Defined contribution Pensions
At A&J we deal with numerous types of pension schemes, whether that is providing individuals with analysis of their existing products which they have accumulated over the years, or whether we are recommending a new product to house their contributions going forward. The most common type of pensions that we use for our private clients are detailed below.
Self-Invested Personal Pensions
A Self-Invested Personal Pension (SIPP) is a more sophisticated personal pension plan, geared to be more investment-driven. A SIPP will also give you access to a greater range of investment options; namely individual shares, commercial property, Structured Products, and Cash Deposit Accounts.
In addition it offers the ability to enter Flexi-Access Drawdown in retirement.
A SIPP is therefore a wrapper for investment vehicles similar to other defined contribution schemes. All investment growth and income is tax free, but unlike personal pension plans, you can buy into funds not commonly available to the majority of personal pension and stakeholder policy holders.
Due to SIPPs offering a greater range of investments they are traditionally tailored for individuals’ that wish to specialise their retirement planning.
Although there is a wider range of investment products available, typically most SIPPs' core holdings are in OEICs or Unit Trust. Usually these funds are invested directly rather than in a mirror or pension copy of the investment fund.
A SIPP can invest directly in company shares or can be used to purchase a commercial property. A SIPP can also borrow funds from a third party such as a bank.
Group Personal Pensions (GPP)
A GPP is simply a collection of individual personal pension plans organised by the same employer. It is a tax efficient plan to help you to achieve an increased pension income when you retire.
You and your employer can pay contributions each month. In addition, the HMRC also pays into the plan by awarding tax relief on your personal contributions. The money in the plan is invested and you have a say on how this is done by choosing from different funds. Each fund aims to invest in a certain way.
The plan is administered by a Life Office such as AEGON, Standard Life, Aviva or L&G.
Contributions can be made from the employees’ net income or by salary sacrifice into the GPP.
What is salary sacrifice?
Salary sacrifice is an option where the employee will not make a contribution directly into their pension plan. Instead they will agree with their employer that their gross basic salary is reduced by an amount they wish to contribute. This money is then paid into the pension plan as an employer contribution. The employer makes this payment on top of their usual payment.
Paying in like this means that both the employee and employer make a saving on National Insurance Contributions.
Salary sacrifice is a contractual arrangement between employee and employer. Normally you cannot change or stop the sacrifice agreement during the agreement period, except in certain circumstances.
The potential disadvantages of Salary Sacrifice are as follows:
· A number of State benefits depend on maintaining a minimum level of National Insurance Contributions (for example, the State Second Pension, Incapacity Benefit, Statutory Sick Pay, Statutory Maternity Pay and Job Seekers Allowance). However, for most employees, paying less in National Insurance will not adversely affect your entitlement to State benefits.
· Reducing your salary could have an adverse effect on your borrowing capacity for Mortgages, credit card limits, personal loans etc.
· Any reduction of salary may reduce your entitlement to the State Second Pension (S2P) or the level of your rebate if you are contracted out.
Default investment funds for GPP must include a lifestyling feature. Lifestyling funds will slowly switch into more cautious funds in the years leading up to a plan’s Selected Retirement Age. This is designed to protect a members’ fund from any sharp decline in value as they appraoch their retirement.
Auto-enrolment - what is it?
If you are employed in a private company - or if you run a small business that employs others - chances are you have come across the concept of auto-enrolment.
Introduced by the Government to encourage a greater level of saving towards retirement, the last five years has seen millions more people become members of workplace pension schemes and start investing for their future.
Just like any other type of pension plan, a workplace pension offers tax incentives on the money you invest. The difference with workplace pensions, however, is that your employer is under an obligation to set up such a scheme and, for those eligible to join it, required to make a top up contribution for them as well.
To be eligible, you need to be:
- Working in the UK
- Aged at least 22
- Below State Pension age
- Earn over £10,000 a year (2019/20)
- Not already a member of another qualifying workplace pension scheme
Note: even if you are on a short term contract or paid by an agency, elements of the legislation mean you are still covered by the auto enrolment rules.
There is a minimum amount that must be contributed by yourself, the company and the Government. This is currently set at 5% of income but will increase next year to reach a total of 8%. Which is made up as follows:
4% contribution from you
3% contribution from your employer
1% top up in tax relief, paid by the Government
These contributions apply to your all your annual earnings, including bonuses and commissions, above £6,136, subject to a maximum of £50,000 a year (tax year 2019/20). If you earn more than £50,000 a year, there is no compulsion to make contributions on anything above this. Alternatively, contributions can be based on gross basic salary or total earnings.
You can choose to opt out after you have initially been auto enrolled. But there are two things to bear in mind:
Most importantly, you will miss out on employer and government contributions, you do not receive these if you are not part of the scheme.
Your employer is under obligation to re-enrol you every three years. So to stay opted out, you will need to make an opt out declaration each and every time this happens.
It is therefore in the vast majority of people's interests to ensure they take advantage of this opportunity.
If you would qualify through age and status, earn more than £6,136 but less than £10,000 a year (tax year 2018/19) you do not have to be enrolled but you can ask your employer to enrol you voluntarily. If you do, they have allow you in and make the top up contributions for you as well. So it can help you start that all important retirement funding.
If you are under age 22, over State Pension Age or earn less than £6,136, you can still ask to be enrolled. However, the employer does not have to say yes and, even if they do, are not required to make any top up contributions for you.
Similar to Personal Pensions, Stakeholder pensions are defined contribution plans that are reliant upon the level of contributions made to the plan, the investment growth achieved and the charges applied to the plan.
Stakeholder plans were launched in April 2001 to encourage individuals to make long-term savings for retirement by installing greater consumer confidence and transparency of charges.
Stakeholder plans have to adhere to several conditions such as a cap on charges, low minimum monthly contributions and the ability to stop and re-start contributions.
A stakeholder pension has the same limits and tax treatment as a personal pension but is subject to certain minimum standards relating to charges and investment options. Stakeholder pensions are designed to be simple to understand and decision trees have been produced by the FSA to help you should you require further advice with regards to these types of pension plans.
A stakeholder plan is subject to a maximum annual management charge of 1.5% reducing to 1% after 10 years.
Again, all assets held within a Stakeholder plan can be invested in OEIC or Unit Trusts to achieve long-term growth. However, due to the low cost structure we tend to see limited fund ranges for these plans.
Please continue to have a look around our knowledge centre where you can find more information on final salary pensions or inheritance tax rules that might be relevant or contact us for a more personal recommendation.