How to increase your pension pot and retire early
Lucia Rossetti
In recent years there have been a number of government pension schemes and incentives introduced to help people save towards retirement. Experts have said that financial planning for retirement is becoming increasingly important as the UK population lives longer and longer.
The benefits to saving into a pension run long and wide. Pension schemes allow savings to grow much faster than through other means. This not only allows people to retire earlier, but also can enable cash injections when required later on in life.
Below is the the questions answered in this article surrounding retirement income and pension tax relief
The different types of pensions
How pension tax relief can increase pension savings
The lifetime allowance
How to find out your pension balance
The Maximum Pension Contributions
How much to save into your pension plan
Can you pay into a spouse's pension?
The benefits to making maximum contributions
If you have further questions contact us
There are three main types of pension:
The State Pension
The State Pension is a retirement fund paid out by the government when individuals reach the state pension age. You can find out what your state retirement age is via the Gov.uk checker. You build up your entitlement to the State Pension by making National Insurance Contributions throughout your working life. If you are employed this is usually done automatically through PAYE.
How much is the state pension?
The state pension is currently set at £175.20 per week. However it can be higher depending on your National Insurance records and if you choose to delay taking your state pension.
Defined benefit pension
If you have ever worked for the public sector or large company, it is likely you have a defined benefit pension.
How much is the defined benefit pension?
The total amount you receive is based off of your income and how long you have been part of the scheme.
Defined Contribution Pension
Defined contribution pensions can be a combination of personal and workplace pension schemes, as well as stakeholder pension schemes. The Defined Contribution Pension built up through contributions by yourself and your employer. The final balance of your DC pension will depend on the below:
How much money you paid into your pension
How much money your employer paid into your pension
How much tax relief you received
How your investments have performed over time.
You can access your defined contribution pension fund from the age of 55. Many use this pension savings to tide them by until they have access to their other pension funds later in life.
When money is paid into your pension some of the money that would have gone to the government as tax goes into your pension also.
Claiming pension tax relief on workplace pensions
There are two ways you can receive tax relief on your workplace pension: Relief at the Source or Net pay arrangements. Which pension scheme your work uses is generally decided by the business owner.
Claiming pension tax relief on Relief at the Source arrangements
Under the Relief at the source arrangement, your employer deducts tax from you taxable earnings as normal. They can then deduct 80% of your pension contributions from your net pay and send this to your pension provider. Your pension provider will then claim the other 20% in tax relief directly from the government.
Higher and additional rate taxpayers do not automatically receive the tax relief under the relief at the source arrangement. They must claim the extra 20% in a self assessment tax return.
Claiming pension tax relief on Net pay arrangements
Under the Net pay arrangement, your employer deducts the full amount of your pension contribution from your gross pay. You will pay tax on your earnings minus your pension contributions. As a result your tax bill will be lower.
All taxpayers will receive the tax relief automatically under this arrangement. However, no tax relief is available to people who do not pay tax under the arrangement.
Lifetime Allowances (LTA) are a cap on the amount of tax-free savings that can be made within a pension fund. For the 2020-21 tax year, the lifetime allowance is set at £1,073,100. This means that the maximum amount someone can save into their pension tax-free is £1,073,100.
If you exceed the lifetime allowance there could be a tax charge, the excess can be paid as a lump sum, subject to a 55% tax charge. You can also opt to keep the money in you pension pot and be charged a 25% tax on the excess.
Checking Personal, workplace and self employment pensions
Your pension provider will typically send you a breakdown of your total retirement savings in an annual pension statement. If you have a defined contribution pension, which most workplace and personal pensions are, your annual pension statement will include a calculation of the level of income you can expect to receive in retirement.
After establishing the major tax perk of putting long-term savings into your pension, many clients follow up with questions regarding the minimum contributions and maximum contributions that can be made each year. For the 2020/21 tax year, the annual limit is 100% of your salary or £40,000 (Whichever is lower). This included both contributions paid by you and employer contributions.
Tapered annual allowance
The tapered annual allowance is lower than the standard annual allowance and mainly affects those with income over £240,000. For every £2 of adjusted income over £240,000, the individuals allowance will be reduced by £1.
Exceeding the pension contribution limit
If you exceed the pension contribution limit, there will be a tax charge on any amount over the contribution limit. This is called an ‘annual allowance charge’.
Figures released by the government show that around 10.4 million people contributed to their personal pension during the 2017-18 tax year. The average gross annual contribution for the 2017-18 tax year was £226 per month. This figure considers both the employer and personal contributions.
The average annual contributions tend to differ considerably depending on salary bracket. It is generally advised that people make the maximum contribution that they can each year, without impairing their regular cash flow.
If you have met maximum contributions to your own pension for the tax year, you may be considering contributing your spouses. It is possible to make pension contributions to your spouses pension. In this case your spouse will receive the benefits of the pension tax relief.
Unlike the majority of other saving schemes and products, pension plans can by boosted by contributions and money from the government in the form of tax relief.
Below are some of the key benefits to pension savings
Employer contributions
When you make a contribution to your workplace pension, your employer will also contribute to your pension plan. This means that your will receive extra money that does not come from your salary.
Tax relief
For every £100 paid into a pension by a basic rate taxpayer, the government will contrite £25. If you are a higher rate taxpayer you can claim a further 25% top up through your annual tax return.
No inheritance tax
If you were to die before the age of 75, your pension can usually be passed on as one lump sum without inheritance tax.