Are you missing out on free money for your pension?

Here’s why it can be worth paying more into your pension

You may be wondering why you would want to think about your pension if you’re not due to retire for decades? And why, when budgets are tight, you’d want to add more money to it right now?

But, did you know that you can get free money by paying more into your pension or by opening a Lifetime ISA (LISA)? 

Sounds good right? Here’s how to get free cash for your pension. 

Check that you’re auto-enrolled

First up, most of you should be paying into a pension through your workplace – you’re typically auto-enrolled if you’re over 22 and earn more than £10,000 per year. Your payslip is the best place to check if you’re paying into a workplace pension. 

If you ever opted out, then most of the following ways to boost your retirement funds with free cash won’t work. So check to find out if you are auto-enrolled, and if not, find out how to start contributing.

If you’re self-employed you can open a self-invested personal pension (SIPP) or open a Lifetime ISA (more on that later).

Maximise free money from your employer

If you’re employed, it’s likely that you’ll be getting a top-up to your pension from your employer – this will be a minimum of 3% of your annual income, with you contributing 5%.

Some employers will match your contributions up to a certain amount – sometimes this can be a beneficial way to boost your pension and lower the tax you pay, so it’s often worth making the most of. I’ve seen companies offer up to 9% if the employee also pays 9% in, which is a staggering 18% of the total income going into a pension pot. 

So, if you’re paying in the standard 5% but your employer will match your contributions up to a higher amount, you could ask your employer to increase your contributions and get the extra top-up.

You may be able to get more in your pension using a salary sacrifice scheme, if your employer offers it. This is where you “sacrifice” some of your pay to your pension which can reduce yours and your employer’s national insurance. 

This can sometimes be risky, as it effectively reduces your salary, which could impact mortgage applications or rental agreements. So make sure you fully understand how it works if it’s an option.

Get up to 45% extra free added to your pension pot

When you receive income from your employer, you pay tax on what you get – you might remember it as one of the most disappointing parts of getting your first payslip! 

But by putting money into your pension, you could get some of this tax back, either as a boost to your pension pot or through your take-home pay, depending on the circumstances. 

This is one of the easiest ways to get yourself some free cash for your retirement and it’s known as tax relief. To get more of this you can either increase your own contributions or open and pay extra into a private pension. 

The amount you’ll get is based on your income tax rate – so if you’re a Basic Rate taxpayer or if you don’t pay tax at all (those earning up to £50,270), the government will pay 20% of your contributions. That’s £20 of free cash out of every £100 added.

A Higher Rate taxpayer (earning between £50,270 and £125,140), could get the higher rate (40%) back.

If you’re an Additional Rate taxpayer, you could get 45% back.

Types of pension tax relief

There are a couple of ways you can get tax relief, depending on how you or your employer pays into your pension. These are relief at source and net pay.

Tax relief when you pay into your pension: known as relief at source

Relief at source is where your employer claims tax relief on your behalf. So, if you want to put £100 into your pension, they’ll claim your 20% tax relief from the government, which works out as £20. As a result, your employer will only deduct £80 from your paycheck, and HMRC will pay the remaining £20. This gets you the full £100 in your pension pot.  

If you’re a Higher Rate or Additional Rate taxpayer then you may need to claim back your tax via a self-assessment tax return to get any more than 20%. You’ll likely get this additional relief money back (either via your tax code or an actual refund) rather than have it added to your pension pot. 

If you’re paying into a personal rather than workplace pension, relief at source may work slightly differently. Some providers will instead boost your deposit by 25% rather than taking only 80%. This sounds different, it’s exactly the same. 

For example, you contribute £80 and the 25% added by the government in tax relief adds up to £20 – so you’ll still have used £80 of your own cash to add £100 to your pension pot.

If you’re under the threshold to pay income tax, relief at source is the ideal way to pay into your pension, as you won’t benefit from your taxable income being reduced with the net pay method. 

Tax relief when your employer works out your pension with your net pay

This is where your employer deducts your pension from your pay before calculating your tax, so they’ll stick your contribution in your pension pot and you’ll pay less tax as a result. This winds up with you getting more take-home pay.

So for every £100 a Basic Rate taxpayer puts into their pension, you’ll pay £20 less in income tax. Again, every £100 you add is ultimately costing you just £80.

Since this is all done for you by your employer there’s no need to worry about filling in a self-assessment form to get the full relief if you’re a Higher or Additional Rate tax payer.

You’ll typically only see this with an employer pension. 

Relief at source vs Net Pay: how it works in practice

Say someone earned £2,500 per month before tax, here are two instances where they’ll put 5% into their pension each month with each method. 

Relief at sourceNet pay
Earn £2,500 per month (pre-tax)Earn £2,500 per month (pre-tax)
Get taxed on the full amount at £291 in totalPut £125 into a pension each month 
Put £100 into a pensionGet an additional £25 from the government in tax relief As a result, your tax is calculated from the remaining £2,375, so you’ll pay £266 in tax
Total in pension: £125
Total tax relief: £25
Total in pension: £125
Total tax relief: £25

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Can you use your full pension allowance?

If you’re a high earner or have received a windfall and you’re thinking of adding loads of cash to your pension in order to get the tax relief you need to watch out for some limits.

You can pay up to your annual income into your pension, or £60,000 each year, whichever is lowest. This means that if you earn £30,000, you can put £30,000 in each year. If you earn £100,000, you can put up to £60,000 in each year. As your income increases, your allowance will increase as well until you reach the £60,000 limit.

However, these limits include all contributions – so that’s your contribution, any employer additions and the basic tax relief. So a Higher Rate taxpayer on £60,000 a year can actually only add in £50,000 between them and their employer, as the final £10,000 will come from the initial 20% tax relief (they can then claim another £10,000 relief back from their tax return).

Those that do reach the annual limit, or decide to pop in a lump sum, such as a large inheritance, might be able to carry forward any unused allowances from the three previous tax years. There are some restrictions and conditions for this.

There used to also be a lifetime allowance which was over £1 million, however, this was scrapped last year. 

Need more help understanding your pension?

If you have a different kind of pension, like an NHS pension or defined benefit pension or you’re nearing retirement and need some help understanding it all, you probably want to seek additional help from a financial adviser. 

Pension provider Bestinvest offers a free 45-minute coaching session, even if you don’t have a pension with them. This could help you understand your pension better and determine how much help you’ll need from a financial adviser. 

Nab a 25% bonus with a Lifetime ISA (LISA)

An alternative way of saving for retirement is adding money to a Lifetime ISA. This offers a 25% bonus on deposits

This is effectively the same amount of free cash as with a pension if you’re a Basic Rate taxpayer. Yes, I know 25% is more than 20%, but remember this is money added on, while tax relief is money back.

Say you add £100 to a LISA, you’ll have £25 added, giving you a total of £125. If you added the later amount to your pension and got 20% tax relief, you’ll get £25 back. So with both cases, you’re putting £100 into retirement savings, but getting £125.

But you can’t get more than 25% added. So if you’re a Higher or Additional Rate taxpayer, you’ll benefit more from a pension, as the tax relief is based on your individual rate of income tax.

You can only get the free top-up on up to £4,000 per year in a LISA, but that could get you £1,000 of free cash per year. 

As it’s a type of ISA, the money you pay into a LISA each year is part of your ISA allowance, so if you pay the full £4,000 into a LISA in a tax year, you can only pay £16,000 into other types of ISA. Read our guide on Lifetime ISAs for more.

Pension vs LISA: which is the best way to get free cash?

Who can have it?Anyone can open a pension, even childrenAnyone between 18 and 39 can open a LISA
You can pay into it until you’re 50.
When can you withdraw?10 years before State Pension age, currently 55 (though it’ll likely be later as the State Pension age changes)When you buy your first home or aged 60
Who it’s forPeople saving for retirementThose with up to £4,000 per year to save and either planning for retirement or to buy a home
How much can you contribute?Up to your annual income or £60,000 per year. This reduces if you earn more than £200,000 per year£4,000 per year, with a max of £132,000
How much free money do you get?20% back if you pay Basic Rate income tax; 40% back if you pay Higher Rate income tax; and 45% back if you pay Additional Rate income taxA 25% top-up. Up to £1,000 per year and £33,000 in total, assuming you max it out every year from when you’re 18 to when you’re 50.
How flexible is it?Very inflexible, you can’t withdraw without penalty before you’re 55 except for certain circumstancesA little more flexible, you can put the money towards your first home or use it for retirement when you’re 60.
Penalties and drawbacksYou may have to pay a penalty in the form of up to 55% tax on your withdrawals.You’ll have to pay a withdrawal charge of 25% of the total pot. 

Fill in NI gaps to boost your state pension

Throughout your working life, you’ll pay National Insurance, which is taken from your pay before it arrives in your bank account. These payments help you qualify for your state pension, which is a guaranteed weekly income once you hit 66-68 (depending on your date of birth).

The amount you get depends on how many years of contributions or credits you have on your National Insurance record. To get the full amount, you usually need 35 years of contributions. If you have less than this, your state pension will be calculated proportionately to the number of years you have. 

However, it’s not always 35 years. Because the system changed in 2016, some people will need less than 35 – our editor-in-chief Andy included. 

You’ll get a qualifying year each year you pay enough National Insurance via your salary, and in some instances, you can also get National Insurance credits in years when you weren’t working. This could be a number of things, including unemployment, illness, disability and statutory maternity pay. 

But if you’ve had periods where you didn’t work, or perhaps turned down benefits such as Child Maintenance (a weird quirk means it’s worth claiming it even if you aren’t eligible for actual payments), then it’s worth seeing if you can pay to top up any missing years.

Normally you can only go back six years, but you’ve got until 5 April 2025 to fill in any gaps from April 2006. For those 50 years old or more it’s worth seeing if this’ll make a difference to your eventual State Pension amount. Those who are younger probably won’t benefit as you’ve plenty of time to earn those NI credits naturally.

State pension top-ups: check if you could get more

1. Find out how much state pension you’ll get 

The government has a really handy state pension forecast tool on its website, so you just need to log in and it’ll let you know how much it thinks you’ll get. You’ll also see a record of full, incomplete or missing years for NI contributions.

2. Decide if you want to make voluntary contributions

If you’re not due to get the full amount, you can opt to top it up with voluntary contributions. Andy’s written a really in-depth guide on how this works and how you do it. 

You may have to calculate your contribution and how much more you’ll get per year based on it. If you can make back your contribution in just a year or two, it could be a no-brainer. If the calculations are a touch too much, consider a financial adviser. 

Should you add more to your pension?

If you want to pick up some free cash, then adding more to your pension now is a great idea. The free cash is hugely beneficial compared with a savings account. Of course, the money is invested so the overall value can go up or down, but assuming there’s a long time to grow it and make up any potential losses.

But it’s vital to remember that you can’t access the money until you’re at least 55 (probably later) and 60 in the case of a LISA, so make sure you think it through before diving straight in.

2 thoughts on “Are you missing out on free money for your pension?

  1. Also money in your pension pot isn’t usually subject to 40% Inheritance Tax.

  2. Thanks for the upload of this article as many people often are unaware of their pensions!


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