The basics – What is a pension and how does it work?
What is a pension |
It’s a tax-efficient way of saving while you work.
It gives you money to live off when you stop working. |
There are three main types of pension schemes: |
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Workplace Pensions schemes have two distinct types? |
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Defined Benefit:
- Benefits are defined by a calculation in the scheme rules and because of this your benefit (or pension) is a known figure.
- Your income will depend on; the size of your salary when you leave employment; how long you have worked there as a member of the pension scheme; and the schemes ‘accrual rate’.
- Contributions are paid into a pool of assets for all members – not individual accounts.
Defined Contribution:
- You and your employer pay into an individual personal retirement account (or a pot).
- The amount you pay in to the pot is known when you start to pay.
- You choose how your pot is invested, and the goal is to grow your pot of money over time. The value of your pot may go up or down depending on how your investments perform.
- Benefits are not guaranteed and depend on the size of your pot at retirement.
- You can use your pot in several ways when you retire (such as buying an annuity or drawdown scheme).
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