What do I need to know about pensions?
There's no better time to start thinking about your financial future than right now. Not convinced? Have a read through our blog to find out why you might want to put some money away today - even if it means you won’t get to spend it for a little while…
Why is a pension important?
You may be bursting with heaps of energy now, but when you get older you might want to kick back and relax a bit - or maybe you'll have more energy than ever and whole new adventures to explore. The point is: whatever your ambitions, getting your retirement savings in good shape means you’ll have more options down the line. You might have goals to retire early, to travel around the world, or soak up some invaluable down time with the people who matter most; but if you don’t have the savings pot to finance these dreams you could end up working for much longer than you’d like.
So what are my pension options?
If you’re employed in a permanent position, you’ll be automatically enrolled into your workplace pension. Thanks to auto enrolment, 8% of your salary will go towards your pension. This might sound like a lot, but don’t panic; your employer is obliged to pay 3% (or more!) of this and the government tops up 1% in tax relief. So, in reality, only 4% comes directly out of your salary.
It breaks down like this: If you pay in £40, your employer will pay in £30, and you’ll get a further £10 in the form of tax relief, which means that, for your £40, you’ve actually ended up with £80 in your pension.
Essentially this means that, rather than losing out on money, you get an extra 3% on top of your actual salary - you just won’t get it until you’re eligible to withdraw your pension. And no, you can’t ask for the 3% in cash instead!
Self employed? You can explore paying into a private pension, called a SIPP (or self-invested personal pension). This won’t come with any employer top ups but you’ll still receive the 20% government tax relief. This means that for every £80 you put into your pot, the government top-up will actually make it worth £100. Some people choose to have a SIPP as well as their workplace pension, too - but they have to make sure they keep within their annual contribution limit. You can read up on your annual pension allowance here.
There are also other savings products out there that can help support your savings goals, but they all come with their own pros and cons, depending on your different circumstances.
What’s the difference between a pension and a LISA?
LISAs (or Lifetime ISAs) are often brought up in pension conversations. You may already have one, but if not, they're a type of savings accounts aimed at people aged between 18-39 to help save for a house or for retirement. Pensions are simply to save for your retirement.
If you're a bit unsure how LISAs and pensions differ, we've outlined a few key points below:
- If you pay into a workplace pension, your employer must contribute to your pension on top of your salary:
While employers are obliged to contribute nearly half of your automatic enrolment payments, they don’t contribute towards your LISA. We shared a bit more information on auto-enrolment above.
- Access to and withdrawal of your savings:
You can withdraw the money in your LISA penalty free for two reasons: retirement OR to buy your first home. You can also withdraw it for other reasons, but you'll incur a penalty fee. Meanwhile, money in your pension can only be accessed and used for your retirement.
- Annual contribution limit:
LISA’s have an annual contribution limit of £4,000 and you can’t top up after the age of 50. Pension contributions are currently capped at £40,000 per annum, offering a bit more savings freedom.
- Pensions tax relief vs. the LISA top up:
It might look like Lifetime ISA’s pip pensions to the curb when it comes to tax relief, but it depends on different circumstances. LISA’s might offer 25% tax relief as opposed to basic earners 20% pension tax relief, but LISA’s are post-taxed income while pension contributions are pre-tax. So actually, the level of relief can work out as roughly the same. For higher-rate tax payers, pensions offer 40% tax relief compared to the 25% offered by a LISA.
- A LISA could affect your access to benefits:
Should something happen to you that leaves you unable to work, your LISA will be taken into consideration when looking at certain benefits that are means tested. This means that you would be expected to use the money in your LISA - and incur the hefty fee that goes with spending the money on something other than a first home or retirement! Your pension, however, would not be taken into account during the means testing, and would remain untouched until retirement age.
Can’t I just rely on the state pension?
At the moment, the state pension pays out a maximum of £129.20 per week, so it won’t leave you with loads of financial wiggle room. Also, the state pension currently doesn’t kick in until age 65 - but this is creeping up. Age UK predicts that by 2028 the state pension age will have risen to 67, so if you want to retire on your own terms, it’s worth looking into alternative pension plans.
Ultimately how you choose to save your money for retirement is up to you - and, of course, it has to fit with your current money situation. But it’s worth thinking about what you want your retirement life to look like sooner rather than later. There are small steps that you can make early on, like saving just a few more pounds a month, that could have a big impact on your retirement savings much further down the line.
P.S. Did you know you can hook up your PensionBee account to Yolt, so you can see your retirement savings right alongside your other accounts? Head to the Actions tab in Yolt to find out more.
At Yolt, we’re on a mission to empower you with your money, but our blog is not official financial or professional advice. If you're looking for more information on investing, pensions, or taxes and more, seek independent financial advice.