A pension is a form of investment or savings plan designed to provide you with an income to live on when you retire. There are many different types of pension arrangement available, from state pension schemes offering limited financial support for your old age to private pension plans giving you the freedom to build a larger fund for your retirement. Even if your initial contribution is small, whatever you can put aside in the early years will be vitally important to getting your pension growing to avoid a poor income in retirement.
Read on to learn more about the different terms associated with pensions and the main types of pension available:
As a member of an Occupational Pensions Scheme, payments in the form of Additional Voluntary Contributions can be made above the normal level of contribution to gain additional pension benefits.
A personal pension is usually arranged by yourself, not your employer, and is a type of money purchase plan.
A personal or private pension is a tax-efficient savings plan that enables you to save for retirement. Your pension contributions attract tax relief (up to annual limits) and can be made in various ways, either regularly or by lump sum, or a combination of both.
On retirement, up to 25% of your pension fund value can be taken as a tax-free cash lump sum. The remainder of the funds left in your pension pot can then be used to buy an annuity (a guaranteed income for life in return for a lump sum investment) or left invested to produce an income directly from the fund. Alternatively, you could withdraw the whole fund as a taxable lump sum.
A Company Pension Scheme (otherwise known as a Workplace or Occupational Pension) is a pension that is set up by your employer to provide retirement benefits to you while you are employed by them. It allows you to accumulate a pension fund during your working life. You will usually be required to make regular pension contributions based on a percentage of your salary into the workplace pension scheme. It is customary for your company or employer to match the level of contribution you make. Over the next few years, most employees will be auto-enrolled into a pension scheme.
A Final Salary (or Defined Benefit) scheme is a type of occupational pension where the amount of retirement income is based on your final salary. These are becoming less common.
A Money Purchase Pension Plan or Defined Contribution Plan is a pension scheme where the final benefits are not linked directly to your salary. You (and maybe your employer) pay regular contributions into your pension pot. Upon retirement, the total pool of capital in your pot can be used to take an income in retirement. The amount in each money purchase plan member's account will differ from one member to the next, depending on the level of contributions and investment return earned on such contributions.
A Self Invested Personal Pension (SIPP) is a type of personal pension. A SIPP is a pension plan that gives you the freedom and control to totally manage your own investment decisions by buying stocks and shares and a range of other types of asset. Any contributions that you make to a SIPP will receive tax relief, up to certain limits.
A stakeholder pension works in a similar way to other personal pensions whereby you pay money into your pension to build your pension fund. However, they have to adhere to Government rules and minimum standards on annual management charges, access and terms to ensure they offer value for money, flexibility and security.
A State Pension, also know as a Government Pension or Old Age Pension, is a pension that is accumulated during an individual's lifetime and paid by the Government when they reach state pension age.
A state pension value is based on the number of years of National Insurance (NI) contributions made throughout the person's working life.
Pension contributions made to money purchase plans may be made into unit linked pension funds. Pension contributions are used to buy units in a pooled fund (or funds). Unit linked pensions are invested in a variety of funds. The funds are grouped together in sectors, representing the style, area and risk level in which the relevant pension fund has chosen to invest. As the value of the units may fall and rise during the period of investment, care is taken to 'spread' the investment in a variety of ways to obtain the best return commensurate with prudent investing.
Pension contributions made to money purchase plans may be made into Unitised with profits funds. With profits pension scheme payments are used to buy units in an insurance company's with profits fund. The value of these units increases annually depending on the investment performance and profits of the insurance company.
Compare the market to get a good range of products rather than opting for the first retirement advice you receive. Remember: each pension company will vary in both charges and investment performance.
A pension is a type of investment and investments are risk-based products. This means that the value of your initial investment and any income generated can fall as well as rise. If you are in any doubt we highly recommended that you seek independent financial advice when deciding which retirement options are the best for you.
Disclaimer: This information is intended solely to provide guidance and is not financial advice. Moneyfacts will not be liable for any loss arising from your use or reliance on this information. If you are in any doubt, Moneyfacts recommends you obtain independent financial advice.
Moneyfacts.co.uk will, like most other websites, place cookies onto your computer’s
hard drive. This includes tracking cookies.