20 October 2009
A pension gives you a retirement income, paid for by investments built up during your working life. The state pension is funded by your National Insurance contributions but only provides a basic income.
You may need another pension in order to retire comfortably.
If you are self-employed, you will not qualify for the additional state pension (also known as the state second pension). However, you can take out a private pension such as a personal pension or a stakeholder pension. The amount you get at retirement depends upon how much money has been paid in, how well it has been invested and the age at which you retire. It is important that you consider all your options before making a decision. This guide helps explain how pensions work and what you need to do to find one that suits your needs.
The basic state pension - If you have built up enough qualifying years before state pension age, you can get a state pension.
What is a qualifying year?
A qualifying year for the state pension is based on the National Insurance contributions you have paid, have been treated as having paid or have been credited with during a tax year. The tax year runs for the 12 months between 6 April and 5 April of the next year.
The number of qualifying years needed for a state pension depends on your gender, your state pension age (SPA) and the date when you reach SPA. You need:
- 44 qualifying years if you are a man with an SPA of 65 and reach this age before 6 April 2010
- 39 qualifying years for a woman with an SPA of 60 and reach this age before 6 April 2010
- 30 qualifying years if you reach SPA on or after 6 April 2010
If you do not have sufficient qualifying years, your state pension may be reduced. The full basic state pension for 2009-10 is £95.25 per week.
How much basic state pension will I get when I reach SPA?
To get an estimate of how much state pension you will get when you reach SPA you may be able to get a state pension forecast. This could help you decide whether you are saving enough money to cover your retirement and if you need to save more. You can receive a personalised retirement planning service by calling the State Pension Forecasting Team Helpline on Tel 0845 3000 168. Alternatively, you can request a pension forecast online at the Pension Service website.
Changes to the SPA
The earliest age for drawing your state pension is currently 65 for men born on or before 5 April 1959 and 60 for women born on or before 5 April 1950. However, from 6 April 2010 women's SPA will gradually increase from 60 until it reaches 65 by 2020. This means women born on or after 6 April 1950 but before 6 April 1955 will have an SPA between 60 and 65 based on their date of birth. Women born on or after 6 April 1955 but before 6 April 1959 will have a SPA of 65.
From 2024 to 2046, the SPA will gradually rise from 65 to 68 for men and women at the same time. To find out when you will be entitled to claim your state pension, use the state pension age calculator on the Pension Service website.
Pension credit
If you are 60 or over you may be entitled to pension credit - an extra payment giving you a guaranteed minimum income. You can find out about pension credit on the Pension Service website.
Other tax-efficient savings – ISAs
An individual savings account (ISA) gives you an alternative - or additional - way of saving for your future. However, saving into a pension is normally the best way to save for retirement as this gives you an income for life. Relying on ISAs without the back-up of a pension can be risky.
What is an ISA?
An ISA is a tax-free investment allowance, covering investments such as stocks, shares or unit trusts. You don't pay tax on income from them or on capital gains if they increase in value. There are two types of ISA: stocks and shares ISAs and cash ISAs. You can invest in one of each type in each tax year. The amount you can invest is subject to the following limits:
- No more than £7,200 per year in total.
- No more than £3,600 per year in a cash ISA.
- The remainder of your £7,200 can then be invested in a stocks and shares ISA
- eg. if you invest £2,000 in a cash ISA in a tax year, you can invest up to £5,200 in a stocks and shares ISA.
Advantages of an ISA
You get more control over your savings and that they are easy to track and understand. ISAs are flexible and unrestrictive in that you can change to another provider and access and invest into the fund at any time. You also do not have to pay income tax on any growth in the value of an ISA.
Disadvantages of an ISA
You will miss out on tax relief on initial contributions, plus they may not be a particularly reliable investment for long-term saving as they could be withdrawn in the future.
Transferring your pension
You may be thinking about transferring your pension, perhaps because you have seen another pension product offering more attractive benefits. Before you do so, take a close look at the penalties of leaving your existing scheme. Ask your pension provider for a transfer value to find out how much you stand to lose. You may decide that, even with the penalties incurred, it is still worth transferring to the new scheme. Make sure you have compared the different products as closely as possible, particularly projections of final income. Note that there is no cooling off period if you transfer a pension, so it's vital to get it right. There is no charge for transferring a stakeholder pension.Starting an additional pension scheme
If you decide that it's not worth transferring your pension you may instead be able to start up a new pension scheme in addition to your existing one. However, check whether or not you can reduce payments to your existing pension and whether there is a charge for doing this. If you can reduce payments to your existing scheme, you will be able to pay more into the new scheme instead.
The consequences of transferring your pension are significant, so you might like to get professional advice. The Pension Service website can give you information and guidance.
