The pension’s landscape is complex, every year there seems to be another option, piece of legislation or rule change, to complicate matters further.
Unless you plan on working until you die you will need to create a pot of money which can be used to provide you with an income when you finish work and retire.
Whilst pensions have their critics, and there are certainly disadvantages to using one, they have two significant advantages over every other form of saving and investing:
1. Tax relief. No other investment gives you tax relief in the way a pension does. Put simply if you are a non-taxpayer or a basic rate taxpayer, for every £80 you put into a pension the government adds another £20; taking your total contribution to £100. If you are a higher rate tax payer you can claim back a further £20 taking the net cost down to £60.
2. Employer contributions. If you are employed it is highly likely that your employer will run a pension to which they will contribute. Typically your employer will match your contributions up to a maximum level; this is free money and really shouldn’t be turned down. If your employer doesn’t already operate a pension to which they contribute new legislation will force them to do so by 2018, although you shouldn’t delay until then to start saving.
Tax relief and employer contributions can really help to boost your contributions to a more realistic level, after all, very few people can afford to pay what they should into their pension.
However, what sort of pension should you use? The array is baffling, and not helped by the fact there are very few agreed definitions.
For those employees fortunate enough to be able to join a work place pension the decision is really taken out of their hands, they need to join whatever scheme is on offer so they benefit from their employer’s contributions. However, if you don’t have a work place pension to join or you are self-employed what sort of pension should you opt for? There are three main choices:
Stakeholder Pensions were introduced by the Labour government over 10 years ago. They were designed to be a low cost way of planning for retirement but never really gained much popularity because of the limited range of investment options most of the plans had. To make matters worse, a few years after they were launched, the maximum amount which could be charged for the plans rose, rendering them often more expensive than Personal Pension Plans.
Personal Pension Plans
This is where pensions really started to become popular following their launch in the late 1980’s. The Personal Pension Plans today look hugely different from 25 years ago, although many of the principles are still the same.
Today there is a massive variety of Personal Pension Plans available, from the cheap to the expensive and each with their own range of funds to invest in. Personal Pension Plans can actually be cheaper than a Stakeholder Pension and will certainly offer a wider range of funds to pick from covering more fund managers and asset classes.
Self-Invested Personal Pensions
Self-Invested Personal Pensions, or SIPPs for short, have become very popular over the past decade, so much so there are now nearly a million in existence. SIPPs can invest in a wider range of assets than Personal Pension Plans or Stakeholder Pensions, which are typically restricted to investing only in funds.
Whilst a SIPP can invest in funds, it can also hold shares, corporate bonds, gilts, cash, deposit accounts, unlisted shares, commercial property and discretionary fund managers; in fact the list is lengthy.
SIPPs are ideal for people who want to invest in a wide range of assets, whether they are managed themselves or by an adviser. SIPPs also don’t have to be expensive, for the DIY investor there are some very cheap options available from the likes of Hargreaves Lansdown and Best Invest. At the more bespoke end of the market, for example if commercial property purchase is required, they can be more expensive, but as most fees are a fixed cost the effect of the fee reduces the more you invest.
Savings for your retirement is crucial. If there is a pension you can join at work which your employer will pay into then you really should join that scheme, however if there isn’t, or you are self-employed, you need to decide which of the three options we’ve outlined above is for you. Think about what you want to invest in, how much you are willing to pay, and then make your decision from there.
The most important thing though is that you start saving, and sooner rather than later, retirement gets closer every day!
Phillip Bray is a retirement expert who writes for Investment Sense. In this article he looks at how to find the right pension option, from the best Stakeholder Pension to the best SIPP, which route is right for you?