There are generally two pension structures in the UK, defined contribution and defined benefit, although some pension schemes are a hybrid combination of the two.
Defined Contribution pension schemes (sometimes called Money Purchase)
These types of pensions usually provide you with a pot of money when you come to retire. Contributions are usually paid into your pension every month by you and your employer. The contributions are placed into investments and you can normally choose how much risk you want to take with these investments. The amount of money you receive from you pension depends on a number of factors, such as; how much has been paid into the pension, how the investments have performed, and how you decide to take the money from your fund. These types of pension include:
Defined Benefit pension schemes
These types of pension scheme usually provide you with a guaranteed income when you retire. The amount you receive will depend on your salary throughout your time with the employer and how long you’ve worked for that employer. These types of pension include:
As most people no longer stay with one employer for their entire working life, you are able to transfer your money from one pension scheme to another. This means that you can combine multiple pensions together, so you only have to worry about looking after one pension. Transferring a UK pension is becoming much easier and can take anywhere between 1 to 6 weeks, depending on the type of pension you are transferring.
Most pension providers now allow transfers to be requested online through an industry standard system, however some older or smaller pension providers still ask you to complete ‘transfer discharge forms’ in order to transfer your pension.
If you are transferring safeguarded benefits from a pension scheme (such as a final salary pension or guaranteed annuity rates) and the cash transfer value is £30,000 or more, then by Law, you must obtain advice from a Financial Adviser on the merits of the transfer. The adviser must be authorised and regulated by the FCA (Financial Conduct Authority) in the UK and they must hold a specific qualification in order for them to provide the advice.
You can no longer transfer your benefits from an unfunded public sector pension scheme to an arrangement that allows flexible benefits. This includes but not limited to:
You can still transfer benefits from the Local Government Pension Scheme (LGPS) as these are funded by the sponsoring Council authorities.
When you want to take money from your pension fund, you can normally take up to 25% of your pension fund as a tax free lump sum. You can take this all at once or in stages over your retirement.
The remaining 75% can be used to purchase a guaranteed income for life, such as an annuity, or you can keep this invested and draw a regular income from it, known as income drawdown. This income however will be subject to UK income tax.
If you’re not a UK resident, and the country you live in has a double taxation agreement with the UK, you don’t usually pay UK tax on your pension. However, you might have to pay tax in the country you live in.
Some government pensions, such as UK civil service pensions, will always be taxed in the UK.
You will need to inform your pension scheme and HMRC (the UK tax authority) that you are no longer UK resident so they don’t deduct any tax from your pension.
As the UK government have given your pension fund a number of tax exemptions, in the hope of recouping some of that tax when you retire, they will only allow you transfer your pension savings to a pension scheme in another country in certain limited circumstances.
You are only able to transfer your UK pension overseas to a Qualifying Recognised Overseas Pension Scheme (QROPS). Transfers to a QROPS are subject to an overseas transfer charge tax of 25%, although there are a few exemptions when this does not apply.
QROPS are often mis-sold to expats and non-UK residents as a way to avoid paying UK taxes. However, this is often not the case as the pension will be subject to UK tax rules for a minimum of 10 years after the transfer.
The charges for many QROPS are much higher than a UK pension scheme and still pay commission to offshore advisers.
As with most pension systems around the world, the UK pension system encourages individuals to save and invest money during their working life, with the aim of the pension to provide an income in retirement when you are no longer working. To encourage people to save into their own pension, and therefore not rely on State handouts, the UK government provide a number of tax incentives for pensions.
The UK pension system works on an Exempt, Exempt, Taxed (EET) basis. This generally means that you don’t pay any tax on the contributions you make to your pension, the growth or investment gains made within your pension fund are not subject to tax, with the benefits paid from your pension fund being taxable. This is similar to the 401k system in the USA and most EU pension systems.
This is different to the superannuation pension system in Australia which works on a Taxed, Taxed, Exempt (TTE) basis. The contributions that you pay into your superannuation are taxed, the growth or fund earnings within your superannuation are taxed, and the benefits paid from you pension fund are tax free.
Read more: Difference between EET & TTE →
In 2012, the UK government introduced legislation that meant all employees of UK companies had to be automatically enrolled into a workplace pension scheme. The minimum contributions that must be paid into the pension from April 2019 is 8% of salary with a minimum of 3% to be paid by the employer.
The minimum age to access your pension is currently age 55 although this is increasing to 57 by 2028.
During your working life in the UK, you and your employer will pay National Insurance contributions (NIC). These help to pay for welfare benefits such as unemployment & disability allowances and the State Pension.
The State Pension is paid by the government and the amount depends on the NICs that you have paid. The full State Pension is currently £164.34 per week (2018/2019 tax year).
You can obtain credits for NICs for time spent raising children or working elsewhere in the EU and paying into their welfare system.
You generally require 35 years of NICs to qualify for the full State Pension. You usually require at least 10 years of NICs to qualify for at least some of the State Pension.
If you’re unsure of how much State Pension you’re entitled to, you can obtain a State Pension forecast.
The State Pension age is currently increasing gradually from 65 to 68.
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