How do personal pensions work? Your questions answered
This content is for information purposes only and should not be taken as financial advice. Every effort has been made to ensure the information is correct and up-to-date at the time of writing. For personalised and regulated advice regarding your situation, please consult an independent financial adviser here at Castlegate in Grantham, Lincolnshire or other local offices.
Personal (or “private”) pensions can be a valuable retirement planning tool to help you reach your long-term goals. Yet what are they and how do they work?
In this guide, our Grantham financial planners explain how personal pensions differ from other pension types – i.e. the State Pension and workplace pensions – and ways that they can integrate into a wider financial plan.
We hope this content is helpful. If you want to discuss your financial plan with us, please get in touch to arrange a no-obligation financial consultation, at our expense:
01476 855 585
info@casfin.co.uk
What are personal pensions?
A personal pension is a pension that you open by yourself. It is a type of “defined contribution” pension, which involves building up a pot of money which is set aside for retirement.
This differs from a workplace pension which is typically set up by your employer. Both you (the employee) and the employer will opt into the scheme when you start a new job, under the UK’s enrolment rules. In 2023-24, you both must contribute a total of 8% to the pot.
Many workplace pensions are also defined contribution schemes. However, some are defined benefit (or “final salary”) schemes. These do not build up a pot of money. Instead, your employer promises to pay you an income when you retire. An example is the Teachers’ Pension Scheme.
These pensions are also different from your State Pension. This is a retirement income paid to you by the UK government after reaching your State Pension age.
Why do people open a personal pension?
There can be good reasons for opening your own pension scheme. Firstly, it makes it easier to take your pension with you when you change jobs.
Since each new employer is likely to offer their own pension scheme, this can lead to an individual building up multiple pension pots across his or her career. When the time comes to retire, this can make it harder to plan your finances.
With a personal pension, you may be able to move money accrued in an old workplace scheme into your own scheme. Sometimes, a new employer may even be willing to put their employer contributions into your personal pension (rather than the workplace scheme).
Secondly, having your own pension can grant you more investment options. Many workplace schemes are limited in the choice of funds available to their members. Perhaps they lack performance or the fees are quite high. A personal pension can offer more, better value options.
Should I open a personal pension in 2023?
The answer depends on your financial goals and circumstances. It may help to discuss your options with a financial planner who can help you account for the most up-to-date information, balancing for the various factors which may impact your decision.
One risk to consider is the possibility of “exit charges” or “transfer charges” from your old schemes (e.g. from an old employer). For instance, the former may be as high as 1% for those aged 55 or over. This age will rise to 57 in 2028.
For some people, therefore, a member with a £100,000 pension pot in an old scheme may be charged £1,000 for leaving it. In some cases, the decision to transfer might still be worth it if, say, the new scheme offers lower fees and better performance which will still result in a net benefit for the new member.
Another risk is portfolio neglect. With a workplace pension, many schemes offer a range of pre-set options for members based on their risk tolerance such as “defensive”, “moderate” and “adventurous”. With a personal pension, however, you may be responsible for managing your own investments (e.g. as with a SIPP, or self-invested personal pension).
If you neglect the portfolio, or tinker with it too much, then you risk your investments steering off-track away from your initial strategy. Perhaps certain funds need rebalancing in light of new performance and information.
A financial planner can help you manage your portfolio effectively. Perhaps this simply requires a 6-month or 12-month review, where you meet to discuss how the investments are doing and which actions might be required to keep you progressing.
If you are self-employed, then it will be especially important to consider a personal pension. This is because you do not have an employer who will arrange a scheme for you and contribute to it. Those who have taken significant time off work – e.g. those who are caring for children or relatives – may also wish to think about the option.
If a personal pension is of interest, speak with a financial planner about which type(s) may best suit your needs. Broadly speaking, personal pensions are set up by you, but some may involve a lot of professional fund management. A SIPP, by contrast, might give you more investment options and control over buy/sell decisions.
The latter approach may be more suitable if you are confident managing your own investments and can be attractive to particular investors (e.g. those who own commercial premises). The former may be useful if you want a better pension scheme compared to that offered by your employer, but you largely want to take a “hands-off” approach with the investments.
Conclusion & invitation
If you are interested in discussing your own financial plan or investment strategy with us, please get in touch to arrange a no-commitment financial consultation at our expense:
01476 855 585
info@casfin.co.uk
