How pensions work

What is a pension?

A pension is a way of saving for your retirement. You put money into your pension each month and, in return, you get a regular income once you've retired.

You don't have to pay tax on pension contributions, which is one of the reasons saving into a pension can be more effective than saving for your retirement in other ways.

There are three types of pension - state pension, workplace pensions and personal pensions. All three types are available to everyone, as long as you are in employment.

What is the state pension?

When people reach state pension age (currently 66), they will receive an income from the state, called the state pension.

To claim the state pension you have to have made National Insurance (NI) contributions throughout your working life - you can read more on this in our guide, your state pension and benefits.

The full level of new state pension for 2024-25 is £221.20 per week or just over £11,500 per year. 

What is a workplace pension?

The state pension will not be able to provide all your retirement income, so most people also save into a pension with their employer.

Workplace pensions take contributions from you, your employer and the government, and use them to provide you with money to live on when you retire.

Your contributions will take the form of a percentage taken from your salary each month, and your employer's will also be added as a percentage of your pay.

The fact that your employer pays into your workplace pension is one good reason for having one - it is like extra pay.

These contributions will be invested, with the aim of increasing the amount you have to retire on.

There are two types of workplace pension - defined benefit and defined contribution.

What is a personal pension?

A personal pension is a type of defined contribution pension that you arrange yourself.

Like workplace pensions, personal pensions invest your money with a view to increasing it.

Personal pensions are particularly suitable if you're self-employed or not in work, and so don't have access to a workplace pension. But anyone can save into a personal pension.

A self-invested personal pension (Sipp) is for more confident pension savers.

A Sipp is essentially a do-it-yourself pension. Unlike other types of private pensions, where you usually rely on the scheme provider to decide where your retirement savings should be invested, a Sipp puts you in the driver's seat.