It’s official. We’re living longer. The Office for National Statistics say that millions of people will spend over one third of their life in retirement.
It’s never too early to look at what kind of retirement you want, and how to fund it. Many of our clients have some idea of what they want, but are uncertain about how to make their wishes a reality.
Can you say, hand on heart, that you really understand pensions planning or would you benefit from some professional help?
The big question that many people ask us is ‘will I be able to manage?’
Some of them are worried that they have small pension pots sitting around, and wonder whether they should leave them alone, merge or transfer them. Others think their employer is ‘looking after me’, or are simply trusting to luck and adopting a Mr Micawber approach of ‘something will turn up.’
The state pension on its own is unlikely to provide for a comfortable retirement, but retirement planning need not be a headache. We can help you go through the big questions about how you want to spend your retirement years, what provision you have already made, and what choices you have. Then help you see how your pension funds, ISA’s, property and savings relate to that.
Our simple, six-step approach lays out each stage of the business process, and our lifetime cashflow forecasting software will show you a detailed map of the future, and what your needs and income are likely to be at each stage of your life.
We can help you keep up to date with pension changes, and plan how to support the retirement you want.
Pension products and rules change constantly, but for a simple overview of various types of current pension plans, see our explanations below.
The different types of pension
The State Pension
Most people will get some State Pension. It’s paid by the Government, is a secure income for life and at the moment it rises by at least the rate of inflation each year. At the 2018 rate of £164.35 per week, depending on your National Insurance record, it is unlikely to provide enough income on its own, and it can only be drawn at state pension age.
You can request a pension forecast form (BR19) form the Department of Work and Pensions, which will show you what you are likely to receive, and when.
You can still get a State Pension if you have other income such as a personal or a workplace pension assuming you have the right level of National Insurance contributions.
Defined Benefit Pension
Formerly known as a final salary scheme, you’re most likely to have a defined benefit pension if you work in the public sector or for a large company.
This is a salary-related pension which pays out a secure income for life and increases each year. The pension you get is based on how long you’ve been a part of the scheme and how much you earn.
You might have a final salary type scheme where your pension is based on your pay when you retire or leave the scheme. Alternatively, you may have a career-average pension where your pension is based on the average of your pay while you were a member of the scheme.
Defined Contribution Pension
With this type of scheme, you build up a pot to pay you a retirement income based on contributions from you and/or your employer and investment returns. Defined contribution pensions include workplace, personal and stakeholder pension schemes. The schemes might be run through an insurance company or master trust provider, or through a bespoke scheme set up by your employer.
The size of your pot depends on how much you and your employer contribute, the charges, and how well your investments perform.
Pension schemes are generally considered to be all but over – save for a lucky few in the public sector or those with unchangeable employment contracts in the private sector.
These are pension schemes effected by the individual for the benefit of the individual. It doesn’t matter who you work for or how long you work for them, or how much you earn. You decide how much to contribute and you decide where the money is invested. The more you put in, the more money you have to invest for your future – and the better your underlying investments perform, the higher that value will be.
There are three basic types of personal pension:
The simplest pensions, these are designed to encourage lower earners to save for their future and are subject to restrictions on charging, meaning they can be a cheap and efficient way to start saving. Because of the cost limits, the range of investments might be restricted, as may some of the additional options, but you will usually find index tracker-type funds and multi-asset managed funds which will suit most people’s basic needs.
Individual personal pensions:
These pensions offer access to a range of different funds and may have added benefits which will make your management of them easier if you are looking to add value over a basic managed or tracker fund, or switch around different types of investment. They are not subject to the same charging restrictions as stakeholder so the fund choice can be wider and they suit most pension requirements for most people.
Self-Invested Personal Pensions (SIPPs):
These are the most sophisticated personal pensions and allow a huge amount of investment flexibility if you are either very active in your investment allocation or adventurous in your choice. SIPPs allow investors to access funds, shares, bonds, gilts, property and cash – and occasionally some more esoteric investments as well. They therefore allow you to build a portfolio specifically tailored to your needs and make adjustments to that portfolio whenever and however you like.
As a result, compared to the choices above, SIPPs have in the past been relatively expensive. In some cases, however, charges have reduced and a new generation of ‘low cost’ SIPPS have emerged, which offer the same switching and management flexibility but without quite the same access to the more esoteric investments.
However, as with any product in any industry, you pay for the bells and whistles. Therefore, if you don’t need them or do not have either the time or experience to take proper advantage of them, then paying for such a product could be a waste of your money.
Pension legislation has been continually amended by successive governments, which has resulted in a number of historic pension contracts which cannot be taken out as new plans, but may still be allowed additional contributions, such as Retirement Annuity Contracts, also known as Section 226 pensions. You could find there are advantages to adding to these plans rather than starting a new one.
Am I eligible?
Workers who are at least 22 years old, not at State Pension age, earning a salary of at least £10,000 a year, working in the UK with a contract of employment.
Do I have to join?
Although you will be auto-enrolled, you can opt out at a later date.
What if I am already in a workplace pension scheme?
If your employer’s workplace pension scheme meets certain minimum standards, you will not be affected. If it doesn’t, then you and your employer may have to increase your contributions.
Our pensions experts can guide you through all the options and answer your questions on how the scheme works and what it means for your future.
What are my obligations?
As an employer, at a very basic level you must enrol qualifying staff into a Qualifying Workplace Pension Scheme (QWPS), and meet minimum contributions levels set out by Government. There are severe penalties for employers who do not comply with these rules.
Your obligations also require you to auto enrol and re-enrol, and deduct payments, register/re-register the scheme at specified intervals, provide information to eligible and non-eligible jobholders, provide information to the scheme provider, process opt outs and make refunds, and keep records.
Employers must act fairly, and specifically cannot offer advice, discourage membership, give jobholders the opt-out form, encourage opt-outs, or use ‘prohibited recruitment conduct’ by screening job applicants on the grounds relating to potential pension scheme membership.
We can help guide you through the legislation and provide a wide range of administrative and technical support, working with you, your workforce and the regulatory bodies to make your workplace pension scheme run smoothly.
The rules of Pension Investment
1. Tax benefits
The rules on pensions can change with the seasons, but some basic things have remained constant in recent years:
a) Investors get income tax relief on their contributions into a pension scheme (up to certain limits – see below);
b) the income and gains made by that fund roll-up free of additional tax whilst the money remains invested;
c) At retirement, you can take a tax-free lump sum of up to 25% of the total fund value; up to £1,000,000; on the excess over £1,000,000, lump sums will be taxed at 55% and income from the excess taxed at 25% in addition to your prevailing rate of tax
d) the remainder of the fund is then used to provide an income which will be taxable at your marginal income tax rate.
The things that have changed, however, are the contribution limits, the age at which you can retire and, to an extent, the tax relief you can receive on the contributions you make. Now that the previous Government’s changes have been implemented and the new Coalition Government’s intentions are known, however, there is a little more certainty, at least for the time being.
2. Annual contribution limits
This tax year (2020/2021), the maximum amount you can invest into your pension, personal or occupational, is 100% of your income or £40,000, whichever is the lower. For these purposes, income is defined as your UK derived taxable earnings, including salary, dividends, interest and trading income. You will receive tax relief on the entire investment, up to that limit. However, if you try to invest more than £40,000, you will have to pay tax at 40% on the excess. This limit, incidentally, applies to the combination of both employee and, if applicable, your employer’s contributions.
You can, however, carry forward up to three years unused allowance to subsequent tax years.
3. Lifetime allowance
The lifetime allowance applies to the total value of all private and work pensions (not state pensions) that you build up over your lifetime, including the investment growth you achieve. For 2020/2021, this value is £1,073,100. But it will increase in line with inflation in future years.
If your pension funds grows above this value then you will be liable to tax charges on the excess. And these charges are quite onerous – 55% if the amount over the lifetime allowance is paid back to you as a lump sum and 25% if the amount over the lifetime allowance is taken as some form of income. If you have a large pension fund already, therefore, even if it has not yet reached the lifetime allowance, you have to consider whether there could still be some investment growth to come. For example, if your pension fund is valued at £1,073,100 and you have ten years still to go, it might be time to stop making contributions and find somewhere else to put your savings .But please check with an adviser beforehand.
4. Building a pension portfolio
Choosing a type of pension is important, but the contribution you make and your choice of underlying investments will have the greatest impact on your long-term wealth. The investment choice within pensions has evolved from the days of the traditional pension company products with a selection of one or two balanced funds. Now, most pensions offer a sufficiently broad choice of investments for you to build a truly individual portfolio.