Self-employed? Here's what you should do about pensions

Mention the word pension to a self-employed person and there is a high chance you will put the fear of God into them. According to a survey of 2,000 people by National Employment Savings Trust (Nest), the government-backed pensions provider, only 24% of self-employed people are actively saving into a pension.

Given the rollercoaster nature of working for yourself – limited company owners and sole traders’ incomes can widely fluctuate from one month to the next – the thought of regularly stashing away money into a pot that can only be tapped into decades down the line does not sound very appealing.

However, with 5 million self-employed workers in the UK, experts warn members of this group are likely to face financial crisis when they retire, if indeed they ever do.

The new flat-rate state pension is currently £168.60 per week, or £8,767 a year, and then only if you have made full national insurance contributions. So unless people expect to work until they die, most self-employed workers will need some additional kind of financial safety net to see them through retirement and older age.

Unlike employees whose companies are legally obliged to sign them up to the government’s auto-enrolment scheme, it is left to self-employed people to sort out their own provisions for the future.

John Greer from the financial services company Quilter says: “Very often, the self-employed catch up with long-term savings once they have an established income and businesses, which is logical and natural behaviour.

“It’s a different mindset to those with an employer who have a static income and a lot of responsibility like sickness benefits, and income protection is given to the employer.”

Greer recommends planning some level of financial contingency for the future. “Generally, the rule of thumb is whatever age you are, save half of it. For example, if you’re 20, start putting 10% [of your income] aside; if you start later at 40 years old then save 20%.”

Holly Mackay, the founder and chief executive of Boring Money, believes the best way to start saving for retirement is to set up a traditional pension scheme. “The most important thing to do is just to start. Even if it’s £20 or £50 a month, the first step is often the hardest. You do lose access to your money whenever you want, but if you can set aside even small amounts, the government top-ups are effectively free money,” she says.

Self-employed people do not have the luxury of a company pensions department to sort things out, but they do qualify for the same tax relief – and it is very generous.

If you are a basic-rate taxpayer, this means you will receive an extra £25 for every £100 you pay in. For higher-rate taxpayers, you can claim back a further £25 for every £100 you pay in, when you come to do your tax return. Different rules apply in Scotland. The maximum you can invest in one year is £40,000.

Government-backed pension Nest has some of the lowest charges in the industry. Photograph: Avpics/Alamy

You have three choices. Firstly, an ordinary personal pension, which is offered by most providers and managed by large investment companies. Secondly, a self-invested personal pension [SIPP] that you manage and can select the investment options for, whether stocks and shares or a trust.

Thirdly, there is the government-backed pension Nest, which has some of the lowest charges in the industry and accepts contributions from £10. It is simple to sign up and there are a range of funds based around your age when you join. For many self-employed people who want something simple and cheap, this is likely to be the best option.

What about Individual Savings Accounts (ISAs)? Their big advantage is that you can access the money any time and you do not have to wait until 55 years old, as with pension schemes. The drawback is that you do not receive tax relief when you put your money in. If you are under 40, consider the Lifetime ISA (LISA), which you can either use to buy your first home or to save for retirement.

A lot of small technology companies are launching apps and websites they claim make it much easier for the self-employed to open a pension. PensionBee helps savers consolidate their old pensions into one new plan. “Customers can then manage their pension like they manage their bank account – accessing their balance and making contributions 24/7 via our web or mobile apps,” says the PensionBee chief executive, Romi Savova.

Digital-only Penfold aims to take the stress out of setting up a pension. “It takes less than five minutes to set up a pension online – and there’s minimum jargon,” it says.

Note that these providers tend to charge slightly more than the Nest pension scheme. Also look out for the launch of Vanguard’s pension scheme, due early this year. Vanguard, a giant in the investment market with more than 30 million customers, says charges will be as low as 0.15% a year for its SIPP.

But all the above pension plans involve the money going into the stock market, with the hope profits and dividends will pay out in the future. But lots of people do not trust the market, or financial advisers, and would prefer to stick their cash into what they know best – property. But while this was probably the right thing to do financially 10 or 20 years ago, it is a lot more risky today. House prices are already at very elevated levels, and the new tax regime on buy to let makes it far less lucrative.

So what are self-employed people doing? We spoke to a selection around the country about their plans for the future.

‘I’m starting with just £10 a month but plan to increase that to £200’

Euan Gray, 41, a self-employed roofer from Basingstoke, organised his first pension through Penfold three months ago after being questioned by friends when he was on holiday. “My friends just asked me what I was doing about my pension. I said ‘nothing’. I thought I could sell my house and get a smaller one. They said I should have something in place.” Gray says the £10 minimum contribution levels appealed to him. “Being self-employed, I don’t know what I’m getting and when.” Gray is investing £10 a month. “I just wanted to get the ball rolling, it’s not going to return anything as it is, but when I have a good month, I’ll increase it to £100 to £200.”

‘I’m doing buy to let as my pension’

Romany Romany, 50, a magician who owns two properties in Brighton and Bournemouth, the latter of which she rents out, views property as her retirement trick. “I’m not interested in pensions because you only get it when you’re older … I feel more in control of a property where I can actually receive rent, and while property is going up, I also get an income [when I sell]. If I couldn’t physically work anymore, that would be my emergency fund. And with a pension, I couldn’t [access that]. It’s good to have. I feel secure.”

‘I’m just going to invest in my business and not put money into a pension’

Jennifer Bailey, 41, the founder of Calla, a footwear brand for women with bunions, sees her company as her pension. “Although I only launched my business three years ago, my plan is that one day I will sell it and use that money to live off. With pensions, you don’t get the same return as property or selling a business. If you have the skill set or can do something like invest in property or a business, I’d sooner do that.” Bailey says a property she bought before she met her partner will also go towards her pot.

‘I can’t afford a pension. I’ll probably have to work for the rest of my life’

Claire de Lune, 29, a ceramic artist and graphic designer in Margate, says she does not have the money to pay into a pension as she needs the funds for living, contingency and running her business.

“I save where I can, but there’s always something that needs [to be] fixed, or replaced, or I save up so I can take a few days off,” says De Lune. She says that with her current projected state pension estimated at £8,000 per year, which she says will not cover rent, “I will be working for the rest of my life, and most likely be living in a van when I’m 85.

“I love my work and plan to make art for the rest of my life, but our current system basically ensures that my generation will all be homeless in ‘retirement’, unless we could purchase a home in our 20s.”

She believes there needs to be a fundamental shift in the system. “If we had long-term rental solutions like in Europe, where we have rights as tenants, and can feel settled and in control of our property, then our attitude towards the future would be different – perhaps then a pension wouldn’t feel like a joke.”