Q&A: Should I take out a personal pension?

Share This Article

• Facebook
• Twitter
• Digg it
• Print

In the face of longer life expectancies and rising state pension ages, we clear up the confusion surrounding personal pensions.

Many of us worry we will no longer be able to maintain our current standard of living once we have stopped working. If you fall into this category, it’s a good idea to start saving for your twilight years.

What are personal pensions?

Put simply, a personal pension is a tax-efficient way of saving for your retirement which can provide you with a regular income after you stop working.

With a standard personal pension, you make regular contributions into your plan hoping to accumulate the largest possible fund. Your plan will generally have a fund manager who will be responsible for investing your contributions within your chosen fund or funds.

Who are they for?

Personal pensions are an attractive option for people who do not have access to an occupational or company pension.

This mainly includes employees at companies that do not offer pensions and the self-employed. A personal pension could also be appropriate if you are not working but can afford to make contributions to a scheme.

What are the tax breaks?

When you make contributions, the pension provider claims back the income tax you have already paid at a rate of 20%. This money is then added to your fund. If you make £80 worth of contributions, you will end up with £100 invested in your fund.

If you are a higher rate taxpayer you can claim the difference between the basic rate and the rate you pay from the Inland Revenue through your tax return.

You can receive tax relief on your pension contributions of up to 100% of your earnings each year. Also bear in mind, your investment fund grows tax free.

In addition to tax relief and tax free growth, you can claim a tax-free lump sum of 25% of your fund when you retire. At present, you can draw this tax-free sum from the age of 55.

Are there any limits to tax relief?

Each year, there is an annual allowance – ie the maximum contribution on which you can get tax relief. Note, there is no limit on the amount you can contribute to your pension – only the amount on which you can receive tax relief.

Prior to April this year, the annual allowance had been £255,000 but it has now dropped to £50,000 under coalition rules.

Are there any disadvantages?

As soon as you have invested the money into your scheme, you cannot access it until retirement.

Some pension providers charge hefty fees for the administration of the fund and you could be charged a penalty if you stop making contributions.

Are there different types of pensions?

As well as standard pensions, there are two other types of scheme available.

Stakeholder pension: These have to meet rules and criteria established by the government. For example, there is a limit on administrative fees and you will not be charged a penalty if you are unable to make contributions and then reinvest.

Self-invested private pensions (SIPP): While the fund manager takes charge of your investment with a standard pension, a SIPP allows you to determine how your money is invested. Beware, this can be a risky strategy if you do not invest wisely.

**This material is for information purposes only and should not be considered financial advice. We strongly encourage our readers not to rely solely on this content, but to seek independent advice when making financial decisions.**

Tags for this article