Types of workplace pensions
You’ll hear lots of different names used to describe pensions offered by employers, such as:
- Auto-enrolment schemes
- Group personal pensions
- Stakeholder pensions
- Occupational pensions
Different terms can be used to describe the same workplace pension, because some terms refer to how the scheme is set up and operated, while others refer to how the benefits are managed.`
Trust-based pensions schemes
A trust-based pension scheme means that the pension funds are managed by trustees. It’s their job to ensure the fund continues to be able to make payments to its beneficiaries.
Occupational pension schemes are trust-based. Some, typically older schemes, are called ‘defined benefit’, because the beneficiaries' payments are typically based on their salary and years of service with the employer.
New trust-based schemes are called ‘defined contribution’. This is because the beneficiaries’ payments are related directly to the money paid in under their name.
Some trust-based schemes are restricted to a single employer. Others, called master trusts, are open to multiple employers. Master trusts have become much more common in recent years.
Contract-based pensions
A contract-based scheme is managed by the pension provider. There’s a contract between the individual and the organisation running the scheme.
All personal pensions (those not arranged through an employer) are contract-based. Employers can also operate a contract-based pension scheme, which is referred to as a group personal pension. However, the contract remains between the individual and the pension provider.
Every contract-based scheme is a defined contribution arrangement, meaning your pension is based on the amount you paid in.
Stakeholder pension
These are a form of pension scheme introduced to make saving easier and less expensive. They encouraged pension saving before auto-enrolment was mandatory for all employees.
Stakeholder pension schemes are defined contribution personal pensions.
Contributions
How you contribute into your workplace pension depends on whether it is one of two schemes:
- a defined benefit pension scheme; or
- a defined contribution pension scheme.
The amount you will receive once you reach retirement age, based on a defined benefit pension scheme, relies on:
- Your final salary
- Or on an average of your salary throughout your career, and consequently contributed to your pension
- It also depends on the amount of years you've worked for this employer - the longer you have worked for them the more pension you'll get
- The accrual rate, which is a pension interest rate you're paid under a certain pension scheme
This way of securing a pension is quite rare these days as employers tend to favour a defined contribution scheme.
On the other hand, on a defined contribution pension scheme your retirement is calculated according to the amount of contributions you've made over the years into your pension pot with that employer and how well these funds grew after being invested. It is the most well-known way of paying into your pension and growing your life savings.
It is worth noting that, as with most investments, their value could go up or down, with some risk involved.
How much do I have to pay in my pension?
Specifically, in an auto-enrolled pension scheme the minimum amount of total contributions should be 8%. Usually, the employer will contribute the minimum 3% and the rest 5% by yourself.
In a GPP, when contributions are made by you, you agree on the amount with your pension provider, a considerably more flexible approach to saving. Your family, spouse and employer can also make payments into this personal pot.
Contributions in a stakeholder pension are usually paid by you as the rules are defined by the Government, unless it is an auto-enrolled scheme where a total of 8% has to be paid in, as explained above.
Tax relief
The Government likes to reward those who save for a pension. This is because the State Pension alone is not adequate for any UK citizen for a comfortable retirement, as it covers the basics. You usually get tax relief in the form of a top-up once you start receiving your retirement income and there's two ways you get it.
- Your employer deducts tax as usual from your salary. Pension contributions are then made on your after-tax pay. Subsequently, your pension provider claims 20% tax relief, which is added to your pension income once you start receiving it.
- Your employer deducts your pension contributions before deducting tax. You then pay tax on your earnings after deducting the pension. This means that you'll pay less tax since your earnings are lower, and you get tax relief instantly by paying less tax. This is also known as a Salary Sacrifice or Salary Exchange.
Your pension contributions are taken straight out of your salary, untaxed. You are also able to withdraw 25% lump sum out of your pension pot tax-free - however, the remainder will be taxed at your marginal income tax rate.
When can I withdraw my pension?
Currently, once you reach 55, you can start receiving your pension or you can continue working and contributing to your pension until you decide you want to stop working. Most continue working until 60 to 65.
The minimum age you can take your benefits is meant to increase to 57 in 2028.
What happens to my pension pot if I change jobs?
Your pension money stays behind with your previous pension provider. This is how people often lose track of their pension pots and their whereabouts, as they forget that:
- You need to update your pension provider every time you change address
- Your workplace pension does not follow you to your next job
Each pension you arrange with each employer is unique and one pension pot on its own. You can either keep track of all your pensions if you've changed quite a few jobs in the past, transfer your pensions to your latest provider - depending that your pension providers allow it and that it is the best option for you.
How does a workplace pension work when I'm self-employed?
Self-employed people, unfortunately, don't have a workplace pension as they don't work for a company and they are not able to join in on the company's pension scheme. They work for themselves, so they are not entitled to a workplace pension.
As an alternative, if you're self-employed, you can arrange a personal or stakeholder pension with a provider and save for your retirement as you would do if employed by a company. You get the same benefits, such as tax-relief.
Start planning your retirement today
As soon as you start saving for your pension, the better. When you join a new employer, ask to join their pension scheme. But always remember that your pension doesn’t follow you when you change jobs.
Don't postpone arranging a pension pot today and preventing you from having a comfortable living in the future.
Please note that the value of your pension can go up as well as down. As with all investments, your capital is at risk. Tax treatment depends on an individual’s circumstances and may be subject to change in the future.
