Individual Pensions

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Pensions guide » Individual Pensions » Overview » What are they?

What are they?

Individual pensions are pensions taken out by individuals to provide for themselves (and optionally their dependents) in retirement. individual pensions (which means Personal Pensions and Stakeholder Pensions) are Money Purchase style pensions, i.e. money (contributions) are paid into a fund, this fund is then invested in some way and the proceeds are used to purchase an annuity (a regular income) at retirement. So we have essentially three things to understand the individual (it is possible for a company to make contributions into an individual pension for its employees but it is under no obligation to) pays contributions into a fund (normally on a monthly basis although lump sums can also be paid in). The exact way in which the level of  contributions is decided should be with the help of a professional financial adviser. these contributions are invested until the individual reaches retirement. You would normally be in a position to dictate the types of assets in which these contributions are invested. See the guide to investment later on. at retirement the fund is used to purchase a pension (technically called an annuity). Some of the fund can also be taken as tax free cash. Again this is discussed later on.

Tax advantages

The major advantage that an individual pension has over other forms of saving (such as money at the bank or the purchase on unit/investment trusts) is the tax relief available on contributions. This means is that any money paid into individual pensions will not be liable for income tax. If you are a basic rate taxpayer then its just like the tax man putting 22p into your pension for every 78p you put in. Higher rate tax payers get greater amounts of tax relief so for every 60p from their take home pay they pay into a pension the tax man puts 40p into their pension. In reality the individual will make contributions from their post-tax income and the pension provider will reclaim the tax relief from the government. Hang on you might be thinking this sounds a bit like free money and that is a bit too good to be true. You're right, its not a completely free ride. When you start to receive your pension it will be subject to income tax. Therefore the taxman does not really 'give' you the tax its more the case that he just lends it to you for a while. Lending it to you at the point you make the contribution and taking it back when you come to retirement. However there are advantages to the extent that roughly 25% of your pension fund at retirement can be taken as a tax-free cash lump sum. Therefore 25% of the tax relief you get on contributions you are effectively getting to keep. Also if you pay a higher rate of tax (say you are a higher rate tax payer) while you are working then you do when you retire (say you pay only basic rate tax in retirement) then you will make some savings on this also because the relief on the contributions is at a higher rate than the tax rate you pay on the eventual benefits.

What happens to my money if I die?

When you establish your pension you should be asked to complete an expression of wish form. This form indicates to whom you would like the proceeds from your pension fund to go to after your death. A Trustee (which could be either the insurer with which you have the pension or one appointed by you) will decide to whome to pay the money. They will usually follow your latest expression of wish unless they believe this did not reflect your likely intentions at your date of death. It is important you keep your expression of wish form up to date. If you die prior to retirement it is your fund can be used to provide a lump sum to your nominated dependent. If you are contracted-out then the protected rights element of your pension fund must be used to provide a regular income for your dependents (i.e. this element cannot be taken as a lump sum). If you die after retirement then whether your dependents get any sort of pension will depend upon the type of annuity you purchased at retirement. See the annuity section for more details of buying a pension for your spouse in the event of your death.

When can I get my money?

Money held in a Personal or Stakeholder Pension cannot be accessed until you are at least 50. The latest you can leave drawing your pension is age 75. The rules allow some people to take their pensions earlier than age 50 (when in good health) but these are few and far between and generally relate to professions where working to age 50 in that occupation is unlikely. One good example are cricketers who take retire from age 40.