it’s not as complicated as everyone makes out (sometimes).
Contents
Overview
Here are some of the first things to understand about a Pension.
Useful Links
Pension types
Pensions are an important aspect of retirement planning and can provide a source of income in later life.
In the United Kingdom, there are several types of pensions available, each with its own features and benefits.
State Pension
- A government-funded pension that provides a basic level of income in retirement.
- To qualify for the State Pension, you must have made National Insurance contributions throughout your working life.
Defined Benefit Pension
- A type of workplace pension where your employer promises to pay you a guaranteed income for life based on your salary and length of service.
- Defined benefit pensions are becoming less common in the UK, but they can provide a stable source of retirement income.
Defined Contribution Pension
- A workplace pension where you and/or your employer make regular contributions to a pension pot.
- The pension pot is then invested in a range of assets such as stocks, bonds, and property.
- The final pension income you receive depends on how much has been contributed and how well the investments perform.
Personal Pension
- A type of defined contribution pension that you set up yourself.
- You make regular contributions to the pension pot, which is invested in a range of assets.
- Personal pensions are flexible and portable, meaning you can take them with you if you change jobs.
Self-Invested Personal Pension (SIPP)
- A type of personal pension that gives you greater control over how your pension pot is invested.
- With a SIPP, you can choose from a wider range of investment options, including shares, commercial property, and alternative investments.
Workplace Pension
- A type of pension set up by an employer for their employees.
- Employers are required by law to provide a workplace pension scheme and contribute to their employees’ pensions at a minimum of 3% of an employees qualifying earnings.
Useful links
Citizens Advice have some further advice when choosing a personal pension.
Combining Pensions
Combining / consolidating pensions involves transferring multiple pension funds into a single plan.
The decision to consolidate pensions has its advantages and disadvantages, which are discussed below:
Pros
1. Simplification: Consolidating pensions can simplify your financial planning by reducing the number of plans you need to manage. It can also make it easier to track your retirement savings and adjust your investment strategy accordingly.
2. Cost savings: Having multiple pension plans can result in higher administrative fees and charges. Consolidating pensions into a single plan can help reduce these costs, potentially saving you money in the long run.
3. Better investment options: Consolidating pensions can provide access to a broader range of investment options, which can help you diversify your portfolio and potentially increase your returns.
4. Easier to manage: By consolidating pensions, you only have to deal with one provider, making it easier to manage and monitor your pension.
Cons
1. Loss of benefits: Some pension plans may offer unique benefits, such as guaranteed returns or specific death benefits. Consolidating pensions could mean losing these benefits.
2. Fees and charges: Some pension providers may charge exit fees or other costs to transfer your pensions into a new plan. It’s essential to research the fees involved and ensure that the consolidation is cost-effective.
3. Changes in investment strategy: If you are consolidating pensions into a new plan with a different investment strategy, this could result in changes to your risk profile and potential returns.
4. Tax implications: Consolidating pensions could have tax implications, such as triggering a tax charge if you exceed the lifetime allowance for pension contributions.
In summary, consolidating pensions can simplify your financial planning, reduce costs and provide better investment options. However, it is essential to weigh the potential benefits against the potential drawbacks, such as loss of benefits, fees and charges, changes to investment strategy, and tax implications.
It’s always a good idea to seek professional advice before making any significant financial decisions.
Useful links
PensionBee have an extensive FAQ on their pension consolidation service.
Self-employed
When self-employed you don’t get auto-enrolled into a pension scheme like you would if you were employed, therefore it’s a DIY approach!
Is it worth having a pension when self-employed? This section details some of the options.
- State Pension – the first bit of good news is that exactly as if you were employed, your National Insurance contributions make you eligible for the State Pension (min 10 years, 35 years of contributions to get the max amount) – check out the National Insurance section to check how many years you’ve racked up so far.
- Tax benefit – within the pensions taster video, I describe pensions as a “tax efficient long term savings plan” – the next bit of good news is that this also applies if paying into a pension when self-employed (if a higher rate tax payer, claim the tax benefit through your self-assessment). The maximum amount you can pay-in is the lower of 100% of your earnings, and £40,000 (2020/21 rates).
- Savings vs Pension – the main difference between a savings account and a pension, is that 1) the savings account is not AS tax efficient as pensions explained above (eg if you save through an ISA, you’re not taxed on your interest at all), but 2) a pension is ultimately an investment, and investment values can go up AND down (so is riskier)!
- Setting up your own pension – if you want a pension when self-employed, unlike employed auto-enrolment, you will have to set it up yourself (it can’t all be good news…)! The options are:
- Ordinary personal pensions – which are offered by most large providers (The Times money mentor has some suggestions here).
- Stakeholder pensions – these have conditions set by the Government, and allow flexibility on payments in (see pros/cons vs option 3)
- Self-invested personal pensions (“SIPP”) – as the name suggests, YOU choose where the money is invested.
- Diversify – final point: there’s no reason why you can’t diversify across all of these options (savings eg via an ISA, State Pension, own Pension AND other income streams eg property), to spread your risk and generate a few income streams for retirement.
