Boosting private pensions
Conventional wisdom says that the more you pay into your private pension while you're still working, the better. But why is this? You might be wondering when should you stop adding money to your private pension – or whether you should keep boosting it until the month you retire. And then there's the question of tax relief. Whatever your concerns, the following may help...
Why should I top up my pension?
Every penny you pay in now will make a difference to the amount you'll get when you retire. That's why it makes sense to pay as much as you can into your pension scheme, even during the year you plan to stop working full time.
If you're paying a higher rate tax now, but expect to pay basic rate tax in retirement, then it's particularly worthwhile. Why? Because you'll get tax relief at the higher rate on your contributions.
So if you're a higher rate taxpayer and pay £80 into your pension, the Government will add £20 in the form of tax relief which takes your contribution amount up to £100 - this also still applies if you're a Scottish resident and pay the starter rate of 19%. Then, through your tax return, you can claim a further £20 of higher rate tax relief (England, Wales and Northern Ireland) or £21 (Scotland). All of this means that despite initially paying £80 into your pension, the total cost to you will only be £60 (England, Wales and Northern Ireland) or £59 (Scotland). In Scotland there is currently an intermediate tax rate of 21% for earnings between £21,151 and £31,580. You can contact the HMRC to claim the additional 1% on pension contributions or claim through your tax return.
In some cases your employer may deduct your pension contributions from your salary before income tax is paid on them, and will automatically claim back tax relief at your highest rate of income tax. If you’re not sure whether this applies to you, it’s worth speaking to your employer to find out.
So how much can I pay in?
There’s currently no limit on the amount of money that you can contribute into a pension each tax year and you can normally receive tax relief on contributions up to 100% of your earnings.
But if your contributions (including those made by other people such as your employer) are more than £40,000 a year, tax charges may apply. This is called your annual allowance. If you go over your annual allowance, the excess is subject to a tax at your marginal rate called an 'annual allowance charge'.
It is worth checking whether you can carry forward any unused annual allowance from previous tax years though as this can reduce how much tax you pay . If you feel this might apply to you, or you would like further information it’s usually best to seek financial advice.
If your income is over £110,000 – and when adjusted to include pension contributions is over £150,000 – your allowance is lower. This is called the ‘tapered annual allowance’, which can be as low as £10,000.
Additionally, if you chose to access your private pension flexibly your annual allowance could also drop to £4,000, even if you are not affected by the tapered annual allowance. This is known as the ‘Money Purchase Annual Allowance’ for 2017-2018 onwards and it can’t be increased by 'carrying forward' from the previous tax year.
And that's not the only allowance that could affect you. The other allowance to be aware of, is the lifetime allowance. The lifetime allowance is the maximum amount of pension savings you can build up without having to pay a tax charge. For the tax year 2018/2019, the limit is £1.03m.
As you can see, it's a complex area of finances. Our strongest recommendation if you're not absolutely sure about the limits and allowances – but would like to top up your workplace or private pension – is to seek professional advice.
OK, but how else can I boost the value of my pensions?
First of all, review them – ask a professional adviser to help you understand more about the funds your money is being invested in. On closer inspection, you may feel comfortable moving into funds with higher risks but the potential for greater returns – but remember, it is important to bear those risks in mind, and any charges for swapping funds, too.
It might also be a good idea to bring all of your pension pots together. This is quite common. You may have worked for more than one company in your career and have two or three or more small pensions – all working independently of each other. The process of bringing them all together is called consolidation. For some, it can make sense for several reasons because:
- You'll only have to deal with one pension provider – that makes life easier.
- You could pay less in administration charges on one pension, than you've been paying on several pensions.
- If you decide to buy an annuity when you retire, you'll get just one payment each month – that could make life easier too.
As always though, there are some things to think about:
- Penalties – some providers levy a fee if you transfer your pension, have restricted investment choices, or have higher fees for certain schemes. So make sure you are happy with every detail before you make a decision.
- You don't have to consolidate your pension pots into a single annuity payment. Sometimes this may not be right for you, as it could potentially restrict your options and mean less flexibility for your retirement income.
- Some pensions have guarantees connected to them which you may lose rights to if you consolidate your funds.
- You may be able to take small pension pots as a lump sum, but you may lose this right if you consolidate your pension.
Again, it's best to seek professional advice. And of course, even if you don't have lots of pensions to consolidate, or aren't going to pay more in contributions, you could think about adding savings to an ISA.
Anything else I should think about?
If you are working for a company, it is always worth talking to your pensions administrator face to face. It's an opportunity to understand what contributions the company is making on your behalf in more depth, and perhaps negotiate a higher contribution as part of an annual review.