Navigating the complexities of UK pensions and retirement planning can be challenging. This handy guide provides brief definitions of essential terms you need to understand, along with links for more information.
Annuity
An insurance product that offers a guaranteed regular income, typically for retirees, often for their lifespan.
Annual Allowance
The maximum amount you can contribute to a personal pension each tax year (April 6 to April 5) without incurring a tax penalty. For the 2023/24 tax year, this limit is set at £60,000 or 100% of your salary, whichever is lower. The allowance may change if you begin to withdraw funds from a pension.
Auto-Enrolment
A system that automatically enrolls eligible employees into a workplace pension scheme without requiring them to opt in. All UK employers are obligated to provide a workplace pension scheme and enroll qualifying workers.
Basic State Pension Rate
For the 2023/24 tax year, the full basic State Pension is £156.20 per week, contingent upon your National Insurance record. Men born on or after April 6, 1951, and women born on or after April 6, 1953, receive the new State pension.
Carry Forward Rule
This rule permits you to contribute to your pension above the annual allowance while still benefiting from tax relief. You can use any unused annual allowance from the last three tax years, assuming you were part of a registered scheme, subject to certain conditions.
Defined Benefit Scheme
A workplace pension where your payout is determined by your tenure with the employer and your salary, or final salary. These schemes, now less common, typically provide a stable income that increases with inflation. Often referred to as final salary schemes.
Defined Contribution Scheme
This type of pension can be either workplace or personal. Contributions, often deducted from pre-tax salary, determine the benefits received at retirement. Unlike defined benefit schemes, the retirement income is not guaranteed and depends on the performance of investment funds.
Drawdown
A flexible retirement option allowing access to your pension pot from age 55 (increasing to 57 in 2028). With drawdown, you can withdraw income while keeping the remainder invested. You can take up to 25% tax-free, with further withdrawals taxed at your income tax rate.
Early Retirement
Retiring before reaching your State Pension age. You can access workplace and private pensions from age 55 (rising to 57 from April 2028).
Final Salary Scheme
A specific type of defined benefit scheme where pension benefits are determined primarily by the last few years of earnings before retirement.
Inheritance Tax
A 40% tax on a deceased person’s estate above a certain value threshold, charged against their assets rather than the beneficiaries. The current ‘nil-rate band’ for inheritance tax stands at £325,000.
Lump Sum
With the introduction of pension freedoms in 2015, individuals aged 55 and older (57 starting April 2028) may access a cash lump sum from their pension pot through drawdown. The first 25% is tax-free, while subsequent withdrawals incur income tax.
Money Purchase Annual Allowance (MPAA)
This regulation applies to defined contribution schemes. Upon beginning withdrawals from a pension pot, your tax-efficient contribution limit may decrease; at this point, the MPAA is set at £10,000 per year.
New State Pension
Launched on April 6, 2016, the new State Pension is available to men born on or after April 6, 1951, and women born on or after April 6, 1953. The full amount is £203.85 per week, though this varies based on your National Insurance contributions.
Pension Consolidation
The process of combining multiple pension pots into a single scheme to simplify management. This can lead to clearer insights regarding retirement funds and possibly lower fees.
Pension Credit
A benefit for individuals over the pension age with low income, potentially assisting with housing costs such as ground rent or service charges.
Pension Crystallisation
The process of withdrawing from a pension through methods like drawdown, tax-free lump sum, or annuity arrangements. You can crystallise a personal pension starting at age 55.
Personal Pension
Often referred to as a private pension, this investment option offers tax advantages for retirement savings. Funds are typically locked until you reach 55, and basic tax relief applies at 20% on contributions, with an annual allowance of £60,000 (for 2023/24).
Self-Invested Personal Pension (SIPP)
A type of personal pension that grants you control over investment choices. Suitable for larger contributions and experienced investors, SIPPs can come with higher fees due to the active nature of management.
Stakeholder Pension
A regulated personal pension characterized by low minimum contributions, limited investment options, and capped fees to protect consumers.
State Pension
Regular payments from the government available once you reach the State Pension age, which varies based on birth date. You can check your State Pension forecast on the government website.
Tax Relief
A government incentive designed to encourage retirement savings, this relief applies to personal pension contributions. Eligible UK taxpayers under 75 can receive tax relief on contributions up to the annual allowance or 100% of earnings, whichever is lower.
Transfers
Combining multiple pension schemes can simplify management and provide a clearer view of retirement savings. Typically, this process is straightforward if you have the necessary scheme details.
Workplace Pensions
Pensions offered by employers, which are mandatory for businesses in the UK. Employees automatically contribute a portion of their salary, and most employers match or exceed their contributions.
Risk Warning
As with all investments, your capital is at risk. The value of your Nutmeg portfolio may fluctuate, and returns could be lower than your original investment. Pensions may not suit everyone, and tax regulations could change in the future. If uncertain whether a pension is right for you, consider seeking financial advice. Note that during any transfer, your investments will be out of the market.
Tax treatment varies based on individual circumstances and may change over time.
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