Pensions
What is a Pension?
A pension is a tax efficient savings vehicle. Contributions into the pension scheme attract tax relief at the individuals highest rate although proposals, announced in the 2009 budget, are being introduced to restrict higher rate relief for higher earners. The funds within the scheme grow tax efficiently and a tax free lump sum can be paid out at retirement up to a maximum level of 25%. The balance of the fund is used to provide income in retirement.
Limits relating to contributions and Tax relief.
You can save as much as you like into any number and type of registered pension
schemes and get tax relief on contributions of up to 100 per cent of your earnings (salary and other earned income) each year, provided you paid the contribution before age 75. But the amount you save each year toward a pension is subject to an 'annual allowance'.
For the tax year 2009-10 the annual allowance is £245,000. You pay tax at 40 per cent on any contributions you make that are above the annual allowance.
From 6 April 2011, individuals earning £150,000 or more will have their relief restricted. Measures have been put in place to restrict higher rate tax relief for certain individuals from the date of the budget, this being 22 April 2009. The majority of individuals are not affected by these measures as they have earnings below £150,000 or pay less than £20,000 per annum into a pension plan.
What happens if you don’t pay tax?
If you don't pay tax you can still pay into a personal pension scheme and benefit from basic rate tax relief (currently 20 per cent) on net contributions up to £2,880 a year. In practice this means that if you pay £2,880 the government will top up your contribution to make it £3,600.
There is no tax relief for contributions above this amount
How much can you build up in your pension?
There is a lifetime allowance which limits the amount you can accumulate free of tax in all your pension funds when you come to draw your benefits. This is £1.75m for the tax year 2009/10. You have to pay tax on any excess over the £1.75m allowance. This is set to rise to £1.8m by 2010/11.
Salary–related pension scheme benefits are given a value which counts towards the £1.75m lifetime allowance.
Any amount above the lifetime allowance can be paid either as a lump sum or as income.
Different levels of tax are applied depending on how the amount above the lifetime allowance is withdrawn. If taken as a lump sum 55% tax is applied, if taken as income 25% is applied. You may have to pay tax on the income which increases the effective rate that is applied.
Levels and basis of and reliefs from taxation are subject to change and their value depends on the individual circumstances of the investor.
How much should you pay into a money purchase pension?
What you pay into a pension plan depends on what you can afford. It can be anything from as little as £20 a month or a percentage of your earnings if you wish. The earlier you start the better. This is because the more time your savings have to grow, the bigger your pension is likely to be.
Types of pensions
There are three main types of non-State pension. They are:-
Occupational salary-related schemes – offered by some employers;
Occupational defined contribution schemes (also called money purchase pensions) – offered by some employers; and
Stakeholder Pensions and Personal pensions – offered by some employers, or you can start one yourself. You may also be offered a group personal pension at work. These are also money purchase pensions.
Please contact Nicholsons to discuss the benefits of investing into a pension and the level of contribution you should be considering to help you plan for the future.