So what exactly is a small pots pension ?
A small pots pension in a pension pot below £ 10,000 in value
So how do people get to have a small pot ?
Thanks to the introduction of Auto Enrolment (AE) from 2012, it is now compulsory for employer’s to automatically enrol their workforce into a Defined Contribution (DC) pension scheme. Where both parties will contribute a minimum of 8% of qualified earnings.
Somebody could obtain a small pot in value as they may opt out after a short period, because it may be unaffordable. They may not realise that their employer employer has automatically enrolled them into their workplace pension.
They may leave a employer after a brief period, so it may be small because not a lot of contributions have been paid into the pension. As people now change jobs on a regular basis. It’s not uncommon to suddenly develop numerous pots across different employer’s.
An individual may be on a low salary, so the amount of monthly contributions being invested each month. May not be a great amount of money.
You may have opted out of SERPS many years ago, whereby creating a pension with a pension provider.
So what can I do with a small pots pension ?
You can do some simple things to improve that pot value.
- It will be worthwhile to carry on making contributions to build the pot value to a greater amount. As the contribution you receive from your employer is classed as free money. Or be tax efficient through salary sacrifice.
Simple example,
If you are earning £ 30,000 and you pay annual contributions of £ 3,000 per year. Your income will be classed as earning £ 27,000 in income, so will be pay less tax and NI through PAYE.
- You could increase the level of regular contributions to increase the value.
- You could change were your funds are being invested to get a better return on your investments to increase the total pot value.
- If you have numerous pots with different providers it may be worthwhile to transfer that pot into another pension arrangement that you have. Most AE schemes are relatively simple, they are worth a current and will go up and down on a daily basis. Whereas many years ago, pensions would have so called special features of benefits.
- Such as with-profits policy (which include annual bonus and terminal bonus on maturity.
- Or a provider could offer guarantees if you buy an annuity with them (known as GAR),
So before you do transfer a pension, check if any fees, charges apply, do you lose any special features or benefits. Will an old provider accept in that transfer and how long will the transfer that. It is a very simple thing to do and can be done in a few weeks,
What are having limited options upon accessing ?
It you have a small pot in value, your provider may offer you limited options when accessing. Or it may not be worthwhile buying a certain product.
Examples:
You may buy an Annuity for lifetime, but it may only give you a tiny amount each month for the rest of your life. So it may not be worthwhile setting up that product. Or you may have to live many years to get your money back.
If you were to access via Flexible Access Drawdown (FAD), you may be restricted on the type of investment products available.
Or if you access via a number of lump sums (UFPLS), you again may be restricted on future access. Such as size of each lump withdrawal or the frequency of number of withdrawals.
So for both flexible options that you control on your terms. You may thing that setting one of products up may be worthwhile or worth the so-called hassle to administer.
Could I simply, just cash in the complete pot ?
Anybody can access. pension from the age of 55 (known as MPA), but this will be increased to age 57 from 6th April 2028.
Under the small pots rule, you can cash in the complete pot in a single transaction. The pension will simply be paid into your bank or building society in a few weeks.
Plus you have the option to cash in a total of 3 separate pots under the small pots rule.
So what are the tax implications ?
For a small pot normally 25% of the pot is completely tax free and the remaining 75% is the taxed at basic rate of 20%.
This will be done automatically by your provider, what we call taxed at source.
If that option sounds appealing attain cashing in figures from your provider. So you have an idea of what net amount will be paid to you, so you don’t get an unpleasant surprise. Or do a simple tax calculation.
It will be classed as a one-off event, but it will be classed as income and added to any other income that you receive during that tax year.
If you are a higher rate tax-payer, you will still be taxed at basic rate of 20%, but will then have to declare income to HMRC and then make appropriate payment to them.
Some things to consider if cashing in ?
- Where do I then put that money ?
- What other sources of income will fund future years ?
- Once cashed in, it doesn’t provide any income or future benefits.
- It could form part of your estate for IHT purposes, if you were to die.
- Could taking the income in one lump sum, push you into a higher tax bracket for that respective tax year.
- It won’t provide a regular income to any dependants after you cash it in.
Where can I find out further information about small pots ?
Your first port of call, could be to locate the information offered by your pension provider. they will provide booklets over the options, or may have simple videos on their website to assist you.
You could look at gov.uk for recent consultation on small pots: https://www.gov.uk/government/news/efforts-to-tackle-small-pension-pots-step-up-a-gear
Or gov.uk, tax when you take your pension:
There is greater information on the MoneyHelper.org.uk website using the following link:
Or you could have a Pension Wise appointment with a pension guider, who will go through the options and tax implications with you. It is free and impartial service, offered by trained individuals. By clicking the following links.
If you found the above information useful, or wish to look at other blog posts about pension or personal finance. Check them out on https:/www.moneyminted.co.uk
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