How do sole trader pension contributions work?

One aspect that can fly under the radar when you’re self-employed is pension contributions. Since this is something usually handled by an employer once, then taken automatically, it can become very confusing when you have to pay it yourself. 

Pensions are crucial when you get to retirement, so it’s important that you start saving as soon as possible. Starting early can potentially double your pension, but being late is better than not saving at all. Otherwise, you may not have enough money saved for your retirement. 

We’re going to explore:

• Types of pension available
• How pensions can save you money
• Planning for your retirement
• How Countingup can help you save more

As a member of the UK public, there are a couple of choices when it comes to pensions. You can choose to rely solely on a government-funded state pension or to fund your own private pension. 

If you decide on a private pension, there are three main options to choose from. Each of them varies in how much control and flexibility you’ll have over them, and what charges you can expect when you pay, move, or withdraw your money. 

Whether you’re employed or self-employed, you qualify for a State Pension. This is paid to you by the government, under certain conditions. For example, you can only start receiving this after reaching your 68th birthday. There is also a cap on how much you can receive, depending on how much national insurance you’ve paid. If everything is in order, the maximum you can gain is £179.60 per week.

Since this works out to be less than £10,000 a year, it may be worth starting a private pension sooner rather than later. 

A popular option, personal pensions offer freedom to invest in a selection of pre-approved funds. Your pension pot can then grow in value, boosted by your regular payments. 

You’re also eligible for tax relief for your pension payments, meaning a percentage of your taxes will be paid into your pension fund.

As a bonus, any interest growth your pot experiences is mostly tax-free, but you may have to pay tax when you withdraw it.

You get more flexibility with a stakeholder pension than you do with other types of pension. The minimum contributions are often much lower than other pensions, and you can usually vary the amount you pay.

The option to choose a default fund if you want to avoid making your own investments. Combined with set charges and cost-free transfers, moving your money around can be much less expensive than if you were to choose alternative options. 

If you decide to go for a self-invested personal pension (also known as SIPPs), you’ll be able to choose far more options when deciding how your savings get invested. They’re ideal if you already have experience with investing, but typically have higher costs than your other choices. 

Since you’d manage your own pension, you’re able to make adjustments and contributions more regularly than with other plans. Depending on providers, you may also be able to invest in companies, properties (non-residential), or land.

Not all providers offer the same options or deals, so compare pensions yourself or find a pension advisor who can help with what’s best for you. 

When you pay your sole trader pension contributions, you may be pleased to know that they are tax-deductible. That means if you earn £30,000 over the year, and pay £1,500 into your pension fund, your taxable income is reduced to £28,500. 

Not only are pension contributions tax-deductible, but you’ll also get tax relief on anything you pay. The current basic relief rate is 20%. Instead of simply getting this money returned to your account, the government will pay it straight into your pension fund. A £100 contribution, plus the 20% relief, will become £120 in your pension fund. 

That’s a much better option than simply watching your hard-earned cash vanish into taxes. As part of your pension pot, it’s tucked away until you need it. Not only that, when you begin claiming your pension at 55 (rising to 57 in 2028), typically the first 25% you take is tax-free. 

There is a yearly £40,000 cap on pension payments, known as your annual allowance. Once you’ve reached this limit, you won’t be able to add any more funds until the following year.

When you reach retirement, you might find that the only income you’ll have is your pension. With that in mind, it’s a good idea to plan ahead and figure out your potential costs, and how much you may need. 

Some ongoing costs you’ll want to bear in mind are:

• Housing (whether you’re paying rent or a mortgage)
• Bills (like your heating, electricity, and water) 
• Food
• Debts (paying back any loans you may have taken)

You’ll also need enough money to enjoy your retirement, whether you want to go on holiday, travel, or treat those closest to you. It’s best to try and find the right balance between your current needs and any projected costs.

Managing your finances can be stressful and time-consuming when you’re self-employed. That’s why thousands of business owners use the Countingup app to make their financial admin easier. 

Countingup is the business current account with built-in accounting software that allows you to manage all your financial data in one place. With features like automatic expense categorisation, invoicing on the go, receipt capture tools, tax estimates, and cash flow insights, you can confidently keep on top of your business finances wherever you are. 

You can also share your bookkeeping with your accountant instantly without worrying about duplication errors, data lags or inaccuracies. Seamless, simple, and straightforward! 

Find out more here.