Can a lower earner have a private pension?

cashbackproblems

Hi

Just need some advice for my brother who is 30years old and works in a shop and is thinking about investing in something for a pension. He doesnt get any company pension, so can we pay into a private one? Are there any tax reliefs or state contributions to it?

He can easily afford £100-200 per month.

Thanks in advance

bristol_pilot

He can have a private pension, but I think he'd be wasting his money. Pensions are all about employer contributions and obtaining higher-rate tax relief.

As a basic rate taxpayer, he would get basic rate tax relief on contributions but pensions are taxable when paid so he would only save tax on the 25% pension commencement lump sum which sods law says will no longer be tax-free by then.

The individual in question may be better off saving in an ISA.

Aegis

He can, yes. He won't be getting as good terms as either a higher rate taxpayer or a member of an occupational scheme, but a pension plan can still be a very useful retirement planning tool. However, he should consider it as part of an overall financial planning strategy that also includes using his ISA allowance, as the benefits are reasonably similar but with a little more flexibility.

In terms of tax relief, he'll receive a 20% relief though the pension plan, so making a gross contribution of £250 will cost him £200 from his net pay.

cashbackproblems

Thanks for your responses, i dont understand why an ISA would be better when u only get 2/3% whereas with a private pension it looks like for every £80 the govt pays £20 plus you get gains from whereever the money is invested.

I found this with Virgin Money, looks very simple and only 1% charge..?

http://uk.virginmoney.com/virgin/pension/personal/index.jsp

dunstonh

i dont understand why an ISA would be better when u only get 2/3%

he is referring to the S&S ISA, not a cash ISA.

I found this with Virgin Money, looks very simple and only 1% charge..?

Its pretty much one of the worst pensions on the market today.

jamesd

Instead of the Virgin account he could go for the HSBC FTSE All Share Index Fund via an account at Hargreaves Lansdown. That has a 0.25% annual charge, increasing to 0.27% total expense ratio (the extra 0.02% is a number that includes some of the fund administrative costs). That invests in the same set of companies in the same way as the one the Virgin account uses but it's at about a quarter of the cost. If he wanted to, he also has a lot of other options that he could choose to use at Hargreaves Lansdown. Or not, if he prefers not to.

The pension route has these advantages:

1. the tax relief going in
2. the 25% lump sum without tax coming out
3. the personal allowance for income tax that means the first £10,000 or so of income is tax free as well.
4. not included in means tests if he's ever unemployed or unable to work. But also not available until age 55 at the earliest.

The ISA method has the advantage and disadvantage that the money is available at any time, so it counts for means tests for benefits but is also available for things like a property deposit or living at a higher standard than benefits allow when unemployed.

With the pension tax relief he'd pay in whatever he wanted to, say £100. Then about a month later another 25%, so £25, will be paid in by HMRC.

I worked out how the final incomes and lump sums compare for retirement income for a basic rate tax payer a while ago and you might find it interesting. After 35 years of £300 a month increasing with inflation, the pension could produce £20,900 income a year, £19,570 with the ISA, both after tax. The pension pot tax free lump sum would be £78,500 (£314,000 total pot) while the total ISA pot would be £251,000.

The lower the income is, the greater the advantage that the pension gives, because a bigger proportion is tax free.

Loughton_Monkey

bristol_pilot wrote: »

He can have a private pension, but I think he'd be wasting his money. Pensions are all about employer contributions and obtaining higher-rate tax relief.

As a basic rate taxpayer, he would get basic rate tax relief on contributions but pensions are taxable when paid so he would only save tax on the 25% pension commencement lump sum which sods law says will no longer be tax-free by then.

The individual in question may be better off saving in an ISA.

This is certainly a view, but not one I particularly share.

Yes, of course, it's far better if the employer is throwing an amount in, too, but even so that should not stop an employee investing in a pension without that support (or indeed putting in over and above the amount that the employer 'matches').

Any argument that implies 20% tax relief when you put it in, is wiped out by 20% tax paid when you take it out doesn't cut much ice. If tax is 'deferred' by up to 40 years surely that's excellent?

I agree 'sods law' might say that the 25% tax-free cash is unavailable when your brother retires. But the same law may also (by that time) say "sorry, Joe Public, we're absolutely bankrupt. From now on, state pensions are being reduced by 30% and are only paid in food stamps. Those who have provided for their own pension get no food stamps, but can keep all their income tax free."

cashbackproblems

jamesd wrote: »

Instead of the Virgin account he could go for the HSBC FTSE All Share Index Fund via an account at Hargreaves Lansdown. That has a 0.25% annual charge, increasing to 0.27% total expense ratio (the extra 0.02% is a number that includes some of the fund administrative costs). That invests in the same set of companies in the same way as the one the Virgin account uses but it's at about a quarter of the cost. If he wanted to, he also has a lot of other options that he could choose to use at Hargreaves Lansdown. Or not, if he prefers not to.

The pension route has these advantages:

1. the tax relief going in
2. the 25% lump sum without tax coming out
3. the personal allowance for income tax that means the first £10,000 or so of income is tax free as well.
4. not included in means tests if he's ever unemployed or unable to work. But also not available until age 55 at the earliest.

The ISA method has the advantage and disadvantage that the money is available at any time, so it counts for means tests for benefits but is also available for things like a property deposit or living at a higher standard than benefits allow when unemployed.

With the pension tax relief he'd pay in whatever he wanted to, say £100. Then about a month later another 25%, so £25, will be paid in by HMRC.

I worked out how the final incomes and lump sums compare for retirement income for a basic rate tax payer a while ago and you might find it interesting. After 35 years of £300 a month increasing with inflation, the pension could produce £20,900 income a year, £19,570 with the ISA, both after tax. The pension pot tax free lump sum would be £78,500 (£314,000 total pot) while the total ISA pot would be £251,000.

The lower the income is, the greater the advantage that the pension gives, because a bigger proportion is tax free.

thanks for the response much appreciated!

Just to get my head around it had a few questions, with the Personal Pension your example seems to suggest this gives a bigger pot but the HSBC Fund would be more readily available which i think he would prefer. Also doesnt it make a difference how the Fund and Pension perform, that fund gives dividends of 2/3% whereas on the Virgin pension it states historic increases have been 5-7% annually (i guess this includes capital growth as well as dividend reinvestment). So are there any schemes like Virgin but better terms or even other Funds which i could look into? Someone recommended Jupiter recently, is tht the same thing? Also cant u open the fund in an ISA account so then you get the same tax free benefits?

Is it worth him putting 200 into the fund and 50 into the PP, or would tht 50 be better off in the fund?

Thanks

dunstonh

So are there any schemes like Virgin but better terms or even other Funds which i could look into?

Seeing as Virgin is about the worst option out there then pretty much every other pension is better.

? Someone recommended Jupiter recently, is tht the same thing?

No. Jupiter is a fund house. Their funds are made available in some pensions.

Also cant u open the fund in an ISA account so then you get the same tax free benefits?

Similar but not the same. The pension is "more" tax free than the ISA. The pension doesnt form part of your estate (so no IHT) plus it gets tax relief on contributions.

Is it worth him putting 200 into the fund and 50 into the PP, or would tht 50 be better off in the fund?

Picking just one fund (unless its a diverse self balancing fund) is a risky business. Its eggs all in one basket.

hugheskevi

Any argument that implies 20% tax relief when you put it in, is wiped out by 20% tax paid when you take it out doesn't cut much ice. If tax is 'deferred' by up to 40 years surely that's excellent?

If the choice truly was 20% relief on way in, 20% tax on way out (no lump sums to complicate things) then why on earth wouldn't you use a S+S ISA? The tax may be deferred, but so is access to the money.

jamesd

cashbackproblems wrote: »

the HSBC Fund would be more readily available which i think he would prefer.

The HSBC fund can be held in either an ISA or the pension at Hargreaves Lansdown. Same cost whechever one it's used within.

cashbackproblems wrote: »

Also doesnt it make a difference how the Fund and Pension perform, that fund gives dividends of 2/3% whereas on the Virgin pension it states historic increases have been 5-7% annually (i guess this includes capital growth as well as dividend reinvestment)

The HSBC and Virgin funds invest in the same way and have essentially the same performance before charges. That's forced, because they are both trying to produce the same result as holding the companies in the FTSE All Share Index. Historic growth is capital plus dividends, yes.

cashbackproblems wrote: »

So are there any schemes like Virgin but better terms or even other Funds which i could look into? Someone recommended Jupiter recently, is tht the same thing?p

Jupiter is a fund management company that offers may different funds. The Jupiter Merlin part of that range is a selection of funds that are good for inexperienced investors. They are available at Hargreaves Lansdown and other places, both inside a pension and inside an ISA.

cashbackproblems wrote: »

Is it worth him putting 200 into the fund and 50 into the PP, or would tht 50 be better off in the fund?

You're a little confused here. The pension and the ISA are both tax wrappers that can hold funds. The HSBC fund or the Virgin fund are two funds that can be held within a pension or ISA. If you put money into the Virgin pension it goes into the Virgin fund as well. With Hargreaves Lansdown you have the pension and can choose which funds you want to use, you're not limited to just one.

It would be better to use several different funds.

Loughton_Monkey wrote: »

Any argument that implies 20% tax relief when you put it in, is wiped out by 20% tax paid when you take it out doesn't cut much ice. If tax is 'deferred' by up to 40 years surely that's excellent?

If there were no other advantages, just 20% back at the start and taken off at the end there would be no gain or loss from having it off for those 40 years. It's the lump sum and personal allowance at the end that gives the advantage, by reducing how much tax you do pay when you take it out.