How does pension auto-enrolment work?

If you’ve started a new job in recent years, the chances are your employer will have automatically enrolled you into a company pension scheme, into which both they and you must contribute.

Auto-enrolment was introduced in 2012 as a way of encouraging employees to save for their retirement. Here, we explain how it works, who’s eligible, and why it’s vital to save as much as you can if you want to enjoy a secure financial future.

Who’s eligible for auto-enrolment?

Under current rules, anyone aged 22 or over earning a minimum of £10,000 from a single job is eligible for auto-enrolment.

However, if you earn less than £10,000 a year, perhaps because you work part-time, you won’t be automatically enrolled into your workplace pension by your employer. This threshold figure applies to each job you do, not the total amount you earn each year. So, if you do two or more part time jobs, you might earn more than £10,000 in a year, but if you earn less than £10,000 from each of your jobs, you wouldn’t qualify to be automatically enrolled into your workplace pension.

The good news is that even if you don’t earn more than the £10,000 threshold, you can still ask to join your company pension scheme and your employer can’t refuse. Learn more in our article Can I join my workplace pension scheme if I’m on a low salary?

Bear in mind that if you earn less than £520 a month, or £120 a week, your employer doesn’t have to contribute to your pension.

Even if your employer contributes into a workplace pension on your behalf, you are still able to take out a private pension on your own to supplement your pension – providing you stay within your annual contribution allowances.

How much must my employer and I pay into my pension?

If you’ve been auto-enrolled into your employer’s workplace pension scheme, under current minimum contribution limits, you’ll be paying in 5% of your salary before tax (of which 1% is tax relief), whilst your employer will pay in 3%, bringing the total contribution to 8%. Your payslip should show any pension contributions that are deducted each month.

It’s worth noting however that auto-enrolment contributions only have to be paid on ‘qualifying earnings’ of between £6,240 and £50,270 in the 2021/22 tax year. This means low and high earners may in fact have a lower effective contribution than the headline percentage figures. If in doubt, speak to your workplace pension provider to understand how your particular scheme works.

Some employers will pay in more than the minimum contribution, and you can usually pay in extra if you want to. You are also able to make additional one off voluntary contributions into a workplace pension at any time and still receive any tax relief eligible to you. If you’re not sure how much you should be putting away for the future, read our article How much should I save for retirement? 

How much tax relief will I get on my contributions?

The amount of pension tax relief you can claim is tied to your rate of income tax.

  • Basic-rate taxpayers get 20% pension tax relief
  • Higher-rate taxpayers can claim 40% pension tax relief
  • Additional-rate taxpayers can claim 45% pension tax relief

The consumer association Which? has a useful pension tax relief calculator which can give you an idea of how much tax relief you’ll get on your pension contributions. Find out more in our article How pension tax relief works.

How is tax relief applied to my auto-enrolment contributions?

There are two different ways your employer can apply pension tax relief to your contributions.

The first is what’s known as a ‘net pay’ arrangement, which means that your pension contributions are taken from your salary before income tax is paid on them, and the pension scheme claims back tax relief at your highest rate of income tax. If your employer uses this arrangement, you may not have to fill in a tax return, even if you are a higher or additional rate taxpayer. Check with your scheme provider if you’re not sure whether they do this.

Certain employers, as well as any personal or private pension scheme, will have what’s called a ‘relief at source’ arrangement. In this case, they will deduct your 80% pension contribution and send it to your pension scheme after taking income tax first. Your pension scheme then claims the remaining 20% directly from the government. In this case, you will have to contact the tax office or complete a self-assessment tax return to claim your extra relief if you are a higher or additional rate taxpayer.

Where will my pension be invested?

If you’ve been auto-enrolled into your company pension scheme, your money will usually be invested in what’s called a ‘default fund’ unless you actively choose other funds.

Default funds usually use something called ‘lifestyling’, which means they gradually move your money from riskier investments, such as shares, to lower risk ones, such as bonds and cash. This process generally starts happening between 15 and ten years before the normal retirement age.

Higher risk funds have the potential for higher returns (although that’s obviously not guaranteed). Lower risk funds generally produce lower but steadier returns. It’s worth finding out where your pension is invested, as there might be other funds that suit you better or that come with lower fees. Our article Where is my pension invested? may be useful.

When can I access my auto-enrolment workplace pension?

The earliest age you can access your pension savings is 55, although most workplace pension schemes will set a ‘normal retirement age’ which is usually 65. If you want to retire late or you don’t want to take money from your pension, then you can simply leave it where it is until you need it.

Bear in mind that the earlier you start taking money out of your pension, the less you’ll have to live on later. Find out more about the pros and cons of accessing your pension pot early in our article Should I use my pension to boost my income? 

How much will I get at retirement?

Auto-enrolment pensions are usually defined contribution pensions. These are a type of pension where the amount you receive when you retire depends on how much you have paid into it, how much your employer(s) has contributed (if it’s a workplace pension) and how the investments made on your behalf have fared. Learn more about defined contribution pensions in our guide What is a defined contribution pension?

What happens to my pension when I die?

If you have a defined contribution pension and you die before you reach the age of 75, you can usually pass your pension tax-free to a nominated beneficiary. You’ll normally nominate a beneficiary when you’re first enrolled in your pension scheme. If you have not started taking money from your pension this can be taken as a lump sum payment.

If you were taking an income from your pension using flexible drawdown or flexi-access drawdown at the time, your dependants can still receive a tax-free income from the remainder of your pension.

However, if you die when you’re over the age of 75, your pension pot will still transfer tax-free, but your dependants will have to pay income tax at their marginal rate of income tax, on any income they receive from it, in the same way as you would have.

If you have purchased an annuity or income for life – it is likely that this retirement income will stop when you die, although you can buy some specific annuities that continue to provide an income for a dependant. Find out more in our article What happens to my pension when I die?

What are my options at retirement?

When you stop work, there are various different ways you can use your workplace pension to provide you with an income.

For example, drawdown – often known as flexible drawdown or flexi-access drawdown – is a way of taking an income from your pension as and when you need it. Alternatively, you might want to consider an annuity, or guaranteed income for life. An annuity is essentially a contract with an insurance company. In return for handing over some, or all of your pension savings, you’ll be paid a guaranteed income with the amount of income you’ll receive dependent on factors such as your age and health.

You can also take your whole pension pot as cash if you want to, but taking this route comes with substantial risks, not least that you could land yourself with a hefty tax bill, and reduce your entitlement to means-tested benefits. Learn more in our guide Your pension options at retirement.

Where can I find out more?

If you want to get some tips and guidance for free, and you’re aged at least 50, you can arrange a phone appointment via the government’s free service called Pension Wise. If you want personal recommendations or advice about your specific circumstances, you can find a local financial advisor on VouchedFor or Unbiased, or for more information, check out our guides on How to find the right financial advisor for you or How to get advice on your pension.

If you think you might be interested in speaking with a financial advisor, VouchedFor is currently offering Rest Less members a free pension check with a local well-rated financial advisor. There’s no obligation, but once you’ve had your check, the advisor will discuss the potential for an ongoing paid relationship if you think it might be useful to you.

Have you been auto-enrolled into your company pension scheme, or did you decide to opt out? We’d be interested in hearing from you. You can join the money conversation on the Rest Less community or leave a comment below.

Links with an * by them are affiliate links which help Rest Less stay free to use as they can result in a payment or benefit to us. You can read more on how we make money here.

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If you think you might be interested in speaking with a pensions expert, Rest Less Financial Services is now offering our members a free Pension Health Check with a Rest Less Pensions Expert.

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