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Which pension option is right for you?

Have you thought about putting aside something extra for your retirement?
Have you thought about putting aside something extra for your retirement?

From workplace to private options, there are many types of pension available. But which are you eligible for and which should you consider investing in?

This article examines the different types of pensions that exist, and the reasons why you may want to consider investing in a private pension, in addition to others you may be eligible for.

What is the state pension?

The state pension is set by the government (the full pension is currently £164.35 a week, depending on national insurance contributions) and paid to people of pensionable age. This is currently 60 years for women and 65 years for men, but the ages are changing.

Under current plans:

  • people born after April 6, 1978, can claim state pension from the age of 68
  • people born between April 6, 1970 and April 5, 1978, would see their pension age increase from 67 years to between 67 years and one month and 68 years, depending on their date of birth
  • people born between 1961 and 1970 can claim state pension from the age of 67.

These proposed changes will have to be approved by parliament before they are agreed. The state pension age is not an age at which you have to retire; rather, it is the age when the state pension becomes available to you. Many people continue working past, or retire prior to, this age.

state pension

What is a workplace pension?

A workplace pension is a way of saving for your retirement that’s arranged by your employer. A percentage of your pay is removed – for example, monthly – and saved into the scheme. Your employer will also pay into the scheme at the same time – the rate is dictated by the government, and will change on a yearly basis until 2019 (for more information, see here).

What types of workplace pension are there?

Workplace pension schemes run by employers come in two types:

  • Defined benefit schemes (sometimes called final salary schemes), where you and your employer pay a certain amount each month into a scheme, and you are eligible to a set pension income based on your final salary with that company.
  • Defined contribution schemes, where you and your employer pay a certain amount each month into a fund. The money is invested and your pension will depend on how much the fund is worth when you retire.
Are you entitled to a workplace pension?

You are entitled to a workplace pension if you meet all the following criteria:

  • are directly employed on a company payroll, paid through a pay-as-you-earn (PAYE) scheme, and do not work for anyone else
  • are aged between 22 and retirement age
  • are earning more than £10,000 a year.

If you work for an agency, you may be entitled to register on the agency’s pension scheme, if the conditions above apply. Michelle Cracknell, chief executive of the Pensions Advisory Service, says: “As a freelancer, if you are working through an agency, you should check to see whether the agency has automatically enrolled you into its pension scheme. If so, the agency will be paying contributions into a plan. You could choose to increase this contribution.”

However, people who directly contract for work with a number of employers, and who are registered as self-employed, are not entitled to be registered on a company-run pension scheme.

If you are unsure whether you are counted as self-employed, see the gov.uk website.

What is a private pension?

A private – often referred to as a ‘personal’ – pension is one you arrange yourself. The money you put into it is invested on your behalf, with the final pension amount based upon the total you have invested, how the funds have been invested, and how you take out your money.

Private pensions include:

  • Managed defined contribution schemes – These are the most common types of private pension. You pay into a pension fund which is invested by a fund manager. Your pension depends on how much the fund is worth when you retire.
  • Self-invested personal pensions (SIPP) – You set up a pension fund and choose the investments yourself. Your final pension depends on how much the fund is worth when you retire.

Some private pensions allow you to vary how much you invest. You might decide to invest a certain amount each month, to top this up when your earnings are high, or suspend payments if you have a period of low earnings.

For example, locums – either pharmacists or pharmacy technicians – could have a high period when they earn more than normal, or a low period when their monthly pay is lower, eg when they take holiday. Prior to signing up to a pension, it is important that you check the terms and conditions of the scheme to find out how flexible you can be with your payments, and whether changing your payments incurs charges.

Should you take out a private pension?

If you are not contributing towards a workplace pension and want to ensure that you have sufficient capital when you are older, then a private pension may be suitable.

A private pension tops up the income you can get in retirement. If you are not eligible for a workplace pension (see Are you entitled to a workplace pension?), your only choice for a pension income above the state pension (see What is the state pension?) is a private pension.

retirement

An obvious advantage of a private pension is that you get a tax refund on your earnings. Accountant Umesh Modi, partner at accountancy firm Silver Levene, says: “If locums have spare cash left after their day-to-day household expenses, then certainly putting some money into a private pension is a very good idea.

“For a basic rate taxpayer, it gives them a 20% tax break,” Mr Modi adds. This means your pension provider will claim it as tax relief for you and add it to your pension pot.

For higher rate taxpayers, this benefit is even greater, because “tax relief is at your marginal rate”, Ms Cracknell says. “It is therefore best to make contributions when you have a high level of earnings, so that you get higher rate tax relief on the pension contribution.”

What sort of pension should you choose?

If you are eligible for a workplace pension, this is usually the best choice, as your employer will also contribute (a minimum of 2%, rising to 3% from April 2019).

If you have a workplace pension from a previous job, but are now self-employed, you can keep the workplace pension and open a private pension as well. “You can have as many pension plans as you want and can contribute to a private pension, while being a member of your employer’s workplace scheme,” says Ms Cracknell.

You can consolidate your previous pensions into a private pension – although Ms Cracknell warns that if you have a defined benefit – for example, a salary-related pension that assures payments – then it “is usually best to leave it where it is, because it offers you a guaranteed income in retirement”.

The type of private pension you choose depends on:

  • how much confidence you have in your own ability to manage your investments
  • your preferences for how your money is invested
  • the level of fees you can afford (these can include administration fees, transfer charges, charges for managing your investment, and penalties for missed payments).

Mr Modi says: “Shop around to give yourself the widest choice and get as much information as you can before you decide. Compare products from different providers and check what charges you will have to pay and when.”

A registered financial advisor may be able to help you find the right pension.

How much should you save in a private pension?

You can save as much as you want into a private pension, although you will only receive tax relief up to a certain amount.

Ms Cracknell says: “The actual amount you can save in a tax year for tax relief purposes is the greater of a gross contribution of £3,600 or 100% of your earnings, subject to the annual allowance. The current annual allowance for most people is at £40,000.” That includes all your pensions – so if you have more than one scheme, you can contribute up to £40,000 a year in total.

For most people, contributing too little is likely to be more of an issue. “There is a rule of thumb that you should aim for your total pension contributions to be a percentage of your salary at the time you start contributing equal to half your age; ie if you start your first pension at age 30, you should aim to save 15% of your salary into retirement savings,” says Ms Cracknell.

The Money Advice Service has a pensions calculator you can use to work out how much your pension might be worth, with different levels of contributions.

For example, a 30-year-old locum who earns £25,000 a year and puts £300 a month into a pension plan each year until retirement at age 70, might get an annual pension income of £16,521, including the state pension.

Tax relief on pensions does not affect other savings that attract tax relief, so you can still save the maximum allowed in an individual savings account (ISA), on top of the amount you invest in your pension.

Does an ISA effect your pension contribution?

When can you access your pension?

The key difference between a pension and other types of savings is that you can’t usually access the money in a pension until you reach a certain age. In most private schemes, this is 55, but you should check the terms.

Some companies offer to help you access money paid into a pension early, but be very cautious about this. If it’s not authorised under UK pension regulations, you could lose more than half the money in tax.

When you reach the age at which you can access your pension, you may be able to take your pension as: regular payments; a lump sum; or smaller payments. You can usually get 25% tax free as a lump sum, followed by regular payments. However, larger lump sums from your pension income is typically taxed above this rate.

How secure is your private pension?

lock and key pension security

If you decide to put some of your earnings into a private pension, you need to ensure that the money you save is safe. It is important to understand that the assets of a given pension are owned by you and not the pension providers – you merely pay them for the service. “Even if a provider becomes insolvent then your underlying pension assets will be unaffected,” explains Ms Cracknell.

However, problems can arise if your provider is not registered with the Financial Conduct Authority (FCA), or if you are badly advised about investments. If your investments are worth less than you bought them for, your pension could be at risk.

“If you think you have received bad financial advice from a firm that goes under, or one of your investments drops considerably, the Financial Services Compensation Scheme (FSCS) can step in and cover any loss up to £50,000,” says Ms Cracknell. The FCA has also created guidance on how to claim compensation if a firm fails.

How can you spot a scam?

There are scams in the UK that will attempt to take your hard-saved pension. “Be very cautious if someone contacts you out of the blue when you have a new job [or become self-employed] offering to give you a free pensions review,” warns Ms Cracknell. “A lot of this activity is carried out by unregulated businesses, which may be a scam. They can sound very credible.”

Ensure any pension provider or adviser you use is registered with the FCA. Be cautious of any scheme that offers surprisingly high rewards or unusual investment opportunities, especially if the provider is pressing you to make a decision quickly. 

How to avoid pension scams

pension scam

The Pensions Advisory Service gives C+D its advice on avoiding pensions scams:

  • Avoid any unexpected contact by phone, email, text or letter. It may refer to ‘government initiatives’ or ‘free pension reviews’ to hook you in. Organisations such as the Pensions Advisory Service or Pension Wise will never contact you without your prior permission.
  • Always check that the individual or firm you are dealing with is registered on the FCA website, and look at its list of known scams.
  • Be wary of overseas investments and those offering you guaranteed returns of 8% or higher. These can often be linked to property or luxury products abroad, which wrap all your money in one investment.
  • Never be rushed into making a decision. If it sounds too good to be true, it probably is. Check with the Pensions Advisory Service first – it can help you spot and stop a scam.

 

Pensions planning may seem like a chore, but it can be a tax-efficient way for pharmacists to save for the future – so long as you can afford to put money away that you don’t need to access in the short term. There’s plenty of advice out there to help you find the pension that is right for you, and avoid the scams or pitfalls.

Where can I get more information?

The following groups provide a range of impartial advice and resources:

  • Gov.uk – Types of pensions
  • The Money Advisory Service – an impartial, free advice service set up by the government
  • The Pensions Advisory Service – an independent body funded by the Department for Work and Pensions, which supplies free, impartial advice
  • The Pensions Advisory Service also runs the government’s Pension Wise telephone service: 0300 123 1047
1 Comments
Question: 
What factors will you consider when deciding on a pension?

Graham Morris, Design

One of the best pieces of advice I was ever given when in business, was to set up a small self administered pension fund. 

This allowed me to place all my Limited company profits into the pension fund and so avoid corporation tax. My business, however, could borrow back 50% of the capital of the pension fund to help fund the company. Interest paid on that 50% was then paid to the pension fund from the business profits.

This allowed me to accrue a substantial pension fund over the years and reduced my dependence on banks. The pension fund was also allowed to purchase property, so I bought the premises using pension fund monies that we traded from. 

The pension fund then charged the company rent for using the premises! All totally legal and very manageable with the help and support of the company who established the fund for me. So interest that would normally be paid to a bank and rent to a landlord was paid into a pension fund, a tax free, capital gains free and inheritance tax free environment.

Couple this situation with the new pension rule changes and the pension fund becomes a valuable source of totally legal inheritance tax planning too, should any of the monies remain after my demise. 

I am allowed to take 25% of the value of the fund as a tax free lump sum, the remaining 75% remains invested. I can take whatever income I want from the remaining 75%, but it will be subject to my nominal rate of tax. This allows me to adjust my taxable income to avoid paying too much tax at the higher rate.

What this type of model requires, however, is an owner to look long term at their future and not blowing company profits on expensive cars and a flamboyant life styles. Be prepared for a comfortable and sensible lifestyle during the infancy of your business in the knowledge that you are being highly efficient in your tax planning and securing a stable long term future.

I'm not sure if any legislation has had an effect on this model over the years, but for those with a Limited Company it is worth investigating.

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