In the UK, two options for pension are available to an individual. They are: Government / State Pension, and Private Pension.
Private pensions are voluntary and are managed and set up by the individual or their employers. While the government or state pension is mandatory and is provided by the government to every individual who meets the criteria. State pensions have been designed to provide a certain income to individuals after their retirement. While private pensions may provide a potentially higher income, depending on the performance of investments and contributions of individuals.
GOVERNMENT / STATE PENSION:
The state pension is provided by the government and is funded through National Insurance Contributions. The state pension age in the UK is increased to 68 while there are certain age groups for which the retirement age is different. To qualify for a state pension, an individual should have paid or credited a certain number of National Insurance Contributions. And the amount provided as a state pension is depending on the National Insurance record and is calculated using the ‘Triple lock’ system according to which State Pension is increased by the highest of the following: average earning, inflation, or 2.5%.
Additional State Pension is also available. It is the extra amount of money provided by the state on top of the basic state pension to a:
• A man born before 6 April 1951
• A woman born before 6 April 1953
PRIVATE / PERSONAL PENSIONS:
A private pension is a pension that is arranged by an individual by himself. Sometimes, it is known as money purchased pension or defined contribution. The amount depends on the money paid in. They are usually provided by banks and insurance companies. Sometimes, employers also offer it and it is called a workplace pension. The money paid as personal pensions is put into investments by pension providers. The money an individual gets as a private pension depends on:
- How much an individual has paid
- How well the fund’s investment has performed
- How an individual decides to take money
As for the types of personal pension, there are:
- Stakeholder pension: must meet specific government regulations i.e., limits on charges
- Self-invested personal pensions (SIPPS): it allows an individual to control investments that will make up the pension fund
Pension providers must be registered with Financial Conduct Authority (FCA) or pension Regulators if it is a stakeholder pension.
Regular or individual lump sum payments can be made to the pension provider. Annual statements are sent by the providers, telling the worth of the fund.
Usually, tax relief is given on money paid into a pension. To get this tax relief, the pension scheme must have to be registered with HM Revenue Customs (HMRC), otherwise, tax relief will not be given.
How you can take a private pension:
Usually, personal pensions set an age at which you can start taking money. Normally, it is not before 55. An individual can ask his pension provider about the age criteria. 25% of the money in a pension can be taken as a tax-free lump sum. Then, the person has 6 months to start taking the other 75% on which tax is usually paid. A person has the following options to take the remaining pension:
- Taking some or all of the money in form of cash
- Buying a product that will give guaranteed income for life (sometimes, it is called an annuity)
- Invest it to get adjustable, regular income (known as flexi-access drawdown)
One can ask his pension provider which option they offer and may transfer the pension pot to a different pension provider if the offered options do not seem acceptable.
Workplace Pension:
A workplace pension is a way in which money is saved for retirement that is arranged by your employer. Some workplace pensions are called “work-based”, company, or occupational pensions.
A certain percentage of your pay is put into a pension scheme automatically every payday. In many cases, the employer also adds money into the pension scheme for you. Sometimes, you are automatically enrolled in a workplace pension. One may get enrolled voluntarily.
Joining of Workplace pension:
It is compulsory for all employers to provide a workplace pension scheme. This is known as automatic enrolment. An employer must automatically enroll an employee into a pension scheme and make contributions to the employee’s pension if all of the following apply:
• If classed as a worker (meet certain criteria)
• Age is between state pension age and 22
• Earning of an employee are at least £10000 per year
• You usually work in the UK
If the above criteria are not met, the employer does not have to enroll you automatically.
The employer does not have to contribute in the pension if the following amounts or less is earned by the employee:
• £520 per month
• £120 per week
• £ 480 over 4 weeks
The amount paid by the employer and employee towards pension depends on:
• Type of workplace pension scheme you are in
• Automatically enrolled in a workplace pension or it is joined voluntarily (opted in)
Government usually add money to workplace pension in the form of tax relief if the following apply:
- Income tax is paid by the employee
- You pay into a workplace pension or personal pension
If someone has been automatically enrolled, the employer and employer must pay a percentage of earnings into the workplace pension scheme. The amount you have to pay depends on the scheme chosen by your employer. You can ask about pension scheme rules from the employer.
Mostly, in automatic enrolment schemes, contributions made are based on total earnings (which includes salary or wages, bonus, and commission, overtime, statutory sick pay, statutory maternity, paternity or adoption pay) between £6240 and £50270 a year before tax.
In workplace pension, an employer must 3% while the employee must pay 5% total of 8% of the minimum contribution. These amounts can be increased as per the workplace pension scheme. In some schemes, the employer can pay more than the above-written percentages while the employee can decrease it (the minimum contribution should be 8%).
If you have voluntarily enrolled in a workplace pension scheme, the employer must contribute the minimum amount if you earn more than
- £ 520 per month
- £120 per week
- £480 over 4 weeks
They do not have to contribute anything if you earn less than or equal to this amount.
FACTORS TO CONSIDER BEFORE TAKING PERSONAL PENSIONS:
In the market, a lot of options are present for the personal pension so it gets a bit more confusing. Consider some of the following factors to choose a personal pension scheme and option:
- Gain information as much as you can before the final decision
- Compare products from different providers. Check the Key Factors Document for each pension plan. It is the summary of all the important facts pension plan. Providers should provide you with this information and if they don’t, you can make a complaint against them.
- Check the affordability of contribution. If you have an irregular income or a tight budget, check whether you will be able to pay regularly or if you can vary the amount required to be paid and when it should be paid.
- Look how the funds will be invested. Make sure you are satisfied with the rate of risk of investment
- Check the charges you need to pay and when you have to pay. It may include administrative charges, transfer charges, and penalties if you miss any payment.
- Don’t sign until you are happy and satisfied.
- Get proper advice from an independent financial or Tax advisor
BENEFITS OF PRIVATE PENSION:
Private pensions have several benefits for individuals, including:
- Guaranteed income stream in retirement: there are defined benefit plans, i.e. provides a guaranteed income stream in retirement based on a formula that will take into account the employee’s salary and years of service. This help individual to plan their retirement expenses and make sure that they have a reliable source of income.
- Growth potential Private pensions, such as defined contribution plans and individual retirement accounts (IRAs), that offers a variety of investment options, and have the potential to grow over time. This will help persons to accumulate more money for retirement.
- Tax benefits: Contributions to private pensions from organizations may be tax-deductible, which will help to reduce an individual’s overall tax bill.
- Flexibility: few private pensions from companies may offer options such as partial withdrawals or annuities, which will be able to provide flexibility in how an individual can choose to use their retirement savings.
- Control: With self-managed pension plans such as individual retirement accounts (IRAs), individuals have more control over their investments and can make decisions that align with their risk tolerance.
- Diversification: private pensions allow you to diversify your investments which can help to maximize returns.
Importance of seeking professional financial advice when planning for retirement and choosing a private pension plan:
Seeking professional financial advice when planning for retirement and choosing a private pension plan is important because it can help ensure that you make informed decisions about your retirement savings. A financial advisor or a qualified accountant can help you understand the different types of pension plans available, as well as the pros and cons of each, so you can choose the plan that best suits your needs. They can also help you determine how much you need to save for retirement, and guide investment strategies that can help grow your savings over time. Additionally, they can help you understand the tax implications of different pension plans, and advise you on how to optimize your savings for the most favorable tax treatment. Overall, professional financial advice can help you make the most of your retirement savings, and ensure that you are on track to meet your retirement goals.