Keep your pension on track by making up for missed contributions

If you take a career break to raise children, care for a relative, travel or pursue another project your first financial concern is probably financing the time out. But another important consideration is missed pension contributions. Stopping these for even a relatively short period can have a huge impact on the eventual size of your retirement savings, especially if you miss out on an employer’s as well as your own pension contributions. So try to minimise and compensate for the shortfall.

If your career break is to have children and you are contributing to a workplace pension while you are on statutory maternity pay, for up to 39 weeks, your employer has to continue making pensions contributions for you.

“If you stop paying in to your pension scheme, your employer can stop too,” says Sarah Coles, personal finance analyst at Hargreaves Lansdown. “But if you can afford to keep up contributions during paid maternity leave, you’ll pay less because you only pay in a percentage of your maternity pay. However, your employer has to continue paying in at their usual level. And if your maternity pay is below £192 a week – the lower earnings limit – you don’t have to make payments as you pay in based on what you earn. But your employer pays [in a pension contribution] based on your usual salary.”

If you continue to stay on leave after your statutory maternity pay ends your employer can stop making pensions contributions – even if you are making them. However, some employers have a policy of making contributions for up to 52 weeks, so check this.

If you are on leave for longer than your employer makes pensions contributions or have left your job, even if you are not earning enough to pay income tax you can still receive tax relief on pension contributions up to a maximum of £3,600 a year or 100 per cent of earnings, whichever is greater, subject to your annual allowance.

For example, if you have no income you can contribute £2,880 to a pension and the government will top it up to £3,600. Your contribution could be from savings that you can spare or someone else, such as a partner, could pay it into your pension on your behalf.

To get the full state pension you have to pay in 35 years of National Insurance (NI) Credits, so time away from work means you also miss paying these. Each annual credit missed could cost you 1/35th of the value of the state pension.

If you are taking a career break to raise children, make sure you complete child benefit forms "otherwise you may end up missing out on NI credits”, says Olivia Kennedy, financial planner at Quilter. “Even if you don’t qualify for child benefit you still need to fill in child benefit claim form CH2 to retain NI credits when caring full time for a child. Each year’s credit is worth £250 a year at state pension age."

Making up the difference

When you return to work after a period of missed contributions, the first place you should probably resume retirement saving is your employer’s scheme. Aim to put in the amount necessary to get the maximum contribution possible from your employer and find out if it will match any additional contributions.

If you can afford to save more than this, and are a higher or additional rate taxpayer, further pension contributions are likely to be the best option. Even if you do not get an employer contribution alongside them you will receive 40 or 45 per cent tax relief.

These extra payments could be put into your workplace pension or a self-invested personal pension (Sipp). When deciding which one to put the money into you need to assess a number of things, in particular charges which are are typically higher for Sipps. This is especially the case with Sipps that allow you to hold more unusual assets such as commercial property. If you don't want more investment options it may not be worth paying more for a Sipp and, if you think you do, assess the necessity and benefits of a wider choice of investments. You also need the time to do research and due diligence on investments if you are self managing a Sipp.

You can usually contribute up to £40,000 or an amount equivalent to your relevant earnings to a pension in the current tax year, whichever is lower. But those on an adjusted income of over £240,000 have this tapered back to as little as £4,000 per year.

However, you may be able to carry forward unused pensions allowances from the previous three tax years. To do this, you need to earn at least what you contribute in the current tax year unless your employer is making the contribution, and you must have been a member of a pension scheme in each of the tax years from which you wish to carry forward unused allowances.

So, for example, if you earn £180,000 in in the current tax year and didn’t use any of the previous three years allowances, you could potentially contribute up to £160,000 to a pension. This is your current year’s contribution allowance of £40,000 plus the previous three years.

Lisa

If you are a basic rate taxpayer and get 20 per cent tax relief on pension contributions, after you have contributed the amount necessary to a workplace pension to get the maximum employer contribution possible, a better option for additional savings could be a lifetime individual savings allowance (Lisa). With this, the government contributes a bonus worth 25 per cent of what you put in each year.

You can contribute up to £4,000 per year to a Lisa and the government will put in up to £1,000, so you could invest £5,000 per year. Investments within Isas grow free from income and capital gains tax – like those held within pensions.

A Lisa could also be a good option if your pensions annual allowance is tapered down to less than £40,000 per year and you wish to save more.

You can make withdrawals from a Lisa tax free after age 60, whereas you take 25 per cent of the value of pensions tax free after which withdrawals are taxed at your marginal rate.

However, you cannot open a Lisa unless you are aged 18 to 39, although you can contribute to one and get the government bonus up until age 50. If withdraw from a Lisa before age 60 other than to buy a first home, you pay a penalty worth 25 per cent of the amount withdrawn. You can access pensions from age 55 (57 from 2028).

If you are not eligible to make Lisa contributions or have more to contribute after using up your annual £4,000 allowance, a regular stocks and shares Isa is also a very tax-efficient way to save for retirement and make withdrawals. You can access this type of Isa at any age penalty free.

You can invest up to £20,000 per year into Isas and the government Lisa bonus of up to £1,000 does not count towards this. So if you have put £4,000 into a Lifetime Isa you could invest another £16,000 in a stocks and shares Isa.

After you have used up your annual pensions and Isa allowances, if you want to invest more you could hold investments in a general investment account, and mitigate tax using the annual capital gains and dividend tax allowances.

Planning ahead

Even if you plan to resume pension payments immediately after a period off work it might not always turn out that way. For example, it might take you longer to get back into full-time work than you anticipated, or you might find that working part time or being self employed suit you better after your break. So rather than trying to make up for missed contributions afterwards you could compensate for them beforehand.

“If you know you want to take a break in a few years, consider contributing more now – if you can – to plug the gap,” says Kennedy. “If you are contributing the 5 per cent currently required under auto enrolment rules, consider increasing it.”

Also keep tabs on your retirement savings.

“It’s always worth using a pensions calculator to see where you stand,” says Coles. “You can input how much you have saved so far and how much you need in retirement, and it’ll tell you how much you need to pay in to hit your goals. It’s worth doing this every year to ensure that your plans are on track.”

You can access pensions calculator online at, for example, https://www.moneyadviceservice.org.uk/en/tools/pension-calculator or https://www.hl.co.uk/pensions/pension-calculator.