Investment Management Association

Facts about funds

About pensions

Investing in funds through a personal pension means that you don't pay tax on investment income or capital gains. Also, for every £1 you invest, you get some extra from the tax man (called 'pension tax relief'). However, you cannot access your money until you are age 55 at the earliest and even then there are restrictions on how much you can cash-in. Also, depending on the income you earn in retirement, you may have to pay income tax.

Personal pensions

If you are self-employed or not part of a company scheme, you may want to set up your own personal pension to save for retirement and benefit from the tax relief.

For every £80 you invest the tax man adds an additional £20, taking your investment up to £100. Higher rate taxpayers can also claim back a further £20 in tax. From April 2011, there is an annual limit of £50,000 on the amount you can invest in a pension.

When you are age 55 or over, you can take up to 25% of your fund as a tax-free lump sum. The rest must be invested to provide an income. You can contribute to a personal pension up to the age of 75.

As with an ISA, you can invest in different investment funds within a personal pension depending on the range offered by the provider and your personal choice.

There are a number of different types of personal pension. All are of the Defined Contribution type, which means it is the amount of contributions made and the performance of the investments held that will determine the amount that is available to pay you a pension in retirement.

SIPP (Self-Invested Personal Pension)

This type of personal pension offers you a wider choice of investments. In addition to the usual assets held directly or in funds, a SIPP can invest directly in other assets such as commercial property or art. The costs you pay to the SIPP provider tend to be higher than for a more straightforward personal pension.

Stakeholder pension

A stakeholder pension is simply a personal pension that meets certain criteria set by the Government. They have low minimum contribution levels (starting at £20) and capped charges at 1.5% for the first 10 years and 1% thereafter. Stakeholder pensions tend to offer more limited investment choices.

Contact The Pensions Advisory Service (TPAS) for more information about investing in pensions.

www.pensionsadvisoryservice.org.uk

Employer-run pension schemes

Many employers run a pension scheme for their staff. Some organisations make all the contributions for their staff. This is called a non-contributory pension. Other employers make a contribution, but also expect the employee to contribute.

Employer-run pension schemes are one of two types: Defined Benefit (DB) or a Defined Contribution (DC).

Defined Benefit (DB) – also known as ‘final salary’ schemes

The final pension you receive is related to your earnings, either in the years immediately before retirement or over your career, and the number of years you have worked for the company.

The trustee of the pension scheme is responsible for investing the pension contributions and must deliver the pension promised, regardless of returns made on the investment. This type of pension can be expensive for the employer, and increasingly organisations are switching to Defined Contribution (DC) schemes.

Defined Contribution (DC)

The employer contributes a fixed or defined percentage of the employee's salary into the pension scheme. The employee may also make contributions. The contributions are invested in the employee’s name by a regulated provider. There is usually a choice of investment funds, so you can have a mix of investments (assets), but there is also a ‘default’ fund available if you do not wish to choose a range of assets yourself.

Unlike a Defined Benefit scheme, the amount of the final pension will depend on the investment performance of the funds and levels of contribution, which are then used to provide an income, just like a personal pension. There is usually the option to take up to 25% of the fund as a tax-free lump sum in return for a reduced income.

The rules on turning the sum accumulated into a retirement income are the same as for personal pensions.

You may wish to ask for professional financial advice when choosing how to invest your DC pension contributions, and to decide when and how to generate an income from your retirement pot. You can use IMA's Financial Adviser Search to help locate someone.

Auto-enrolment and ‘NEST’

From 2012, the Government will require employers, who do not already do so, to begin to offer all their employees a pension. This will be done on an ‘opt-out’ basis. This means that the employee will be automatically included ('auto-enrolled') unless they specifically request not to be. Both the employer and the employee will make contributions, in which there will be tax relief. The money will be invested in their chosen funds and managed for them. Details of how this will work are being finalised.

NEST is a new DC pension scheme that is being set up as an auto-enrolment option. It is government-sponsored and will be attractive to employees who have not already chosen a pension provider.