Understanding pensions in the UK

If you live and work in the UK, learning how pensions work can help you plan a secure retirement in the UK.

The UK pension system has traditionally ranked highly in the world. However, a recent Melbourne Mercer Global Pensions Index saw the UK drop to 15th place; just a few years ago, it had comfortably been in the top 10.

However, much of this change comes from recent reforms; the new UK pension rules since April 2016 include automatic enrolment for workplace pension schemes. There’s also been a gradual increase in the legal UK pension age for both men and women.

The new UK state pension provides sufficient income in retirement and ensures a decent quality of life for those planning a UK retirement. You should also consider if UK inheritance law and taxes apply to your assets and pension savings.

This guide explains:

The UK pension system

The UK government has a state pension system, where those who have worked in the UK and contributed National Insurance (NI) payments – a tax that’s paid on your earnings – receive regular payments for funding their retirement.

You can start claiming the state pension once you reach state pension age. This age has been gradually increasing over the past few years and is set to continue to doing so. When you’ll be deemed to have reached state pension age will depend on when you were born.

Individuals can supplement their pension amount with workplace pensions and private pension investments.

The former type of pension is typically set up via automatic enrolment by your employer. Automatic enrolment has been compulsory for all employers since 2017. Previously, employees could opt into workplace pension schemes, but now they will have the choice to opt-out instead.

This option is available to anyone working and paying National Insurance Contributions (NICs) in the UK. Different pension rules may apply to foreign nationals who aren’t intending to retire in the UK.

Who is eligible for pensions in the UK?

To qualify for a UK pension, you must live and work in the UK, and have a UK National Insurance Number.

For UK citizens, their NI number is issued shortly before their 16th birthday. Foreign nationals must apply for one on entering the UK. Read more about obtaining an NI number.

In addition to having a valid NI number, residents must also pay NICs for at least 10 years.

Be aware that you only have NICs taken out of your pay if you earn over a certain threshold; currently, that threshold is £116 per week. If you’re on a low income, you may be able to make voluntary NI contributions to ensure you qualify.

It’s also possible to get National Insurance credits to act in place of making contributions. You’ll get these if you’re claiming benefits such as Jobseeker’s Allowance and child benefit, or receiving Maternity Allowance.

Pension age in the UK

As of November 2018, the state pension age is 65. This is due to rise to 66 in October 2020, and 67 in 2028.

The legal pension age in the UK is undergoing changes to steadily bring women’s retirement age in line with men. Originally for men born before 6 April 1945 and women born before 6 April 1950, the pension age was 65 and 60 respectively.

State pension age will rise to 68 between 2037 and 2039.

A default pension age (forced retirement) no longer exists, meaning you can work as long as you like. If you decide to continue working past the state pension age, you can defer your state pension payments. Doing this increases your pension entitlement.

In the UK, you must apply to claim your pension; to defer, just don’t submit a pension application.

You can find your UK pension age using the government’s pension calculator, or see a list of pension ages for the upcoming years. Read about the new pension conditions for more information.

If you have a workplace pension or a private pension, you may be able to access the funds at a younger age than the state pension. Some allow you to take out money saved at age 55. Check with your provider, as this can vary.

What happens if you are not eligible for a full pension?

To receive the full pension, pension rules require a qualifying period of 35 years of contributions; if your contributions are less than this, you’ll receive a pro-rata pension amount calculated on the pension contributions you made (as long as this is more than 10 years).

For those who haven’t lived and worked in the UK continuously, pension eligibility doesn’t require 10 consecutive years. If you move abroad and return to the UK, you can still draw a pension after 10 non-consecutive years.

If you have any gaps in your NICs in the past six years, you may be able to purchase voluntary class 3 contributions to fill those gaps up. After doing so, you can claim more from your state pension.

Pensions in the UK for expats

If you’re a foreign national living and working in the United Kingdom, it’s important to know what will happen in terms of your pension entitlement.

As an expat, if you meet the qualifying period for contributions, you should be able to claim a pension on reaching the retirement age.

You can also take advantage of enrolling in occupational pension schemes (if you aren’t already part of the automatic enrolment) and private pension schemes.

QROPS: transfer and consolidate your UK pension

Expats moving abroad from the UK may be able to transfer their pensions into a Qualified Recognized Overseas Pension Scheme (QROPS). QROPS allows expats to consolidate their pensions into one plan. This helps them manage their retirement funds more easily and avoid currency fluctuations.

There are many advantages to QROPS. However, they aren’t suitable or available to all UK pensioners; take advice from an expert financial adviser such as AES.

If you retire outside of the UK

There may be different restrictions and taxes if you move somewhere other than the UK for your retirement.

Tax rates depend on bilateral agreements between the UK and other countries. In some cases, this results in paying tax in both countries.

You have two options with regards to your combined pension pot in this case. On the one hand, you can leave your pension pot in the UK and withdraw it from abroad. Alternatively, you can move your combined pensions abroad or a combination of both. It’s important to seek advice, however, as the tax implication could reduce your pension entitlement.

For residents of EU and EEA member states, you can combine state pensions from other member countries. This enables you to qualify for a state pension in each country where you meet the criteria.

To do this, you must apply to the pension office in the last country you worked in, where they will exchange information with other relevant EU members to calculate your pension allowance for each country. See an explanation of how this works.

However, it is not known whether, or how, the terms of this will change after the UK leaves the EU.

There are similar agreements between the UK and Barbados, Bermuda, Canada, Chile, Guernsey, Israel, Jamaica, Jersey, Mauritius, New Zealand, the Philippines, and the United States.

This means that citizens from these countries residing in the UK can also draw state pensions from both countries. However, it is calculated pro-rata based only on the years you worked in each country (hence, typically a lower rate).

Pension rates and contributions in the UK

Those who qualify for a full state pension can expect to receive about £168.60 per week or £8767.20 during the 2019/20 tax year. The rate increases each year.

Your final UK pension rate depends on your National Insurance record. You might receive less than this if you haven’t made 35 years’ worth of contributions.

Your total pension contributions are calculated against a number of factors to create your pension rate. Low-income earners, or those on National Insurance Credits, have their National Insurance paid by the government to ensure there are no gaps in their National Insurance records.

You can get an estimate of your UK pension rate, as well as information on how to increase it. The UK government also offers a pension calculator to give you an overview of your UK pension rate.

The new UK pension operates under a triple-lock system. This means that, each year, it increases by whichever is higher:

• earnings – based on the average percentage growth in wages
• prices – based on the percentage of price growth, or the Consumer Prices Index (CPI), measured in the September of each year
• 2.5%

If you choose to work past state pension age, your pension rate increases by 1% for every five weeks you defer, up to 10.4% for every full year. Deferring the full state pension for a year will see your payments increase by £142.64 per week in 2019/20.

The extra pension rate pays out alongside your regular pension amount.

Plus, if you continue working, you won’t typically pay National Insurance after you reach the pension age. This doesn’t apply to self-employed workers who qualify for Class 4.

You will still have to pay income tax, however, if your total income is more than your tax-free allowances (the amount of income you can have before paying tax). In 2019/20, this is £12,500 per year.

Supplementary pensions in the UK

Workplace pensions

The second pillar of the UK pension system consists of occupational, company or workplace pension schemes. The providers of these schemes will depend on the company your employer has decided to invest with.

Workplace pensions are now compulsory for all employers, and employees will be automatically enrolled. As of 2019, employees will automatically pay in 8% of their monthly salary into their workplace pension. You, as the employee, can opt to pay more or less. You can also opt out of the workplace pension altogether, if you wish.

Employers will make contributions, too – which vary depending on the scheme available. Pension plans can be in the form of:

• defined benefit (DB) schemes, which promise employees a fixed pension amount on retirement;
• defined contribution (DC) schemes, which provide employees a sum of money to buy a pension on retirement, such as annuity that offers a guaranteed income for life.

The latter is deployed by most companies in the UK because it offers more tax benefits, as you make the contributions out of your gross income before tax is paid.

Private pensions and providers

The third pillar of the UK pension system is made up of private pensions, which can be taken out with your choice of pension provider, or at most British banks.

Private pensions are designed to be additional sources for retirement income, and can be used to supply a guaranteed or regular income throughout retirement, or taken as a lump sum withdrawal, which is 25% tax-free in the UK.

UK private pensions require individuals to make contributions, whether monthly or via a lump sum, and can offer various tax benefits, and sometimes incorporate employer’s contributions, too.

There are two main types of private UK pension funds:

• insured personal pension plans
• self-invested personal pension plans (SIPPs)

The former has a limited number of pension fund options, although most modern schemes still offer a great deal of choice; whereas the latter gives more freedom to choose what investments are made and when they are sold, which can give better returns from your pension fund.

Other pensions in the UK

Another way to save for your retirement in the UK is to open a lifetime Isa.

For those living and working in the UK, and aged between 18-39, it’s a government-backed savings account, where you can pay in up to £4,000 in each tax year, and anything you pay in is boosted with a 25% bonus from the UK government.

Bonuses are paid each month, but if you’re saving for retirement you can’t access the money until you’re 60 years old. Withdrawing money before this time will result in a 25% withdrawal penalty charge.

You can only make contributions into the account until you’re 50.

Applying for your UK pension

It is always advisable to seek advice from a financial advisor or your local pensions office. As an expat, it is prudent to seek advice in all countries where you have participated in pension schemes, or consult an international advisor, to ensure you maximize the amount of pension income and avoid unnecessary tax penalties.

When it comes to claiming your state pension, all residents must personally instigate procedures with their local pension service, as the pension isn’t issued automatically.

There are a number of ways to claim your UK pension. These are fully explained on the UK government website, or you can contact the UK pension service for advice.

Three to four months before you reach the UK pension age, you should receive a letter from the UK pension authority. If you’re living outside the UK, this means you will need to keep them up-to-date with your personal details, or contact them directly when you’re nearing the UK state pension age.

You can also make a claim online to receive the state pension within four months of reaching the UK pension age.

If you have a UK workplace pension or private pension plan, you should allow yourself plenty of time to contact your pension provider to ensure you start getting income when you reach retirement age.

Pensions advice in the UK

The Pensions Advisory Service (TPAS) provides free UK pension advice to residents regarding their state, company and personal UK pensions, as well as helps those who have a problem with their occupational or private pension arrangement.

For UK pension advice, visit their website, phone 0300 123 1047 (or +44 20 3733 3495 from abroad), or book a free appointment to discuss your UK pension options via phone or face-to-face.

Useful resources

The government supports several agencies that provide free advice and information on your UK pension entitlements, including UK pension calculator tools:

• Claim a UK state pension online
• Plan your UK retirement income: a guide to calculating your income requirements and pension amount.
• UK pension service contacts: phone numbers and departments that can help with your state pension
• The Money Advice Service: UK pension calculator, plus government-supported financial and pension advice.
• Pension Wise: free and impartial government advice about defined contribution (DC) pensions.