Understanding what retirement planning involves
How often do you think about your retirement plans? Is it once in a blue moon, or does it creep up on you every Sunday evening?
Retirement planning is about more than just pensions. Your pension is a key part of the puzzle. But a good plan also considers your income, lifestyle, and personal goals. Things to consider include your income sources, spending needs, tax planning, lifestyle planning and estate planning. You also need to consider how you’ll manage financial risks in retirement.
Whatever your retirement roadmap looks like, it’s important to understand what you have in place and how everything fits together. Our financial planners are here to help you cope with any potholes and bumps in the road on your journey to retirement.
This information is based on our current understanding of HMRC tax rules in the UK. Tax treatment depends on your personal circumstances, which could change.
How to build your plan for retirement
A retirement plan will generally have a few different moving parts. The biggest part of your income is likely to come from a combination of your workplace pension, the state pension, and maybe a private pension.
What is a workplace pension and how does it work?
Your workplace pension is set up by your employer. You contribute to your workplace pension monthly through salary contributions and employer contributions. This comes out of your pre-tax salary. By law, the total minimum contribution you can have is 8%. At least 3% will come from your employer and 5% will come from your salary contributions. You’ll be able to access it from age 55 (rising to 57 in 2028).
What is a defined contribution pension?
The most common type of workplace pension scheme today is the defined contribution scheme. In this type of retirement scheme, you and your employer contribute money into your pension pot each month. This money is invested into various funds: most commonly funds that invest in stocks and bonds. The hope is that the money will grow over time. The amount you have at retirement will depend on how much money you've put in and how well the investments have performed.
1. Contributions:
- You contribute a percentage of your salary.
- Your employer must contribute the minimum amount if you earn more than £520 a month, £120 a week or £480 over 4 weeks. They do not have to contribute anything if you earn these amounts or less.
- Contributions receive tax relief, which boosts the amount going into your pension.
2. Investment:
- The money is invested in funds (like stock or bond funds).
- You can usually choose from a range of investment options based on your risk appetite (perhaps you’re more cautious or more adventurous).
- The value of your pension pot can go up or down, depending on market performance and you could get back less than you invested.
3. At retirement:
- You can usually take up to 25% of your pension as a tax-free cash lump sum. The rest can be used to:
- Buy an annuity (this is a guaranteed income for life.
- Enter drawdown (this is when you withdraw money when you need it and keep the rest invested).
- Take lump sums as needed or the whole pension in one go (with tax implications).
In short, you and your employer pay into a pension pot that’s invested to help it grow. The more you contribute – and the better your investments perform – the more you’ll have when you retire.
What is a defined benefit pension?
Defined benefit schemes pay you a guaranteed retirement income based on three things:
- your salary when you reached retirement age or the average salary over your career,
- the number of years you’ve been in the scheme, and
- the scheme’s accrual rate, which tells you what portion of your pension you get for each year of service.
So instead of building up a pot of money like in a defined contribution scheme, you receive a pre-agreed income. Some defined benefit schemes allow you the option of giving up part of your pension to get a lump sum payment of tax-free cash. This is referred to as ‘commuting’ your pension for tax-free cash and the amount of tax free cash you can take is limited by scheme rules and tax legislation.
Defined benefit schemes used to be much more common, but companies have shifted towards defined contribution schemes over the years.
You’ll generally have a defined benefit scheme (also known as a final salary pension) if you’re in the NHS, a teacher, part of the armed forces, the civil service, the police or the fire service. In other words, if you’re in the public sector. Even in the private sector, you may also have a defined benefit pension from a previous workplace, from an era when they were widely available. It’s worth checking to see what type of pension you have because these benefits will be available to you at your retirement date. It's important to know what type of pension you have as defined benefit pensions usually provide valuable guaranteed benefits that are paid at retirement.
In short, a Defined Benefit pension gives you a guaranteed income in retirement, based on your salary and how long you’ve worked. You don’t need to worry about investment performance – the scheme takes care of that for you.
What is the state pension and how does it work?
Your national insurance (NI) contributions go on your national insurance record and count towards your state pension. You need a minimum of 10 years of NI contributions to be eligible for the state pension and 35 years of NI contributions to get the full state pension. If you’re unemployed, ill, or taking time out to raise children, you can claim NI credits – these help you maintain your NI record even when you’re out of work.
The state pension age is 66 for both men and women, but this will increase to 67 from 6 May 2026. A further rise to 68 is expected in the future but the timing of this will be subject to review.
You won’t receive the state pension automatically – the Pension Service will write to you before you reach state pension age with instructions on how to claim it. Currently, you can take your pension at state pension age, or you can defer it. If you decide to take your state pension later, you can receive a higher income. This is based on the amount you would have received, with interest added to it. For every nine weeks you delay taking your state pension, you’ll receive an additional 1%. This comes to about an extra 5.8% over a one-year period.
What is a private pension and how does it work?
If you’re self-employed or want more control over where your pensions are invested, you can open a private pension, like a self-invested personal pension (SIPP), for example. These are pension accounts you open yourself and put money into. The money you put in comes from your post-tax salary. The annual pension allowance is currently £60,000. You can also use the carry forward rule, which lets you benefit from any unused allowance from the past three tax years.
You can make regular payments to your pension or contribute a lump sum. The government automatically adds 20% basic-rate tax relief to your contributions. If you're a higher-rate or additional-rate taxpayer, you can claim extra tax relief through HMRC (usually through your Self Assessment or by contacting HMRC directly).
Investment choice, suitability and using SIPPs alongside workplace pensions
You have more freedom of choice in your investments with this type of pension than with a defined contribution pension . That’s because a defined contribution pension offers a set range of funds. For SIPPs, by contrast, you can look at funds – or individual stocks – across a much wider range of investments depending on provider. That might make it easier, for example, to invest according to your risk appetite.
This makes it an interesting option for those who like to do their own research and want to choose and manage their own investments (or appoint an adviser to do this for them). However this level of choice also means greater responsibility and SIPPs may not be suitable for people who don't want to spend time managing their retirement savings or taking additional investment risk.
It’s important to note that with a SIPP you don’t get the extra employer contribution. So, it’s a good idea to participate in your workplace pension scheme if you have access to one, while a SIPP can be a useful addition to this.
If you do want a SIPP but aren’t keen on managing your own portfolio, an investment manager can take care of this for you, in line with your risk level and financial goals.
Access options and reviewing your plan
You can access your SIPP and other defined contribution pensions from the age of 55 (rising to 57 in 2028). When you start taking benefits, you can normally take up to 25% of your pension as a tax free cash lump sum, with the rest used to provide a taxable income. You may choose to take lump sums as needed, keep your pension invested and draw income over time (drawdown) or use some or all of your pension to buy an annuity which provides a guaranteed income for life. Whatever your plan for retirement, it’s important to revisit it regularly to make sure you’re on track. You might find yourself needing to increase or decrease contributions as you go through different life events and stages. Detours and pit stops are inevitable, but following your plan will ensure you make it to your financial destination.
When can I retire?
People often talk about a ‘pension age’ and think about the state pension age as a benchmark for retirement. This is regularly reviewed and may rise further in the future due to changing demographics.
But retirement is a number rather than an age. If you reach the point where your pension pot and other investments can cover your lifestyle costs, you can retire no matter how old (or young) you are. Depending on their circumstances and financial plan, people can reach this level of financial independence earlier in life, even in their 30s or 40s. Private pensions cannot normally be accessed before the minimum pension access age (currently 55, rising to 57 from 2028). For this reason, people who retire early often rely on non-pension savings.
Early retirement or semi retirement? How a financial planner can help you.
If you have the goal of early retirement or semi-retirement, a financial planner can help you design a financial roadmap that works for you. Once you have your retirement plan in place, they’ll check in with you at regular intervals, so you can reassess your situation and see if your circumstances or life goals have changed. It’s the financial equivalent of stopping at motorway services on your journey. It gives you a chance to see if you’re on track with your goals, and if you aren’t, where you can make appropriate changes.
If work is something that brings you joy and fulfilment, where this is possible, you can also consider more flexible options, such as phased retirement. This could look like moving from a full-time to a part-time role, job-sharing with another employee, or even project-based work. This would mean you’d reduce your hours gradually and work as much or as little as you like.
What are the financial risks in early retirement?
Retiring early is a dream for many, leaving you with the time to do all the things you've ever wanted to do in life. But it's also worth thinking about the risks that come with it so that you can plan and prepare for every scenario. Our financial planners can help with you with this.
One of the biggest risks in retirement is running out of money. Retiring early means your savings and investments may need to support you for a much longer period. Market downturns, particularly in the early years of retirement, can significantly affect the value of your pension and other investments. Stopping work means you’ll have more freedom over how to spend your time. This could look like doing more of your favourite hobbies, spending more time with your loved ones, or finally volunteering with that charity that means so much to you. But you’ll also no longer be paid a salary or receive employer contributions to your pension, which can reduce the amount you are able to save for later life.
Losing workplace benefits
Once you stop work you'll lose the monthly employer contributions to your pension. You'll also lose any life insurance cover provided by your employer, so you may need to look into individual life cover if you feel you need it. You'll no longer have access to employee discounts and perks, so you may need to budget for this.
If you have access to private medical insurance through your workplace, you might have to find an alternative. Of course you’ll have access to the NHS, but if you want to keep the option of private medical insurance, this might cost a bit more. With early retirement, you’ll have longer to wait until you’re able to access the state pension, so you’ll need to plan accordingly.
These are a few financial risks of retiring early. It might seem hard to believe while you’re working, but there are also emotional and lifestyle factors involved. Some people find the change in routine challenging, so it’s worth thinking about how you’ll stay connected and fulfilled.
Mental health and wellbeing
Feeling a sense of connection is a key pillar of overall wellbeing, so the loss of social interaction from a workplace can hit hard – you might find yourself missing those conversations by the coffee machine more than you think. If you find that you need (or want) to go back to work, you might find it more difficult if industries have evolved and your skills are considered out of date. Knowing all of this can help you put strategies in place to manage these potential negative effects of retiring early.