Pensions: What They Didn’t Teach You in School

If you left school without a clue what a pension is, you’re not alone. For something so important to our financial future, pensions rarely make it onto the curriculum. But understanding the basics now – even if retirement feels a long way off – can make a big difference to your future lifestyle.

Let’s explore what a pension is, the different types of pension schemes, how pension savings grow over time, and how to make the most of yours.

What is a pension?

A pension is a long-term way to save for retirement. It’s a pot of money that you, your employer (if applicable), and the government (through tax relief - more on this further down 👇) pay into during your working life. This pension pot is then invested in a mix of assets – things like stocks, bonds, and property – with the goal of growing your money until you reach retirement age.

The key difference between a pension and a regular savings account is how your money is invested. While savings accounts earn interest, pensions aim to grow your money over decades by investing it in the markets. Of course, that means your pension fund can go up and down in value, but with time on your side, there’s a greater chance of long-term growth.

Workplace pension vs personal pension

There are two main types of pension you’ll come across: the workplace pension and the personal pension. Let’s take a closer look at each.

Workplace pension schemes

If you’re employed and meet certain criteria, your employer must enrol you into a workplace pension scheme under a system called automatic enrolment. You’ll contribute at least 5% of your qualifying earnings (you can usually add more than this if you want to), and your employer must add at least 3% of your qualifying earnings. Some employers incorporate pension contributions into a remuneration package, and rather than paying the minimum 3%, they may offer to contribute more, or may offer a matched contribution scheme (for example, they may offer to match your contributions up to X% of earnings), so it’s worth asking about their policy.

There are different types of workplace pension. Most people today will be part of a defined contribution pension – this means the amount you’ll get at retirement depends on how much you and your employer have paid in, and how well the investments have performed. Less common nowadays are defined benefit pensions, which promise a guaranteed income based on your salary and length of service.

You may also be offered the chance to pay into your workplace pension through salary sacrifice. This allows you to exchange a portion of your salary in return for increased employer contributions, reducing the amount of income tax and National Insurance you pay. In short, it’s a tax-efficient way to grow your pension pot.

Personal pensions

A personal pension is one you set up yourself – ideal if you’re self-employed, freelancing, or simply want to have a separate pot from your workplace scheme. There are different types of personal pensions, including:

Stakeholder pensions are a flexible option with capped charges and low minimum contributions. Suitable for people who want simplicity and accessibility.
Self-invested personal pension (SIPP) offer more control over your investment options, letting you choose exactly where your money is invested.

Invested personal pension is often a catch-all term for pensions where your contributions are placed in funds with the potential for growth, depending on the provider’s offering.

As with workplace schemes, personal pensions are typically defined contribution pensions, so the size of your retirement income will depend on contributions and investment performance. And as with all investments, your capital is at risk, so pensions can go down in value as well as up, and you could get back less than you invest.

Tax relief: the pension perk no one talks about

One of the big advantages of paying into a pension is tax relief. When you contribute, the government effectively gives you back the tax you’ve paid on that income – a huge boost to your pension savings.

Basic-rate taxpayers (20%) get an extra 25% on their contributions. So, if you pay in £100, your pension pot gets £125.
Higher-rate (40%) and additional-rate (45%) taxpayers can claim even more via their tax return – up to £66 or £81 per £100, respectively.

You can contribute up to 100% of your annual income or £60,000 (whichever is lower) and still receive tax relief.

If you're paying into a personal pension or workplace pension, and you're a higher or additional-rate taxpayer, remember to claim the extra tax relief through your Self Assessment or, if you’re in a workplace scheme that provides relief at the source, through a form on the HMRC website.

When can you access your pension?

Unfortunately, pensions aren’t rainy day funds. You usually can’t touch your pension until you reach your retirement age, which is currently 55 but will rise to 57 from 2028.

Once you reach that age, you can typically:

Take 25% of your pension fund tax-free as a lump sum
Use the rest to provide a regular income – though anything over the 25% will be taxed as income

There are a few ways to draw your retirement income:

Pension drawdown

You leave your money invested and withdraw from your pot as needed, with the aim that the remainder continues to grow. It offers flexibility, but your money could run out depending on how markets perform and how much you withdraw.

Annuity

This option gives you a guaranteed income for life, regardless of how long you live. It’s lower risk, but less flexible – and generally, the income stops when you die.

What happens at state pension age?

When you reach state pension age, you might also qualify for the State Pension, depending on your National Insurance record. This is separate from any private or workplace schemes and offers a basic level of retirement income.

The current full new State Pension is £230.25 per week (as of April 2025), but the exact amount depends on your NI contributions.

Get to know your pension

Pensions might seem dry, but they’re one of the most powerful tools for building long-term financial security. Whether you’re in a defined contribution scheme, a stakeholder pension, or a Self-Invested Personal Pension (SIPP), it pays to know:

Where your money is invested
What your investment options are
How much your employer is contributing (if any)
Whether you could benefit from salary sacrifice
If you’re claiming the right tax relief

And if you’re ever unsure, don’t be afraid to seek financial advice – especially when choosing between types of pension schemes, planning your drawdown strategy, or switching providers.

It’s never too late to get clued up on pensions. A little understanding now can go a long way in helping you grow your pension pot, take advantage of the tax benefits, and plan for a more comfortable future.

Whether you’re employed, self-employed, or somewhere in between, it’s worth taking stock of your pension situation – and making sure your money is working as hard for your future as you are now.