Pensions, in one form or another, are something we all have to deal with at some point in our lives. For that reason, it makes sense to be able to understand what they are, how they work, and what options are available to us.
Unfortunately, the world of pensions is full of complex terminology and it can be bewildering. The relaxation of pension regulations has seen a wider range of choices made available, but those choices are accompanied by technical terms and phrases that almost seem designed to baffle and confuse. Of course, if in doubt, it's recommended that you get professional, expert pension advice.
However, it's also a good idea to know the basic language of pensions yourself. Here’s a brief guide to help you get started:
Annual allowance
The maximum amount that can be paid into a pension in order to benefit from tax relief is 100% of your earnings. However, if your contributions exceed the Annual Allowance there will be a tax charge payable. The Annual Allowance is currently £60,000 (although it may be less than this in certain circumstances).
Annuity
An annuity gives you a guaranteed income for the rest of your life. The amount of each payment will vary depending on your age, the size of your pension pot and interest rates, but you will have the security of knowing how much you will be getting for the remainder of your days.
Auto-enrolment
Auto-enrolment is the process by which employees are automatically enrolled into a workplace pension scheme. All employees aged 22 to state pension age and earning above £10,000 a year will be enrolled into such a scheme by law, unless they opt out. As a result, they will pay a percentage of their wages towards their future pension. Their employer is also required to contribute.
Defined benefit
This is usually a workplace pension scheme. In this case, the amount that you get at the end is based on your final salary and length of service, or in some cases your average salary.
Defined contribution
Also known as a money-purchase scheme, this type of pension pays out based on how much you've paid in and investment returns.
SIPP
This stands for self-invested personal pension, and is a scheme where you can take control of how your contributions are invested, as well as using a fund manager.
Tax-free lump sum
When you retire, you are usually allowed to receive up to 25% of your accrued pension as a lump sum to spend as you will, and you won't be taxed on this amount.
Tax relief
Contributions to the pension will usually attract tax relief, which effectively tops up the amount being paid in.
Please note, the value of tax benefits depends on your individual circumstances and the laws concerning these can change.
