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Being self-employed can offer certain perks, but a notable downside is that you don’t benefit from a workplace pension scheme and employer contributions. Unless you are already making regular payments into a self-employed pension, it would be wise to start saving for your retirement as soon as possible.

That is easier said than done when running your own business, particularly at the present time as inflation continues to soar. Nevertheless, pension planning is crucial to ensure that you have sufficient savings to sustain you through retirement.

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Whilst you will likely be eligible for the new State Pension, this alone will not provide you with enough income in later life. Here, leading company formation agents Rapid Formations, take a look at what self-employed pension options are available to you.

Pension options for the self-employed

Most self-employed people set up a personal (private) pension to save for their future retirement. There are other savings and investment options available – such as individual savings accounts (ISAs), Lifetime ISAs (LISAs), and property – but pensions provide more generous tax benefits, making them the most tax-efficient vehicle for retirement saving.

As a self-employed individual, your personal pension options include:

Standard private pensions – a range of investment choices available from most large pension providers
Self-Invested Personal Pensions (SIPPs) – greater flexibility with contributions, and wider investment options that you manage yourself
Stakeholder plans – low minimum contributions, capped annual charges, and a default investment strategy

You can have more than one private pension, and you can make regular or individual lump sum payments to your pension provider. If your pension scheme is registered with HMRC, your contributions will be tax-free up to:

100% of your annual earnings
Your annual allowance, which is currently £60,000 for the 2023/24 tax year

You will also be eligible for the new State Pension if you have at least 10 qualifying years of National Insurance contributions. To get the full State Pension, you will need to have made contributions for at least 35 qualifying years.

At present, the maximum rate of the new State Pension is £203.85 per week, which equates to £10,600 per year. This sum is unlikely to cover all of your basic living costs in retirement, highlighting the importance of making self-employed pension planning a top priority.

Self-employed pension crisis on the horizon

According to the 2023 Retirement Report from Scottish Widows, 35% of people are not currently on track for even a basic standard of living in retirement.

This forecast is benchmarked to the Pension and Lifetime Savings Association’s (PLSA’s) retirement living standards, which estimates how much money people need to save to achieve a minimum, moderate, or comfortable lifestyle when they retire.

New research from the Association of Independent Professionals and the Self-Employed (IPSE) and CMME Contractor Wealth also suggests that 45% of freelancers are not paying into a pension at all.

The report reveals three key reasons why so many self-employed people are not currently saving for retirement. These are:

having other financial priorities (34%)
being unable to afford saving into a pension (24%)
ceasing pension contributions after becoming self-employed (24%)

These findings have prompted renewed calls for the financial services industry and UK government to tackle the looming self-employed pension crisis and help to put an end to retirement poverty.

Andy Chamberlain, Director of Policy at IPSE, said: “Successive governments have ducked the issue of self-employed savings for years, but the crisis is now too big for a future government to ignore. It will likely require intervention of a magnitude similar to automatic enrolment for employees.”

According to Alistair McQueen, Head of Savings and Retirement at Aviva, the UK government is looking into extending the automatic enrolment pension scheme to self-employed people, but no timescales for action have been mentioned thus far.

This means that the onus is squarely on the self-employed to save an adequate amount for their future retirement.

How much should I be paying into a private pension?

The amount of money that you should be paying into a self-employed pension really depends on the age you start saving. The later you leave it, the more money you will need to contribute each month to ensure a comfortable standard of living when they retire.

Research from the PLSA and Loughborough University suggests that, in 2022, the minimum required to simply survive in retirement is £12,800 for a single person, and £19,900 for a couple. These figures, which exclude housing costs, represent an increase of 18% and 19%, respectively, on the previous year alone.

Financial experts generally agree that most people require about two thirds of their pre-retirement income when they stop working. As the full State Pension is currently worth less than £11,000 a year, you will need sufficient private pension income to cover the shortfall.

The following rule of thumb, recommended by many experts, is a simple way to calculate how much you should be saving: at the time when you start paying into your pension, halve your age, and then use that number as the percentage of your current annual income that you should contribute each year.

For example, if you start paying into a self-employed pension at 30, you should aim to pay in 15% of your current annual income each year; if you start at 40, aim to contribute 20%; and so on and so forth.

You can use Money Helper’s pension calculator to get an idea of the income you will need when you retire, and how much you should be contributing to achieve this.

Thanks for reading

As a self-employed professional, building a sufficient pension pot to sustain you through retirement can be a monumental challenge, even more so in the current cost of living crisis.

However, making a budget and prioritising your pension savings is crucial to ensuring that you are financially prepared for retirement.

Consider speaking to a financial advisor for specialist advice, or contact MoneyHelper for free and impartial guidance on self-employed pension planning.

For more small business advice and news, visit Rapid Formations’ blog today.