What is pension auto-enrolment and how does it work?

Pension automatic enrolment makes it mandatory for employers to offer you a workplace pension that you both pay into. A percentage of the pension contribution comes out of your salary, and your employer (and the government) tops it up with “free” money.

Pension auto-enrolment is meant to encourage us to save enough money to enjoy a comfortable retirement.

Since the coronavirus pandemic, 1 in 4 savers have reduced the amount they’re putting away into their pension pot, according to research from Hargreaves Lansdown. However, if you’re debating reducing your contributions it’s well worth looking at all the options first. 

Why was auto-enrolment introduced?

It was introduced because people are living longer, and to live comfortably in retirement you cannot rely solely on the state pension. Not enough workers were proactively joining company schemes to supplement their state pension, and many smaller employers weren’t offering them at all.

Auto enrolment is designed so that eligible workers who want to build up savings for retirement can do so without having to take any action themselves. 

If you’re eligible, your employer will automatically enrol you into a pension scheme and deduct your pension contribution from your salary. Your employer will also contribute some additional money (not drawn from your salary) into the pension.

When will my employer start automatic enrolment?

Automatic enrolment was gradually rolled out from 2012, starting with the largest employers, followed by medium-sized employers and finally smaller employers. 

As of 2020, all companies, even new employers, should now be a part of auto-enrolment and offer employees pensions as part of the scheme.

Will I be automatically enrolled in a pension?

Your employer must enrol you if you work in the UK, are at least 22 years old but below state pension age, are not already in a workplace pension scheme and earn more than £10,000 in the 2020/2021 tax year.

As long as you meet those criteria, your employer has to enrol you even if you work part-time, for an agency, on a short-term contract or you are currently on maternity, paternity or other types of leave.

If you earn between £6,136 and £10,000 a year, your employer doesn’t have to automatically enrol you in the scheme unless you ask to join, in which case they can’t turn you down and must make contributions on your behalf.

Do you have to join the workplace pension scheme?

You do not have to remain a member of an auto-enrolment pension scheme, but in most cases you will be automatically enrolled.

You can then choose to opt out, but you would essentially be throwing away free money from your employer’s pension contribution and the government’s contribution through tax relief.

If you want to opt out, ask your employer for an opt-out form, complete it and return it to your employer. If you opt out within one month of being enrolled, any payments made into your pension will be refunded.

After one month you can still opt out, but any payments will remain in your pension pot for your retirement and won’t be refunded to you.

You can rejoin a company pension scheme at any time, and by law your employer has to re-enrol you into the scheme every three years as long as you’re still eligible.

Who pays what into your pension scheme?

The amount that is paid into the pension scheme is gradually rising to try and ensure that we save enough money for retirement.

For the April 2020 to 2021 tax year, the equivalent of 8% of your salary must be paid into an auto-enrolment pension. 

Employers must pay at least 3% (but can pay in more), and you have to make up the difference from your own pay packet. In reality, if your employer pays in the minimum of 3%, you would have to provide 4%. (The government contributes the final 1% through tax relief.)

The minimum total contributions are based on your qualifying earnings, which are your employment earnings before income tax and national insurance is deducted.

Further increases in minimum contributions are possible, though any decision by the government would have to assess the extra cost to employers set against the need to increase the nation’s retirement savings.

How much money will be put into my pension each year?

The minimum pension contribution per year is currently 8% of earnings above the minimum annual threshold of £6,240 up to the upper limit of £50,000. The amounts within these limits are known as qualifying earnings.

So, if you have a salary of £22,000, the total amount contributed into your pension would be 8% of £15,864, which comes to £1,269. If your employer provides 3% (£475), then 4% (£634) would come out of your pay. Tax relief would provide the final £160.

Some employers may apply the minimum contribution percentage to all of your earnings, not just the qualifying earnings. This means you’ll pay more out of your pay packet, but get more from your employer as well. It depends on how they’ve set up the scheme.

Will my company pension be enough for my retirement?

How much your income will be in retirement depends on how much you’re contributing to your pension, and how much the total pot is when you retire.  

If you qualify for a full state pension (£9,110.40), you can factor this into your income as well. Read our guide on how much money you need for retirement if you want more details.

The benefits of free employer contributions and tax relief are very useful. In almost all cases you shouldn’t opt out of an auto-enrolment pension scheme and if you do, it’s worth getting advice first.

If you want a more luxurious retirement, there are other places you could put your money. These include putting money into a private pension, traditional savings and ISAs, part-time earnings, inheritances and using property assets such as downsizing or equity release.

What if I have more than one job?

If you have more than one job, each one is treated separately under auto-enrolment. It means you must earn over £6,240 in each to be entitled to an employer contribution. However, if you earn less you can still join that employer’s scheme but the employer doesn’t have to contribute.

Each employer will check whether you’re eligible to join their pension scheme. You can opt out of one or all schemes you are eligible to join, or you can join more than one if you want to.

Should I stay in or opt out of my company pension?

Unless you have another way of supporting your retirement, you should keep your auto-enrolment pension because you get “free” money from your employer and from the government through tax relief.

The contribution your employer makes is part of your overall remuneration package for your job, so opting out is a bit like turning down a pay rise.

However, if you earn less than £6,240 and your employer doesn’t contribute there is a stronger argument for opting out.

And finally there’s at least one good reason for opting out of your company pension: if you have very large debts that are costing you lots of money in interest and fines, you may need to allocate every available penny to cut those debts first ahead of any form of pension savings.

22 October 2020