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How Does a Workplace Pension Work?
If you earn more than £10,000 a year and you’re aged between 22 and your state pension age you’ll be automatically enrolled in your workplace pension scheme. A workplace pension gives you a way of to save for your retirement. It’s arranged for you by your employer. Both you and your employer have to pay into it under The Government’s Auto Enrolment Rules.
A workplace pension is usually a defined contribution scheme. This means the value of your pension pot when you retire will depend on how much you and your employer have paid into it and how your investments have performed.
If you start a new job, you’ll receive information about the company’s workplace pension scheme. The information will tell you how much your employer’s prepared to pay in for you. From the 2020/21 Tax Year your minimum payment is 5% of your salary and your employer’s minimum is 3%. Many employers will pay more than 3% into your pension. Some employers will match your contributions up to a maximum percentage defined in the scheme’s rules.
What’s Salary Sacrifice?
Your employer will deduct your pension contributions from your salary before paying you. Your contributions will either be deducted from your net pay (after Income Tax and National Insurance have been deducted) or from your gross pay by Salary Sacrifice.
If contributions are deducted from your net pay the government will top them up for you with a credit for Income Tax at the Basic Rate (20%). If you’re a Higher or an Additional Rate taxpayer you can claim more Income Tax relief at your higher rate when you submit your annual Self-Assessment Tax Return.
Salary Sacrifice means you agree to reduce your salary by an amount equal to your pension contributions. Your contributions are then deducted from your gross salary before your Income Tax and National Insurance deductions are calculated. You benefit because you save the Income Tax plus the National Insurance which you’d otherwise pay on your pension contribution. Your employer benefits because they save on their Employer National Insurance Contribution. Some employers will enhance your pension contributions to reflect their National Insurance saving.
Salary Sacrifice does have benefits, but there are drawbacks from your point of view. Namely: –
- Your higher salary entitlement may not be returned in future.
- Any earnings-related state benefits you become entitled to in the future to might be reduced.
- It might have an impact on your Universal Credit.
- Your employer’s pension contributions might be based on a lower (after salary sacrifice) salary.
- The amount you can borrow on a mortgage or loan will be lower if your lender uses your post Sacrifice salary to calculate your maximum loan.
What Happens If I Change Jobs In The Future?
It’s common for people to change jobs frequently, and this can lead to the build-up of retirement savings in multiple pension pots. If this sounds familiar, it may be difficult for you to keep an eye on how your pension savings are doing and whether your pension investments are still suitable for you. If so, this is something that you can ask us to check for you.
What’s The Different Between a Workplace Pension and a Defined Benefit Pension?
Your employer may offer you a defined benefit pension. Defined benefit pensions are different to defined contribution pensions. With a defined benefit pension, the amount you receive when you retire is based on the number of years you’ve been a member of the scheme and your salary (either your salary in the last few years you work or an average of your salary throughout your career). This type of pension is common in the public sector, but rare in the private sector.
How Do I Cash In My Workplace Pension When I Retire?
When you reach 55, you have options for how to draw the money in your workplace pension, just like you can with a private pension. You can find out more about the options on our page about ‘Cashing in Pensions’.