Self-invested personal pensions, known as Sipps, were introduced back in 1989, and for many years were viewed mainly as a way for wealthy investors to invest in more eclectic assets. They were complex, expensive and not relevant to most ordinary people.
But the pension landscape has changed massively over the past decade or so, as a result of legislation and technological advances, and simple low-cost online Sipps providing access to a wide choice of funds and investment trusts have become more easily accessed and widely used.
So how does a Sipp work – and how might one help you, even if you have a pension through your employer?
The first thing to highlight is that a Sipp is just a pension tax “wrapper” – it provides generous tax relief on your contributions and then allows them to grow free of tax, in exactly the same way as a workplace pension. The difference is that you are responsible for choosing and monitoring your investments. So, you must be prepared to take on that responsibility if you decide a Sipp could benefit you.
Don’t Forget Your Workplace Pension
It is important to stress that workplace pensions really are the place to start in your pension push. Under pension rules rolled out in 2012, employers must auto-enrol their employees into a pension scheme and contribute to their pots a minimum of 3% of qualifying earnings. That’s free money from your boss for your retirement.
But many employers go further than this. As Steve Webb, a partner at consultant LCP, explains, many employers will match staff contributions up to a ceiling: “For example, you may join a firm and start paying into a workplace pension at a standard default rate – the legal minimum or some other figure - but the firm may reward those who choose to save more, by making additional contributions.”
He adds: “If you have spare money to put into a pension, it is well worth making sure you are maximising any employer match (which effectively doubles your money) before doing anything else.”
So, if it’s simply a matter of channelling surplus earnings from your job into your retirement pot, look first to your workplace pension.
When to Use a Sipp
If you have maxed out your employer’s contribution potential, you might decide to set up a Sipp for any additional pension savings, whether this is spare income from your job or another source, such as an inheritance or windfall.
If you take the Sipp route, the key attraction is that you’re in control of your investments; you’ll be able to choose from an enormous range of funds and investment trusts, and can often set up an account at a very low cost - last year Vanguard launched the UK's cheapest Sipp with charges of just 0.15%.
You’ll also have access to racier options focused on small companies, individual regions or specific industries. These are likely to be more volatile over shorter periods, but over decades they tend to outperform more mainstream holdings, and long-term investors with an appetite for risk and an already well-diversified portfolio might well fancy investing a chunk of pension money there.
Sipps are also a valuable tool for consolidating old pensions from previous jobs. It can make a lot of sense to bring these pots together under one Sipp roof, where you can choose and monitor decent funds, track the progress of your retirement fund, and know exactly what you’re paying for your investment.
Check the Small Print
Before moving any pension savings it’s vital to check the terms; some older schemes have punitive exit penalties, while others may offer generous guaranteed annuity rates that are well worth hanging onto. Final salary schemes that pay a guaranteed retirement income based on your earnings are rarely worth switching out of because they pay a secure income for life, and you are legally required to take financial advice if your pension’s transfer value is more than £30,000.
But a low-cost Sipp is likely to be a sensible choice if you’re one of the almost five million self-employed people in the UK, and therefore don’t have the luxury of a workplace scheme with employer contributions, but are keen to start investing into a pension.
Sipps have always been the obvious choice, too, for more sophisticated investors wishing to hold a wide range of assets in their pensions, particularly commercial properties – though you’ll need to choose a specialist provider that offers a “full” Sipp in this case.
But where these wrappers really come into their own is when you embark on retirement. From age 55, you can access your Sipp as you need it, whether that’s to top up part-time earnings, bridging the gap between jobs, pay off outstanding loans or invest in home improvements. It’s important to remember, though, that if you dip early into your pension pot, that money will not be available later in retirement, so consider carefully before you act. You can learn more about how pension drawdown works here.
Why Have Sipp Complaints Risen?
One thing to note is that as Sipps have become more mainstream, the number of complaints filed around them has rocketed. The Financial Ombudsman said that in 2020/2021 Sipps were the most complained about pension and investment product with 3,021 complaints (up from 2,606 the previous year). That growth is a reflection of the fact that Sipps and the greater flexibility around modern pensions leave consumers making key decisions about their pension funds, and therefore inherently vulnerable to bad choices.
The freedom to place money in a much wider range of investments is largely a good thing but can mean inexperienced investors are more likely to choose a fund which performs badly or, worse, to be exposed to fraud. This is one time in life where taking professional advice from a financial advice can really reap rewards.
