Why do I need a pension?
A pension is simply a form of saving for retirement that has generous tax benefits. The money you save in a pension builds up into a pot which could be converted into a fixed or flexible taxed income or can be taken as a single or series of cash lump sums. You can take 25% of this tax-free with the remainder being taxed.
Whether you plan to retire fully, to cut back your hours gradually or to carry on working for longer, from age 55 you can now tailor when and how you use your pension. If you're in severe ill-health you may be able to take it sooner.
It's important to think about the income you're likely to need in retirement.
Pensions could be one important way to support you in later life. Another may be your home (some people talk about their property as their pension) and another could be all your other savings and investments such as deposit accounts and shares. Your retirement income may come from any combination of these.
Average life expectancy is also increasing, meaning that the length of your retirement could be longer than you expect. So it's important to think about the income you're likely to need in the future and how a pension could help generate it.
With any form of investment, including a pension, the value can go down as well as up and so it is worth noting that you may not get back what you put in.
There are three main categories of pension provision to consider: State pensions, workplace pensions and Individual pensions.
Benefits of pensions
There are several benefits of using pensions to save for retirement:
- Tax relief
When you save in a pension the taxman helps to increase your pension pot by providing tax relief, subject to certain limits.
- Tax-efficient growth
Money in your pension fund grows largely free of tax. This could help to boost the amount you have in your fund.
- Employer contributions
With workplace pensions your employer makes contributions to your pension, increasing the amount going into your fund. Depending on the scheme, they may match up to 100% of the contributions you make.
- Access to investing in funds
By saving in a pension, you're able to put your money in a range of investments, such as the stock market, commercial property, bonds, and funds. The range of investments will depend on the scheme.
- Access to tax free cash in retirement
When you take your benefits you may have the option of taking up to 25% of the pension fund you have built up as tax free cash (depending on your age, the scheme rules and tax allowances). So if you build up a fund of £100,000 for example, you may be entitled to take £25,000 as a tax free cash. The remainder would be subject to income tax. Some people may not pay tax depending on their personal allowance, other income etc.
You now also have more freedom over how you take your tax-free cash, following pensions changes introduced by the government in April 2015.
For people over 50 Pension Wise is also available. This government service offers guidance to people with pensions on all the options available for their pension savings. You can have a free consultation online, over the phone and face to face. Find out how to access this by visiting www.pensionwise.gov.uk or call 0800 138 3944 to book an appointment. This service is available on the internet, over the telephone or face to face at a Citizens Advice branch.
You may also like to contact a financial adviser, although they may charge for any advice they give.
This is based on our current understanding of current tax legislation and HM Revenue & Customs practice, both of which may change without notice. The impact of taxation (and any tax relief) depends on individual circumstances.
What are Individual Pensions?
There are three main types of individual pensions - personal pensions, stakeholder pensions and self-invested personal pensions.
Tax benefits of saving in a pension
Saving in a pension is a tax-efficient way of building up an income for retirement.