Personal pensions
April 2010
A pension you can call your own.
A personal pension is an individual pension scheme that is owned by you, though typically administered by a large life and pensions company - the pension provider.
They are classed as money purchase schemes – you make a regular contribution (usually monthly) to your pension fund. The pension provider will then invest this money in various ways with the aim of delivering a regular income when you retire.
The size of your fund depends on three things: how much you pay into your personal pension every month, how long you stay invested for, and how well your investment performs over time. Usually your pension provider will charge you a set up fee and an ongoing annual management charge for administering your pension, though this should hopefully be more than covered by the growth of your fund over the years.
Currently, you can access your pension fund when you turn 55. You may continue to pay into your pension fund until you're 75 if you wish, whether you are taking an income from the pension plan or not. However, you must start to take your pension income either by buying an annuity or through an alternatively secured pension (a form of income drawdown) by the time you are 75.
When you claim your personal pension, you can take up to 25 % of the value as a tax-free lump sum and, if you choose, buy an annuity to provide you with a guaranteed regular income with the rest. Note: you are under no obligation to buy an annuity, nor buy your annuity from your pension provider. It is worth shopping around and taking advice as annuity rates can vary widely.
What are the benefits?
Personal pensions are a tax efficient method of saving – contributions into personal pension schemes attract tax relief. This means that the value of the contributions are deducted from your annual income for the purposes of your Income Tax calculation. You can pay as much as you like into your fund, tax-free up to 100% of your earnings for that tax year and up to a maximum of £255,000. Any contributions above this will not be deducted and will therefore form part of your Income Tax calculation.
When claiming your pension, you may also take a lump sum of up to 25% of the fund value tax-free. Personal pensions are also flexible in that you can currently claim your personal pension at any time between 55 and 75 (2010/11), allowing you to access your fund at the most suitable time.
Other points to consider
There is a limit to the amount that you can accumulate tax-free in your pension fund. Currently, you can have no more than £1.8 million (2010/11) as the total of all your registered pension funds, with any excess funds being taxed.
If you have a small pension fund, £18,000 or less (2010/11), in some circumstances you may not have to buy an annuity with it. You can convert the whole fund into cash, although only 25% will be tax-free – the rest taxed as income. Again, the rules are complicated and you will need to take advice.
How do I know if it’s right for me?
A personal pension may not be suitable for everyone. You need to consider how much you can expect from other sources such as your state pension and how much you can afford to save as you work.
An occupational pension scheme (if available) could provide you with a more effective way to save for retirement. Your employer will be able to provide you with further details.
If you are self-employed or your company does not offer a pension scheme or additional voluntary contributions scheme, then you may want to consider a personal pension.
Note: Following the pension reforms (April 2006) it is possible to pay into a personal pension in addition to your occupational pension scheme.
For more information also see The pension reforms
Stakeholder pensions
As an alternative to taking out a personal pension, you may want to consider a stakeholder pension. Stakeholder pensions, like personal pensions, are provided by certain life and pensions companies. They are different, however, in that they must satisfy government standards to ensure they offer value for money and flexibility.
Stakeholder pensions are flexible because they allow the amount of your regular contributions to vary. You can also stop contributing for a while, take a ‘pension holiday’ and start again at a later date. This may be particularly suitable for you if you are uncertain about your future income.
Stakeholder allows you to take out and contribute to a pension, not only for yourself but for others, such as your spouse, your children or grandchildren. Getting them started early can be a big help in later life.
How to find out more
You can find out more about personal pensions at the Directgov website.
You and your money provides general information and not advice. If you are seeking advice on financial matters you should contact a qualified financial adviser. If you do not have a financial adviser and would like to contact one, you can search for one here.
