A personal or private pension plan (PPP) is an investment policy that provides a person with a regular income in retirement and is essentially a form of defined contribution arrangement.
A person with a personal pension saves a regular amount (normally every month) or alternatively, pays a lump sum, into a fund run by their pension provider, such as a bank, building society, insurance company, unit trust, pension company or high street retailer. This provider in turn invests the money on the policyholder’s behalf. If a person wants to receive more than a State Pension but does not participate in a company pension scheme through their employer, a personal pension may be a suitable option.
Personal pension contributions can be invested in most asset classes including UK and overseas equities, fixed interest, cash and commercial property. There are no guarantees of returns on these investments and their value may rise as well as fall. Returns, as with all investments, are determined by the level of risk and fluctuation that an investor is willing to take in order to pursue the possibility of making a gain. Accordingly, it is common practice for policyholders to adjust the asset allocation in their investment portfolios so as to lower the risk levels as they approach retirement. For instance, as retirement nears, stocks and shares can be converted into either cash or fixed interests such as government bonds.
The amount of pension payable when the policyholder retires is determined by:
• The amount of money paid into the scheme
• How well the investment funds have performed
• The ‘annuity rate’ at the date of retirement
Who can invest in a personal pension?
A person is eligible to save into a personal pension irrespective of whether they are employed, self-employed or unemployed as long as they are:
16 years of age or over
A UK resident
Understand that the money they invest will not be assessable until they retire
When might a personal pension be a good option?
A variety of factors will influence whether a personal pension is the right choice including how much a person can afford to contribute each month and how much they may get from other pensions. Our list is not exhaustive but may help you decide if personal pensions could be suitable for you.
Personal pensions may be suitable for:
People who are self-employed
People who are not working but can afford to pay for a pension
Employees whose employer does not offer a company pension scheme
Employees who have the option to pay into a company pension, but choose not to
Employees on a moderate income who wish to top up the money they would get from a company pension
A personal pension may be inappropriate where
An employer offers a company pension scheme
An employer offers access to a Stakeholder Pension scheme, with an employer contribution
Other factors to consider before getting a personal pension
Choosing an appropriate way of planning for the future, by taking into account which personal pension scheme to use, is an important financial decision and should include careful consideration of the following:
The rules relating to pension contributions
The amount that can be saved and whether the pension scheme ‘contracts out’ of the additional State Pension
The way the money will be invested
The set-up and administration charges made by the provider
When and how can a personal pension be relied on?
As of April 2010 the earliest a person can take a personal pension is at the age of 55, although in certain circumstances they may be permitted to take it before then. While most people choose to wait until the age of 60 or 65, it is not necessary to retire from work to receive pension benefits. Conversely, a person can delay taking their pension until the age of 75. Upon retirement, a policyholder can usually choose to take up to 25% of the value of their fund as a tax-free lump sum, using the remainder to purchase an annuity. The annuity provides the policyholder with a regular income for the rest of their life. A person also has the option to include their spouse or dependents in their annuity planning, at the cost of a reduction of their own annuity. Subject to the rules of the personal pension and the wishes of the policyholder, a personal pension plan can pay out a regular income or a tax-free lump sum to a widow/widower, civil partner or other dependant(s) upon death of the policyholder before their retirement.
Getting financial advice about personal pensions
If you are unsure as to whether a personal pension is the right choice for you, you can seek expert advice from The Pensions Advisory Service (TPAS) or a financial adviser before making a decision.
There are some important questions to ask when choosing a pension provider. Choosing the right PPP given the variety available can be a daunting task. There are a number of rules that personal pensions are subject to. These relate to eligibility, contributions and the withdrawal of funds. Below are a few essential useful queries that will assist in making that choice:
What charges does the provider levy including pension contribution insurance, annual management charges, portfolio charges, switching fees between funds or transfer charges?
Are there any loyalty bonuses available under the scheme?
Are there any charges for transferring out of the pension?
Is there a large fund reduction for costs?
As ever, if you are looking to make the best choices based upon your own personal situation – it is very often a good idea to consult an IFA in order to map out a balanced and considered retirement plan.