Why it’s so important for your employees to understand how their pension works

For many people, retirement is a time to relax and enjoy the rewards of a lifetime of hard work. Your employees may already have thought about what they want to do, whether that’s taking long holidays or simply spending more time with their loved ones.

Of course, if they want to be able to live their desired lifestyle, it’s important to have enough wealth to support it. According to recent research by Aviva, while more people are saving into their pensions than ever before, many Brits don’t fully understand the rules surrounding these investments.

This is worrying news, as being able to make informed decisions is essential for helping to grow wealth in an effective way. Read on to find out why it’s so important for your employees to fully understand how their pension works.

It’s important to have enough wealth to have a comfortable and sustainable retirement

If your people want to enjoy a comfortable retirement, being able to make properly informed decisions can help them to grow their pension wealth effectively.

For a start, it’s important to know how much they can tax-efficiently contribute into their pension each tax year (6 April to 5 April). In the 2021/22 and 2022/23 tax years, this stands at £40,000 or 100% of their earnings, whichever is lower.

Tax relief can be a useful way to help grow their wealth, so it’s important for your employees to understand how it works and how much they can claim.

Whenever they make a contribution, some of the amount that they would normally have paid in tax is transferred directly into their pension instead. The amount that they can receive depends on the rate of tax they pay, meaning that if they’re:

• A basic-rate taxpayer, they’ll receive 20% tax relief on their contributions
• A higher-rate taxpayer, they’ll receive 40% tax relief on their contributions
• An additional-rate taxpayer, they’ll receive 45% tax relief on their contributions.

However, only the basic rate of relief is added to their pension automatically. If they pay the higher or additional rate of tax, they’ll have to complete a self-assessment form in order to claim the extra 20% or 25% that they’re entitled to.

Of course, when your employees are aiming to build their wealth, it’s also important that they are aware of the Lifetime Allowance, which is the total amount that they can save into their pension tax-efficiently. In the 2021/22 and 2022/23 tax years, this stands at £1,073,100 and covers the total value of all their pension assets including both defined contribution and defined benefit schemes.

When the time comes for employees to draw from their pension, or at age 75, a Lifetime Allowance test will be applied. If the value of their combined pensions is greater than the limit, they may have to pay a charge on the value above the threshold.

Your employees may also be liable for a tax charge of 55% of any excess taken as a lump sum or 25% of the excess if taken as regular income.

Knowing how to make sustainable withdrawals could avoid the risk of running out of money

Retirement is supposed to be a time to relax and enjoy the lifestyle you want, which is why it’s understandable that many Brits are worried about running out of money in this chapter of their lives.

According to a recent study published in This is Money, almost half of retirees are concerned about this prospect. If your employees want to avoid the risk of this happening, it can be important for them to carefully plan how to withdraw their wealth.

For many years, the rule of thumb for pension withdrawals was that 4% was a sustainable amount to take out of your pot each year. However, given that market conditions have changed significantly since it was first proposed in the 1990s, it may not be still applicable.

For example, thanks to advances in medicine and technology, people are likely to live longer than a retiree from 30 years ago. Furthermore, since interest rates are now far lower than they were in the 1990s, this may affect the returns on assets such as corporate and government bonds.

It’s important that your employees know how much they can sustainably withdraw from their pension as this can help to give them a greater sense of confidence that they won’t run out of money in retirement.

Working with a planner can help employees to make informed decisions with their wealth

When it comes to retirement, there can be a lot of important things to think about. Not only do employees need to consider issues like contributions and sustainability of withdrawals, but there may also be the risk of incurring significant tax charges.

If your people want to enjoy a comfortable and sustainable retirement, seeking professional advice could be helpful. For example, it can help to ensure that they make the most of their allowances to build their wealth in the most effective way possible.

It can also be invaluable if they are nearing their Lifetime Allowance and want to avoid triggering any tax charges that may eat into their wealth.

Finally, working with a planner can help them to find a sustainable annual withdrawal amount, giving employees more peace of mind that they won’t run out of money in retirement.

To give your employees extra information on how they can get the most out of their retirement, download our latest guide ‘The useful guide to reaching your retirement goals’ here.

Get in touch

Secondsight are multi-award winning employee benefits, workplace wellbeing and financial education specialists. If you would like to find out more about how we can support you and your employees with any of the above, please contact us today.

Please note:

The value of your investment can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance. Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.

Workplace pensions are regulated by The Pension Regulator.

 

Secondsight is a trading name of Foster Denovo Limited, which is authorised and regulated by the Financial Conduct Authority.