Most people now contribute to a workplace pension unless they have opted out, are under the age of 22, earn less than £10,000 or are self-employed. Putting a bit of your salary into this retirement fund each month alongside money from your employer and tax relief from the government is a great way to build up a pot for later life. However, there are typically limitations on where you can invest through workplace schemes.

Auto-enrolment workplace pension schemes run by companies such as Aviva and Standard Life have a cap on charges of 0.75% although most schemes charge less than this amount. The key difference is that they tend to have a small range of investments which may not suit someone who wants to put their money in certain sectors or themes.

One way around this issue is to open a SIPP (self-invested person pension) alongside your workplace pension. You should only do this once you have maxed out contributions that qualify for a match from your employer.

The minimum auto enrolment contribution to an employee’s pension savings is 8% of qualifying earnings. Employers must pay at least 3% and the employee the remaining 5%. Some employers will offer higher contributions and sometimes these are on condition the individual also pays a higher amount.

You’re allowed to pay into both a workplace pension and a SIPP at the same time, subject to certain rules we’ll cover in a second, and the SIPP should give you access to a much wider variety of investments.

HOW MUCH CAN YOU PUT IN A PENSION?

Each year someone can make personal contributions up to 100% of their relevant earnings into a pension to get tax relief. There is also an overall annual allowance of £40,000 which applies to most savers and covers employee and employer contributions as well as tax relief. This is the most someone can save in their pension pots in a tax year before having to pay tax.

Although the amount you can personally pay into a pension and get tax relief on is limited by your earnings, any UK resident under the age of 75 can put at least £3,600 into their pension each year including tax relief, whether they are working or not. It is also worth noting that if you are a very high earner or have already accessed your pension flexibly your annual allowance may be lower.

There is also a lifetime allowance of £1,073,100 to consider which applies to the assets accumulated in a pension, not just the contributions. This is the limit on how much you can build up in pension benefits over your lifetime and still enjoy the full tax benefits. If you exceed the allowance, you will generally pay a tax charge on the excess.

HOW TAX RELIEFS WORK

Contributing to a pension can be a good use of cash that isn’t needed to repay expensive debts or pay bills. Thanks to the generous tax relief on offer, as an example £1,000 paid into a pension will automatically be topped up to £1,250 via 20% basic rate tax relief based on the total contribution.

Those who pay a higher rate of tax can claim an additional 20% through their self-assessment tax return or by contacting HMRC.

If your taxable income is over £150,000, you’ll pay a tax rate of 45% on everything over this threshold. You can claim additional tax relief on that amount – an extra 5%, to give you 45% tax relief in total on all pension contributions from your income over this threshold. In Scotland slightly different tax rates apply.

PUTTING £10,000 TOWARDS YOUR RETIREMENT POT

Let’s take a hypothetical person called Melody who has inherited £10,000. She has no other pressing uses for the cash so decides to open a SIPP and top up her retirement savings.

We assume Melody already pays into a workplace pension and has contributions invested in a diverse range of funds, such as ones investing in global shares and bonds.

Using a SIPP is one way to add ‘satellite’ investments to sit along the ‘core’ ones in your workplace pension scheme. You pick investments for a SIPP yourself, so it is important to understand the risks involved

If you got more comfortable with the idea of picking all of your own investments for your pension you could transfer any accumulated workplace pensions into a SIPP. You would lose auto-enrolment protections such as the charge cap, but you would have greater flexibility.

This might involve the inconvenience of regularly transferring over assets unless your employer was prepared to pay contributions directly into a SIPP, and not all employers are. Anyone who is unsure about pension issues should talk to a regulated financial adviser.

Core holdings are considered the backbone of a long-term portfolio. Satellite investments are considered non-core and can be higher risk and held for the shorter term or for tactical plays on certain parts of the market. You can perhaps think of ‘core’ as the serious part of a portfolio and ‘satellite’ as the fun bits around the edge, though as ever this will depend on your circumstances and appetite for risk.

As mentioned earlier, there are limits on the tax relief available on a pension. So, if Melody is planning to pay a £10,000 lump sum into a
SIPP, she will need to ensure she has sufficient earnings to support it and it does not take her over her annual allowance for that tax year to get the full benefits.

Eligible investments for SIPPs include most UK funds and shares as well as overseas stocks, exchange-traded funds and commercial property.

Direct investments in property through a SIPP can be complex and expensive and are typically only an option with specialist platforms. An easier way to access this asset class via a SIPP is through property funds and investment trusts.

INVESTMENT OPTIONS

Having opened her SIPP, Melody needs to decide what to put in it. Contributions are already being made to her workplace pension, so the broad-based exposure to the markets is already in place.

There is a case for investing in funds which tap into specific niches and themes or look to employ savvy stock picking to beat the returns from the wider market.

One option for Melody, particularly as she has a higher appetite for risk and at least a five to 10-year time horizon, is Stewart Investors Asia Pacific Leaders Sustainability Fund (3387476). This invests in shares of large and mid-sized companies either located, or doing business, in the Asia Pacific region excluding Japan. It seeks to back high-quality companies which are positioned to benefit from, and contribute to, the sustainable development of the countries in which they operate.

In essence, the fund offers exposure to fast-growing markets in Asia but with a sustainability twist. This is topical given an increased focus in these countries on addressing environmental issues.

Managed by David Gait since 2016, the fund has generating annualised returns over 10 years of 10.5%, according to data from Morningstar. The emphasis is on finding businesses with strong management teams, balance sheets and financial performance, alongside a clear ESG (environmental, social and governance) strategy.

Its top holding is Indian car maker Mahindra & Mahindra, closely followed by Australian biotech firm CSL. The fund has an ongoing charge of 0.84%.

How to open a SIPP

Opening a SIPP should be a straightforward process and could take as little as 15 minutes online.

You’ll need:

– Your National Insurance number

– Details of your employer

– Your debit card details (assuming you want to put cash in your SIPP)

– If you want to transfer in an existing pension, full details of it

Once you’ve completed your application you can make a lump sum contribution using your debit card or set up a regular monthly contribution. Your cash can sit in your SIPP while you consider where to invest it.

SMALL CAP FUND

Funds investing in smaller companies are a typical satellite holding in a diversified portfolio. One option for Melody might be to use some of the £10,000 going into her SIPP to invest in Liontrust UK Micro Cap Fund (BDFYHP1).

Managed by a four-person team made up of Anthony Cross, Julian Fosh, Victoria Stevens and Matt Tonge since its inception in 2016, on a five-year view it has delivered an annualised return of 19%.

The ongoing charge is 1.38% which is higher than you would typically find on a global fund, but perhaps explained by the team having to do a lot of work to sift through the small cap space which where there is typically a lot less research available on companies.

The focus is on buying UK firms with a market value of less than £175 million at time of purchase. Its biggest holding is payment solutions firm Eckoh (ECK:AIM).

DISCLAIMER. This article is based on a fictional situation to provide an example of how someone might approach investing. It is not a personal recommendation.

It is important to do your research and understand the risks before investing.

Individuals who are unsure about the suitability of investments should consult a suitably qualified financial adviser.

Past performance is not a guide to future performance and some investments need to be held for the long term.

Tax treatment depends on your individual circumstances and rules may change. ISA and pension rules apply.

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