We live in an ageing world. People, especially in the Western World, are living longer and staying fit and active until much later in life. And funding the time after you leave work is becoming a bigger and bigger issue.
At the moment, UK citizens who have worked and paid National Insurance are entitled to the State Pension from the age of 65 (currently 60 for women, though this is rising to 65 over the next few years. To get the full pension, workers will have to have contribute 30 years of qualifying years – this is made up of National Insurance contributions, unemployment periods, statutory maternity leave any additional years 'purchased'.
But the state pension isn't a pot of gold: currently an individual would receive £90.70 a week, and a couple gets £145.05 a week. And pensions at this level aren't guaranteed – as Britain's population ages, the state is going to find it increasingly difficult to fund pensions and their value is likely to fall in real terms.
This is why it's so important to save as much as you can for your pension. Even in today's credit crunched times, putting away a few pounds each month can make a real difference to your old age. And the earlier you start saving, the more your pension pot will have the chance to grow.
Defined
There are two types of pension – defined benefit and defined contribution. Defined benefit – also known as final salary – pensions specify the amount you will receive when you take them out, and are normally done as a percentage of your salary at the time you retire. So for example, if you work somewhere where there is a defined benefit scheme at 1/60, this means that for every year you work at the organisation or contribute to the fund, you will become entitled to one sixtieth of your final salary on retirement.
So if you contribute for 30 years, you will end up with a pension of 30 sixtieths, or half, your final salary. The figure is linked to inflation as well, so your pension will rise as you get older.
Defined benefit pensions are by far and away the best option and if your employer offers such a scheme you should grab it with both hands. They're becoming less common nowadays, however, and are often only available in certain public sector organisations.
Defined contribution
Defined contribution plans are far more common, and indeed virtually the only option for private plans. With these products, you pay in a set amount. This is then invested on your behalf – initially usually on the stock market and then in less risky cash and bonds as your retirement date gets closer.
Once you are due to retire, you purchase an annuity, which will provide you with a monthly income. Again, these are run by investment companies who try to maximise the value of your pension fund through investing it in the markets.
With both defined benefit and defined contribution plans, you can take a lump sum payment when you retire – normally up to 25 per cent of the value of your pension. Normally, this sum is tax free.
When you pay into a pension plan, your contributions are tax free. This means that if you are taxed at source – if you are employed on PAYE for example – the pension fund will claim back any tax you have paid on your income. So if you're a basic rate taxpayer, for every £80 you contribute your fund will receive £100.
Company pensions
For the vast majority of companies, it is now the law that they have to provide a pension plan to their staff. Usually, it is the best option to use this plan – companies will often contribute to the fund along with you, which means you are saving more. Most funds nowadays are transferable, so you can take any savings amassed in one fund to the fund run by your new employer if you change jobs.
Advice
Picking a pension is a long-term commitment and there are a number of options available – if you want an ethically invested pension, for example, there are several available.
It's always worth seeing an independent financial adviser when choosing a scheme, as they will have access to and knowledge of what can be a confusing market.
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