What is a Pension?

To many people pensions are often seen as a confusing subject, full of complicated regulations and financial speak. When it comes to financial retirement planning, many people don't know where to begin, especially when there are so many other financial commitments in everyday life. Despite this, a pension can be one of the most effective and tax-efficient ways to save for retirement, and if you make arrangements now, it can make a big difference to your future life.

In the UK, pensions fall into a number of different divisions:

  • Basic State Pension
  • Additional State Pension (State Second Pension)
  • Personal Pensions
  • Occupational Pensions
  • Stakeholder Pensions
  • Group Personal Pensions (GPPs)
  • Self Invested Personal Pensions (SIPPs)

How Do The Different Pension Schemes Work?

The majority of pension schemes work in the same way - whilst you are working, you pay a small amount into your pension fund, or, in the case of the State Pension, you pay National Insurance directly from your wages to the government. When you stop working (or reach State Pension age), you then receive regular payments based on the amount you have contributed.

Brief History of the Creation of Pension Plans

The basic state pension (which was formerly known as the 'Old Age Pension') was introduced in the UK at the beginning of 1909, following the passage of the 'Old Age Pensions Act 1908'. A pension of 5 shillings per week (equivalent to around £19 in modern day terms) was payable to a person with an income below £21 per year (equivalent to around £1,600 today), or a pension of 7 shillings per week (equivalent to £28 today) for a married couple. At that time the qualifying age was 70, and the pensions were subject to a means test.

Nowadays, women over the age of 60 and men over the age of 65 are entitled to claim state pension, although from 2010 the state pension age for women will rise, eventually reaching equality with the male pension at the age of 65 by 2020.

DEFINITION
A pension is a long-term arrangement designed to provide people with a regular income when they are no longer earning from employment. Pensions are investments with special tax rules - for example, contributions to a pension scheme are given tax relief.