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Pension basics

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1. State pension

If you’re working you usually build up the right to a basic State Pension and possibly an additional State Pension. The amount of basic State Pension you’ll receive will depend on the amount of National Insurance contributions you’ve paid or are treated as having paid throughout your working life.

There are currently two parts to the State Pension: basic and additional. The basic State Pension is £107.45 a week for a single person in 2012-13. Employees, carers and people who are too ill to work may also qualify for some additional pension.

The government plans to introduce a single-tier State Pension of around £140 a week.

In many cases the State Pension won’t provide an adequate income for retirement and for that reason many people invest in either a personal or company pension as well.

2. Personal pensions

Personal pensions are available from banks, building societies and life insurance companies, who invest your savings on your behalf.

You choose the provider and make arrangements for your contributions to be paid. The provider claims tax relief at the basic rate and adds it to your fund.

When you retire, you can take a tax-free lump sum from your fund and use the rest to secure an income – usually in the form of a lifetime annuity. The amount of income you’ll get depends on several factors including how much you paid into the fund and how well your investments have performed.

Self invested personal pensions (SIPPs) are personal pensions where you have a wider choice of investments such as investment funds, shares, commercial property and futures and options.

New rules for SIPPs came into effect in April 2006 which aimed to make it easier for someone to invest in a SIPP.

3. Company pensions

Company pensions (also known as occupational pension schemes) are set up by employers to provide pensions for their employees on retirement. If you are able to join one, it’s worth considering as most people will be better off in retirement than if they had not joined.

As well as the employee contributing to a company pension scheme, the employer does too.

Company pensions could be a group personal pension (GPP) or a stakeholder pension. With a GPP, your employer must make contributions on your behalf equal to at least 3% of your pay. Your employer does not have to pay anything into a stakeholder pension for you, but it might.

4. Auto-enrolment

Phased in between 2012 and 2017, new rules about pensions mean all employers will have to automatically enrol qualifying workers into a pension scheme and pay into it on their behalf.

Companies without a pension scheme can enrol employees into the new National Employment Savings Trust (Nest).

Employees can opt-out of company pension schemes and might want to do so if they already have pension plans in place.

5. Annuities

People with private pensions use their pension fund to buy an annuity which gives them an income in retirement. Most people buy a lifetime annuity which means they receive an income for the rest of their life.

The Open Market Option (OMO) was introduced by the FSA to give consumers an opportunity to shop around for their annuity and compare the value offered by the company holding their pensions savings against alternative providers.

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