Pensions for Self-Employed People – Options, Pros/Cons and Allowances

Planning for retirement should be a priority for any self-employed professional. As you don’t have access to a workplace pension, it’s up to you to set up your own personal pension plan or an alternative form of retirement savings.

The challenge of self-employed retirement planning

Retirement planning can be tricky for the self-employed. You must contend with income fluctuations, a lack of employer pension contributions, limited access to employer benefits, and less job security. Since there is no pension auto-enrolment for the self-employed, you must take care of it yourself.

If you are self-employed, you should start retirement planning as early as possible, ideally with the help of a financial advisor. This will help you understand the pensions, savings and investment options available to you, as well as important tax considerations.

How do pensions work for self-employed people?

Self-employed individuals in the UK typically have two long-term pension options. These are:

• The State Pension
• Personal Pension Plans (which also include Self-Invested Personal Pensions and Stakeholder Pensions)

As of 2024/25, the full rate of new State Pension is £221.20 a week (but this may vary depending on a few factors, including your National Insurance qualifying years or if you were contracted out before 2016).

For many individuals wanting to maintain their living standards into retirement, the state pension is simply not enough.

The state pension age is regularly reviewed, and your expected state pension age now may change in the future. It should also be noted that the state pension age will likely be later than you wish to retire.

If you are a company owner or director, you can learn more about your pension options here.

Pension options for self-employed people

Self-employed individuals have three main personal pension options to consider, each with unique pros and cons. The first challenge is deciding what type of pension option suits you best. To figure this out, you will need to consider:

• your current financial situation
• your future income expectations
• your personal retirement goals
• the level of risk you are comfortable with
• whether the features of the pension are appropriate to meet your long-term needs
• the flexibility you might need in accessing your funds
• what you intend to invest in

Personal Pensions for Self-Employed

No pensions are uniquely designed or exclusive to the self-employed, but managed personal pensions may be most suitable.

There are three main types of personal pension:

• Personal Pensions (standard) – most pension providers offer these.
• Stakeholder pensions
• Self-invested personal pensions

With a personal pension, you contribute money to the plan, which is then invested in funds so that it may grow over time until your retirement. These investments are grouped into a range of “funds” offered by pension providers or financial advisors.

Like all pensions, there is inherent risk involved with personal pensions and investments. The value of funds can go up and down, and you may receive less than the total contributions made. It is therefore recommended that you seek professional advice on the most suitable pension for your circumstances.

The Benefits of a Personal Pension

• Personal pension plans are an easy way to invest and save without managing the finer details yourself. However, unless you’re working with an advisor, you will be responsible for picking your funds and choosing how much to save.
• The government will add tax relief to top up your payments.
• You will benefit from qualified pension management expertise.
• More cautious savers can opt for a lower-risk plan, while the more adventurous can choose plans typically associated with greater potential returns but greater risk.
• As self-employed, your income may vary; personal pensions offer flexibility in how much and how often you contribute.
• Personal pension funds can often be passed on to your beneficiaries, which makes them useful for estate planning.

The Downsides of a Personal Pension

• As with all investments, your money is at risk. The value of a personal pension can go up and down, potentially leading to overall losses.
• There may be costs or penalties involved with early withdrawals. You cannot withdraw until age 55, which is rising to 57.
• There are limits to the amount you can contribute to your pension each year.
• They offer fewer investment options than individual stocks or bonds.
• You will have limited control over where your money is invested.

Self-invested personal pensions (SIPPs)

For savers who wish to exert more control over where their pension funds are invested, self-invested personal pensions (or SIPPs) may be preferable to a Personal Pension.

SIPPs may offer a broader range of investment options with greater flexibility than a Personal Pension; however, they may be subject to a different fee structure.

The pension holder bears full responsibility for all investment decisions unless professional advice is sought. You will also need to take on more administrative duties, including keeping detailed records of your investments and transactions.

This additional burden must be factored in for a self-employed individual.

Stakeholder Pensions

Stakeholder pensions are a type of individual pension that offers low and flexible minimum contributions, capped charges, and a straightforward default investment strategy. As with all personal pensions/SIPPs, the pension provider will claim basic rate tax relief and add this to your pension pot.

Maximum pension contributions

Annual Allowance

The Annual Allowance is the maximum amount you can contribute to your pension each tax year (from 6 April to 5 April) without suffering a tax charge that would have the effect of clawing back some or all of your tax relief. The Annual Allowance is currently £60,000 for the tax year, and usually includes both your contributions and those made by your employer – however, this is not an option for the self-employed.

You can carry forward unused allowance from the previous three tax years if you have contributed less than the allowance in those years but did have a pension plan in place.

Tapered annual allowance

The tapered annual allowance reduces the pension savings limit for individuals with ‘adjusted income’ over £260,000.

For every £2 earned above £260,000, your annual allowance is reduced by £1. The lowest the allowance can be reduced to is £10,000.

The annual allowance will not impact an individual if their threshold income isn’t above £200k in the tax year in question.

Be sure to check the definitions of adjusted income and threshold income. These can be quite complex and depend on each individual's income. Gov.uk provides instructions for how to calculate your adjusted and threshold incomes.

Relevant UK Earnings

Relevant UK Earnings is the maximum amount of your earnings that can be used to calculate your pension contributions. It affects how much you can contribute to your pension each tax year while still benefitting from tax relief.

Not all income is Relevant UK earnings; excluded income includes income from investments, buy-to-let property and dividends.

How much money should the self-employed contribute to pension funds?

There are no rules dictating how much money self-employed people should contribute to their pension funds. It all depends upon the individual, their retirement goals, attitude to risk and their current income.

There are, however, some best practices that almost all self-employed individuals should take into account when planning for retirement and pensions:

• The earlier you start contributing, the more time your pension has to grow.
• Contribute regularly to your pensions.
• Make sure you consider and take advantage of any tax reliefs available.

Most importantly, seek professional advice. An independent financial advisor is an invaluable ally for your retirement planning.

At Shorts, our team of independent, chartered financial advisors can help you:

• Define your retirement goals, needs, and risk tolerance.
• Choose a suitable pension plan.
• Create a wider investment strategy to boost your retirement.
• Help with tax and estate planning.
• Provide ongoing support, advice, market updates and regular pension reviews.

The value of an investment and the income from it could go down as well as up. The return at the end of the investment period is not guaranteed, and you may get back less than you originally invested.