What Are Workplace Pensions in the UK? How Do They Work?

In the UK, employers are legally required to provide a workplace pension scheme to their employees.

Eligible employees must be automatically enrolled, and employers must contribute to their pension funds.

We'll discuss everything about workplace pensions in the UK, including employer responsibilities, employee contributions, and the latest regulations.

What Is a Workplace Pension in the UK?

A workplace pension is a retirement savings plan set up by employers for their staff.

A minimum amount is deducted from the employee's regular wages and contributed to the pension fund.

Employers must also contribute a minimum amount to their employee's pension pot.

Workplace pensions are also known as:

• company pensions
• occupational pensions
• work-based or works pensions.

But here's the thing:

UK employers must automatically enrol their employees in a pension scheme and make pension contributions only if the employees:

• Are classed as a 'worker.'
• Are between 22 and State Pension age.
• Earn at least £10,000 per year.
• Usually work in the UK.

Note: The Pensions Act 2023 proposes lowering the minimum age for automatically enrolling employees into workplace pension schemes from 22 to 18. This change is expected to take effect sometime in 2024.

Learn more about Auto-enrolment Pensions in the UK.

How Much Should Employers and Employees Contribute to a UK Workplace Pension Scheme?

The minimum contribution for workplace pension schemes is set at:

• 3% minimum contribution for employers

• 5% minimum contribution for employees

The total minimum contribution from the employer and employee should be 8%.

As an employer, you can also set workplace pension rules to define which parts of your employee's earnings are included in contributions, also known as 'pensionable earnings.'

Employees must fulfil the minimum contribution limits towards the pension schemes by law. However, the employer can increase their National Insurance Contributions if needed.

What Are the Types of Workplace Pensions in the UK?

Employers can set up two types of workplace pension schemes:

• Defined Contribution Pension
• Defined Benefit Pension

Here's a quick overview of each one:

1. Defined Contribution Pension Scheme (Money Purchase Scheme)

• In a defined contribution pension scheme, the employer and employee contribute a minimum amount to the pension pot. These contributions are added to the pension fund and invested in shares and stocks.

• The amount of money employees receive upon retirement depends on:
  • How much have they contributed?
  • How long have they contributed?
  • How well have their investments performed?

• Employees currently aged 55 or above can claim a tax-free lump sum of up to 25% (this age limit will increase to 57 in 2028). The remaining amount can then be invested or used to purchase an annuity, providing a fixed income for a certain period or their whole life.

UK employers can choose three different options to set up a defined contribution scheme:

• Individual Trust Pension Scheme: The trustees of a company run this scheme, and it's only available to the individual employer and their workers. For example, stakeholder pension or self invested personal pension (SIPPs).

• Group Personal Pension Scheme: A group personal pension scheme is a collection of individual workplace pension plans employers create for their employees.

• Master Trust Pension Scheme: A master trust pension scheme offers workplace pension schemes to multiple employers who aren’t connected to each other. For example, Nest (National Employment Savings Trust) is a government-based workplace pension master trust.

Nest is an online pension scheme the UK government set up to simplify the auto-enrolment process. It operates with the approval of the FCA (Financial Conduct Authority), a financial regulatory body that manages the financial services register.

2. Defined Benefit Pension Scheme (Final Salary Scheme)

• In a defined benefit pension scheme, employees contribute a predetermined portion of their payroll to their pension fund, while the employer contributes the rest.

• It's calculated by multiplying how long your employee has been a member of the scheme with their final salary before retirement, which is then divided by 1/60th or 1/80th of their pensionable income.

• The final salary schemes typically have set a normal retirement age at which employees can claim their pension. This is usually 65 or the State Pension age. Sometimes, employees can start receiving their pension from age 55.

Some perks of a final salary scheme include:

• Death in service: If the employee dies before retirement, their spouse or dependents may be eligible to receive lump sum payments.
• Pension transfer: Employees can opt for a pension transfer if they move or change jobs by informing their old pensions providers.
• Pension protection: In bankruptcy cases, the Pension Protection Fund (PPF) pays compensation to eligible pension scheme members.

How to Set Up A UK Workplace Pension Scheme

Follow these simple steps to set up a workplace pension scheme in the UK for your employees:

Step 1: Determine Your Staging Start Date

This is the first day of work for a new employee and the day you start the employee auto-enrolment process for the first time.

You must establish a workplace pension program within six weeks of the staging date.

If the pension scheme isn’t established within the time frame, The Pensions Regulator (TPR) can take enforcement action.

Step 2: Choose a Pension Scheme

Choose the type of pension scheme you want to offer your employees.

It could be a defined contribution pension scheme or a defined benefit pension scheme.

While choosing a pension scheme, ask yourself:

• Does the scheme allow you to auto-enrol employees?
• Is the scheme available to all your eligible employees?
• Are the costs of the scheme reasonable?
• Is the scheme compatible with your payroll process?

Step 3: Identify Employees Eligible for the Pension Scheme

Employees eligible for workplace pension schemes fall under three types:

• Eligible Jobholders: Employees in this category must be auto-enrolled in a pension plan. They’re aged between 22 and State Pension age and earn more than £192 a week or £833 a month, known as qualifying earnings.

• Non-eligible Jobholders: These workers fall into one of two categories: they are aged between 16 to 21 and earn £10,000, or they’re in the age group of 16 to 74, earning between £6,240 and £10,000, making them ineligible for auto-enrolment. However, they can still voluntarily enrol in a workplace pension scheme.

• Entitled Workers: These employees are called entitled workers. They are between 16 and 74 years of age and earn less than qualifying earnings, i.e., £ 6,240 per year. Entitled workers are not required to enrol in a pension scheme, and employers are not obligated to pay them the 3% minimum contribution.

Step 4: Inform Your Staff

Notify your employees whether they will be automatically enrolled in your pension plan. This allows eligible employees to decide whether to invest in the pension scheme or opt out.

Advise your staff about automatic enrolment and how much they must contribute within six weeks of their staging date.

Step 5: Complete an Online Declaration of Compliance

The final step is completing an online compliance statement.

To complete this declaration of compliance, the Pensions Regulator will offer you a letter code and PAYE (Pay As You Earn) reference.

You re-declare your compliance with The Pensions Regulator within five months of the third anniversary of the start date of your auto-enrolment duties.

Alternatively, you can choose a re-enrolment date.

For example, if the staging start date of an employee is 1st June 2016, your third anniversary will be 1st June 2019. So your re-declaration deadline with the pension regulator will be five months later, i.e., 31st October 2019.

What Are the Benefits of UK Workplace Pension Schemes?

A workplace pension scheme in the United Kingdom:

1. Adds to Your Employee's State Pension

Employees can simultaneously avail of state and workplace pensions if they earn above the National Insurance Contribution (NIC) threshold.

This threshold is £1,048 per month for employees as of April 2024.

This way, you can ensure your employees have ample pension savings in their retirement fund to accommodate their cost of living.

2. Gives Your Employees Tax Relief on Their Income

In some workplace pension schemes, employers may deduct pension payments from their employee's pay before deducting income tax.

When employees contribute to a personal pension or some other workplace pension scheme, their pension provider can claim back income tax at the current 20% basic tax rate and add it to the employee's pension pot. This is also known as relief at source.

So if an employee contributes £80, their pension provider will claim back £20, and a total contribution of £100 goes into their pension pot.

3. Requires Employers to Match Employee Contributions

If employees enrolled in a workplace pension scheme have good pay and wish to contribute more to their pension than the minimum requirement, their employers must do the same.

Employers usually match up to a maximum proportion, which isn't less than 1% of the employee's salary.

4. Helps Your Employees Maintain a Good Lifestyle in Retirement

It's hard to predict how much pension saving an employee will need to live comfortably in retirement.

Some workplace pension schemes, like defined contribution pensions, allow employees and employers to contribute to their pension pot, which is then invested in shares and stocks.

This added income, along with the tax relief provided by the government, ensures the employees have ample retirement savings.

Pro tip:

Many pension companies and financial advisers provide tools that can assist employees in calculating the amount of contribution required to manage their cost of living post-retirement.

These financial advice tools will also consider the impact pay growth and inflation can have on their contributions.

3 FAQs on Workplace Pension Schemes in the UK

Here are the answers to some commonly asked questions about UK workplace pensions.

1. What Is the Difference Between Auto Enrolment and Voluntary Enrollment in UK Workplace Pension?

• Auto-enrolment into a pension scheme is when your employees meet the eligibility criteria for a workplace pension. This requires employees to be between 22 and the State Pension age and earn more than the National Insurance Contributions threshold.

• Employees who don't meet the eligibility criteria for automatic enrolment can still join a workplace pension scheme through voluntary enrollment. The amount employers and workers contribute to the workplace pension depends on the type of occupational pension scheme the employees are enrolled in.

• In automatic enrolment, you and your employee must contribute a portion of your wages to the pension plan.

• However, if your employee voluntarily joined a workplace pension, as an employer, you must contribute the minimum amount (3%) only if they earn more than:
  • £520 per month.
  • £120 a week.
  • £480 spread over four weeks.

You don't have to make the minimum contribution if your employees earn these amounts or less.

2. How Can Employees Claim Tax Relief on Workplace Pension Payments?

Your employees can get tax relief on their pension contributions in two ways: relief at source or net pay.

Employees may receive pension tax relief on pension contributions if they meet the following criteria:

• They pay income tax at a rate higher than the 20% basic tax rate, and their pension provider claims the first 20% for them (relief at source).

• Their pension plan is not set up to receive automatic pension tax relief.

• Someone else contributes to their pension.

3. What Happens to an Employee's Workplace Pension If They’re on Leave?

• If it's paid leave, the employee and their employer can continue making contributions based on the employee’s pay.

• If it's unpaid leave, employees may still be able to contribute, but it's advisable to check with the employer.

• The employee and the employer contributions will be paid as usual if it's maternity, paternity, adoption, or shared parental leave. While the employer is obligated to contribute for the first 26 weeks of unpaid leave, further contributions will depend on the terms outlined in the employment contract.

Manage UK Workplace Pensions Easily with Kota

Offering a workplace pension scheme in the UK isn't just a legal obligation but a strategic move that can benefit companies.

It offers employees financial security during retirement while helping companies acquire top talent, boost employee morale, and enhance productivity.

Want to offer a workplace pension scheme to your UK team without any hassles?

Try Kota!

Kota is a digital pension app that simplifies retirement benefits management in the UK.

We work with Smart Pension, a reputed pension provider in the UK, to help companies set up and manage pensions compliantly — regardless of where your company is based or if you even have a bank account in the UK.

With Kota, you can:

• Enrol your UK-based employees in a workplace pension scheme in minutes.

• Comply with the UK auto-enrolment legislation that requires you and your employees to make a total minimum contribution of 8% to their pension fund.

• Postpone auto-enrolments for up to three months. You can even set up automatic postponements to create a standard postponement period for your team.

• Manage re-enrolments every three years based on how you submit pension contributions.

• Integrate your existing human resources (HR) and payroll tools to reduce administrative work.

Why not join Kota to offer your team affordable and scalable pension coverage effortlessly?