It can be confusing to get your head around how pensions work, so much so that some people may actually be discouraged from getting their savings in order. That, of course, would be a bad idea given how crucial a pension pot is to a comfortable retirement.
With that in mind and to help ease the confusion, The Compensation Experts examined some of the most frequently Googled pension questions and provided answers to them.
Please note that tax treatment depends on the individual circumstances of each client and may be subject to change in future. The content in this article is provided for information purposes only. It is not intended to be, neither does it constitute, any form of tax advice. Readers are responsible for carrying out their own due diligence and for obtaining professional advice before making any investment decisions.
Top pension questions answered
1. Are pensions taxable?
In a word, yes. The money from your pension is classed as income and is therefore subject to Income Tax. The good news, however, is that you will be able to withdraw 25% of your pension as a tax-free lump sum once you turn 55.
2. Are pensions worth it?
Once again, the answer is yes.
Contributing to a workplace pension is a tax-efficient way to save for retirement. Essentially, some of the money that would have gone to the government as tax goes towards your pension, helping to bolster your savings.
Furthermore, when you contribute to a workplace pension, you will not be the only one doing so. Your employer is also obligated to contribute to your pension (at least 3% of your monthly salary).
3. Can I inherit my husband’s State Pension?
If your spouse passes away, you might be eligible to inherit some of their pension. To do this, two conditions need to be met:
- You must have been married before 6 April 2016
- Your partner must have reached State Pension age before 6 April 2016 or would have reached State Pension by this date.
You will not be able to inherit your partner’s pension if you remarry before reaching State Pension age.
Check out our article on whether you can inherit your partner’s State Pension for more guidance and information on State Pension inheritance rules.
4. Pensions: can you cash them?
Once you reach the age of 55, you will be able to cash out 25% of your pension savings as a tax-free lump sum.
After that, you can continue to withdraw the remaining 75%, but you will have to pay standard Income Tax rates on it and any withdrawal fees imposed by your provider.
5. Are private pensions safe?
Private defined benefit pension schemes are protected by the Pension Protection Fund (PPF) in the event of your employer going bust and therefore not being able to pay your pension.
If you’ve reached the scheme’s pension age, the PPF will pay 100% of your pension. If you are below the scheme’s pension age, it will pay 90% of what your pension was worth before your employer went bust.
The PPF does not protect public sector DB schemes since these already enjoy government protection.
6. Pensions: where to start?
If you are employed, the great news is that the majority of the work is done for you. Pension rules state that your employer must automatically enrol you into a scheme if you earn a salary of £10,000 or more.
If you meet this requirement but have not yet enrolled, contact your employer so that you can be placed on a pension plan as soon as possible.
7. How are pensions divided in divorce?
According to The Compensation Experts, you can make an informal agreement to protect each of your pensions in the event of a divorce.
Alternatively, you can reach an agreement on a split. It can be in the form of a pension transfer, or one spouse can offset the value against other assets they share. An example is where you agree that one spouse gets a larger share of the family home in exchange for the other spouse keeping their pension.
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How much do you need to have in your pension pot?
Of course, more important than mastering every single piece of pension jargon is ensuring that you have a sufficient pension pot to comfortably support your retirement.
So what’s a sufficient pension pot? Well, it depends on the kind of lifestyle you want to lead in retirement.
According to the PLSA’s Retirement Living Standards, to sustain a ‘minimum lifestyle’ in retirement, you need to have an annual income of at least £10,900. This would provide enough to cover your basic needs and support the occasional social outing or meal out.
With an income of £20,800, you can live ‘a moderate lifestyle’. This includes being able to run a used car, go on one foreign holiday yearly and eat out a couple of times a month.
And for £33,600 per year, you can have a ‘comfortable lifestyle’, which includes eating out on a regular basis, driving a relatively new car, and taking a couple of foreign holidays each year.
So, how do you ensure that your pension fund is adequate? It all comes down to having a clear vision of the retirement lifestyle you want and devising a strategy to get there.
If you have a workplace pension, this could mean maxing out your contributions. If you are also expecting to receive a State Pension, it could mean filling any gaps in your National Insurance record to boost what you can get once you hit State Pension age.
