What is a SIPP and how do they work?

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Fact Checked.
Updated on
December 1, 2022

In a nutshell

A SIPP (self-invested personal pension) is a pension where you get to decide where your money is invested. You can choose to make all the investment decisions yourself, or pick from a smaller range of options where the experts handle things for you. It can be a great way to boost your savings for retirement.

Nutty

We’re sure you’ve heard of a pension, but what is a self-invested personal pension?! It might sound super complicated, but trust us, they’re more simple than they sound. We’ll cover all the details here in an easy to understand way. And after, you might just be confident enough to open one for yourself – they’ve got some great tax-free benefits and can be a game changer for your future!

So what actually is a SIPP? Or self-invested personal pension? First, let's start by explaining what a personal pension is and go from there.

What is a personal pension?

A personal pension is a pension all in your name, you get to decide which pension company (provider) to use, and where and how your savings are invested. 

It’s different from a workplace pension, which is what you might be more familiar with – these are pensions your employer sets up for you if you are an employee. Technically they’re both types of private pension – which simply means a pension in your name, private to you, and not the government pension, called the State Pension, which is a public pension.

Workplace pension vs Personal pension

It’s unlikely that the State Pension alone, and if combined with a workplace pension, is going to give you a comfortable retirement these days. Making personal pensions a great addition to your retirement savings.

Self-employed?

If you’re self-employed, a personal pension is pretty much your only option – and highly recommended. Learn more with our guide to self-employed pensions.

Types of personal pensions

There’s 2 types of personal pensions, one where the experts manage everything for you (often just called a personal pension), and aim to grow your money over time in a safe and sensible way (just the same as your workplace pension).

Personal pension

Or the second, there’s a self-invested personal pension, often called a ‘Do it yourself pension’ or ‘DIY’ pension. This is where you make the investment decisions yourself – that’s which investments to buy and when to buy and sell.

Self-invested personal pension (SIPP)

They’re both great options, but often the best bet is to simply let the experts handle everything!

Here’s where it gets a bit complicated, with a self-invested personal pension, the experts can also handle everything for you too – you just select from a very small range of options, such as a standard pension plan, or socially responsible plan (e.g. no investments in fossil fuel companies). Technically you have a choice but in reality the experts buy and sell investments on your behalf.

Find the best pension for you

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All make sense so far? There’s many benefits to both, and to pensions in general, and we run through that below.

If you’ve heard enough already and are keen to get started with a personal pension, but not sure which provider to use, we've reviewed all the best ones. Here’s our recommendations:

The best expert-managed personal pensions

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Best overall

PensionBee

PensionBee are leading the way with modernising pensions. The investment options are great for many pension savers, it’s an awesome app and website, which are both easy to use, and have tools and charts to show you how your money is growing – and importantly, how to hit your retirement goals.

It's easy to set up and get going, you can start a brand new pension, or simply transfer your existing pensions across.

You’ll pay one simple fee that decreases the more you save.

Fees: low (0.5% to 0.75%) for their core plans

Rating

PensionBee rated 5 stars

Our friends at PensionBee will contribute £50 to your pension when you open a PensionBee account.

Capital at risk.

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Best overall

Moneyfarm

Moneyfarm is like a financial advisor on your phone (or website), their experts will work with you to determine the best investment strategy. It’s low cost, with an excellent investment track record and great customer service.

You’ll pay one simple fee that decreases the more you save.

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Moneyfarm rated 5 stars

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Simple and easy

Penfold

Penfold is a great app to get you going, with simple pension fund options to choose from and awesome features on the app to view your money at any time. Plus simple tables and charts to work out how much you should be investing to hit your retirement goals.

You don’t need an existing pension to use it, but if you do have one, or a few, you can move those overs too.

Fees: low (0.75% or 0.88%)

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Penfold rated 5 stars

The best self-invested personal pensions

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Best traditional

AJ Bell

One of the cheapest traditional brokers out there, with a good reputation and established history. The customer service is great and there’s a huge range of investment options.

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AJ Bell rated 5 stars

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Solid reputation

Hargreaves Lansdown

If you want a more traditional approach, with a long established history then Hargreaves Lansdown could be for you. It’s a great broker with a huge range of investment options, including expert-managed choices. However, it’s more expensive than other options.

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Hargreaves Lansdown rated 2 stars

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If you’d like to learn more, or see the full range of options. Check out the best personal pensions.

Benefits of a pension

The government wants you to save for retirement yourself, rather than relying on the State Pension (the one the government gives you if you qualify), and so there’s some massive benefits to saving within a pension. And it’s a good idea to take advantage of them!

Full State Pension

Government bonus

Saving into a pension is intended to be completely tax-free, technically called ‘tax relief’. When you save into a workplace pension, it’s taken from your salary before tax is calculated. Meaning you don’t pay any tax on it.

However, with a personal pension (and SIPP), you can only pay money into it after you’ve paid tax (as you can’t pay into a personal pension from your salary).

So, the tax you’ve already paid on your income is automatically added back straight into your pension pot, everytime you add money into it. And it’s a lot. It’s 25% of everything you put in. How great is that?

SIPP tax relief

That’s the basic tax rate, if you’re a higher rate tax payer, earning over £50,270 you can get 40% tax relief. And for additional rate taxpayers (earning over £150,000) it's 45% tax relief. You’ll do this on your Self-Assessment tax return.

Earning this bonus is great news, it can make your savings grow much quicker over time. It seems like a no-brainer yet so few people add money to their personal pension!

Tax-free as it grows

As your money grows within the pension pot, you won’t pay any tax at all. Whoop!

That’s no Capital Gains Tax, Income Tax or Dividends Tax. Although you might pay tax when you withdraw it, and we’ll cover that later.

If you were saving and investing outside of a pension (and not using an ISA, another type of tax-free savings account), when you sell investments for a profit, you might have to pay tax – particularly Capital Gains Tax. That’s a tax you’ll pay if you make a profit of over £12,300 within a tax year (April 6th to April 5th the following year).

What is Capital Gains Tax?

Not paying any tax when you buy and sell investments, or tax if investments pay you an income or dividends (when the company itself pays out profits to its shareholders, its owners), can mean your money grows much faster over time.

No Inheritance Tax

As if that wasn't enough, your pension(s) will not count towards your ‘estate’ when you pass away. Meaning no Inheritance Tax will be paid on your pension. Your estate is all of your assets (like property), and money, added together. And if this exceeds £325,000, anything above that will be taxed at 40%. Ouch!

What's inheritance tax?

However, pensions are excluded from this. They’ll go straight to whoever you nominate with your pension provider (which is often your spouse or civil partner). And if you pass away under the age of 75, they won’t have to pay any Income Tax either (they might have if you pass away over 75).

SIPP - No inheritance tax

Unlike a pension, if you had your money in a Stocks & Shares ISA, your loved ones might have to pay the 40% tax, as it would count towards your estate. Here’s where to learn more about Inheritance Tax on ISAs.

Withdraw (at least) 25% tax-free

When you hit the ripe old age of 55 (57 from 2028), you can start to withdraw cash from your pension if you want to (although we recommend keeping it saved for as long as possible so it grows even more!). 

25% of your pension can be taken completely tax-free – and you can take this as a tax-free lump sum if you like. Otherwise, you can take an income from your pension and 25% of every payment will be tax-free. The remaining 75% counts as ‘taxable earnings’ (meaning you might have to pay tax).

Accessing tax-free money from your pension

The amount of tax, if any, will depend on your total income at the time. You’ll still have your Personal Allowance of £12,570 per year before you have to pay any Income Tax. Don’t worry, your pension provider will handle all of this for you at the time.

Combine pensions into one

With a personal pension (including a SIPP), you can combine all your old pensions into one, called consolidating your pension. If you’ve had a few jobs, you’ll probably have lots of workplace pensions, and if you want to, you can consolidate all of them into one single personal pension.

Pension consolidation

This has quite a few benefits. The first, with some pension providers, the more you have saved, the lower their fees will be (saving on fees can save you big money over time). 

Plus, it gives you a single place to see how much money you have and to manage where and how your money is invested. It also means you won’t forget any pensions when it’s time to retire! As much as 1.6 million pensions are lost (totalling £19.4 billion), according to The Association of British Insurers.

And on a more sombre note, it’s much easier for your loved ones to track down your pension(s) if you pass away.

PensionBee¹ offers a great service to combine all your pensions into one (plus a great pension in general). They’ll handle everything, you just simply let them know who your pensions are with.

SIPP rules

Pension limits

With all the benefits of a pension, there’s also a few limitations.

You can only save as much as your whole income (e.g. salary) per year, or £40,000, whichever is lower. This applies to all of your pensions in total (e.g. your workplace pension too).

Pension annual allowance

You have a Personal Lifetime Allowance of £1,073,100 that you can withdraw from a pension to still benefit from all the tax benefits. If you withdraw more than this, you’ll pay an extra 25% tax.

Personal Lifetime Allowance

It’s likely you won’t need to worry about these limits, but we’re mentioning just in case you’re lucky enough to have lots of cash to save for retirement. 

If you think you might hit these limits, you’ve got the option to invest more into an ISA – where you have £20,000 allowance each year, and can save tax-free too. Here’s where to learn more about ISAs and find the best investment platform for you.

ISA allowance

Can’t transfer your current workplace pension

You can’t transfer your current workplace pension to a personal pension or SIPP if you are still paying into it (i.e. still employed). You’ll have to wait until you move jobs to transfer it.

If you have any older pensions, you can transfer them any time. Here’s a guide on how to transfer your pension if you’d like to learn more.

How does a SIPP work?

Right, that’s an overview of pensions – but what’s the difference with a self-invested personal pension?

What is a SIPP?

With an SIPP, you’ll open a pension account with a provider, and often you’ll have a range of investment options to pick from, with an expert-managed SIPP (like PensionBee or Penfold). These can be just a few options, such as their standard option, or maybe a socially responsible option.

With proper self-invested personal pensions, where you manage the individual investments yourself – you’ll have thousands of investment options. These include:

Stocks and shares: where you own a small part of a company, (a share of the company). And these are traded on stock exchanges all over the world. The buying and selling is all handled by your SIPP provider – you just let them know which shares you want (which is the same for all investment types). AJ Bell¹ is a good option for this.

Stocks and shares

Investment funds: these are groups of investments, such as shares, all packaged together into one single investment, making it much cheaper and easier to buy. They can be things such as companies within a whole industry, such as electric vehicles, or things like the top 100 companies in the UK (FTSE 100). Often these funds are traded on stock exchanges too, and called ETFs, or exchange-traded funds.

ETFs or Exchange-Traded Funds

Bonds: these are investments where your money is loaned to governments or large companies in return for interest. Similar to depositing money into a savings account.

Property: often this is commercial property, as part of an investment fund, which provides the rental income as a return.

You might have also heard the phrase pension fund, and these are a collection of customers' money pooled together and is invested in a range of investments, all managed by experts. Pension funds are often massive and represent lots of workplace pensions. 

With an SIPP you can invest in pension funds too – they are effectively the same as any investment fund you’ll see on an investment platform, but have a focus on longer-term growth.

Nuts About Money tip: it’s often not a good idea to invest randomly in things (such as your favourite brands), you should follow a set investment strategy that gradually grows your money over the long-term.

That’s why for most people we recommend letting the experts handle your pension for you. They do it for a living, and know what they’re doing!

We’ve put together the best personal pensions to help you find the best options for you too – which includes both expert-managed and self-managed providers.

SIPP fees

The great thing about SIPP and personal pensions in general is they are often low cost, and in general, cheaper than workplace pensions.

Pensions typically charge an annual management fee per year, based on the amount you have invested (a percentage). This can range from around 0.25% to 1.5% and sometimes more!

It’s typically more expensive if you use a financial advisor to manage your pension for you (although they can be worthwhile if you have large sums of money).

Breaking that total fee down:

If you manage your own investments with a SIPP, they’re generally cheaper than having the experts manage things for you, but not always by that much. And you'll probably make less money over time than the professionals would. (You could even lose money if you don’t follow a strategy.)

With a SIPP, you’ll pay the pension provider a fee (sometimes called a platform fee, account fee, or a management fee), but you’ll also have to pay fees on the investments themselves – which also often have an annual management fee. This can range from 0.15% to 1.5%+. It all depends on what you are invested in – and you’ll pay fees on investments wherever and however you invest.

For instance, you might have a SIPP with an annual management fee of 0.45% and then investments with fees of 0.25% per year. Totalling 0.7% per year.

With an expert managed pension, you’ll be looking at around 0.75% per year, and some are around 1%. Which is great value, and that includes everything – an annual management fee for them, and the investments fees. The management fee (%) can also reduce when your savings increase too!

If you’re looking for lower cost pension options, check out our best personal pensions.

When can I access my SIPP?

An SIPP follows the same rules as all other private pensions – you can’t access your cash until you’re 55 (57 from 2028). Which is the official pension withdrawal age. After that, you can take out 25% either as a tax-free lump sum or as regular income (of which 25% of it will be tax-free).

However, we recommend that you keep it invested so it grows even bigger over time!

Investing long-term performance

Note: once you start withdrawing cash from your pension pot, you normally won’t be able to add much money back in. Your allowance reduces from £40,000 (or your total income), to £4,000 per year. This is called the Money Purchase Annual Allowance (MPAA).

Are SIPPs safe?

Yep! All pensions, including SIPPs, are very safe. They are looked after by the Financial Conduct Authority (FCA), who are responsible for making sure investment companies are themselves looking after their customers and their money.

Financial Conduct Authority (FCA)

Pension companies need to be authorised by the FCA and are regularly reviewed to make sure they are operating correctly.

This also means your money is protected by the Financial Services Compensation Scheme (FSCS). And with pensions, all of your cash is protected. So, if anything should go wrong with a pension company, such as going out of business, you’ll get 100% of your money back. Typically, with other financial services that aren’t pensions, you are only protected up to £85,000.

Financial Services Compensation Scheme (FSCS)

However this is a very last resort, your money and investments held within your SIPP are always held within a separate bank to your pension company, all in your name, and can only be returned to you.

How to open a SIPP

Keen to get saving with a SIPP? Good decision! It’s the best way to build a comfortable life in retirement – hopefully meaning no money worries, and no stress (except maybe which holiday to go on!).

You can open as many SIPPs and personal pensions as you want, so you could actually have a personal pension managed by the experts, and a SIPP that holds some investments that you’d like to make yourself.

Opening one, and transferring any old pensions you have is easy too – if you choose the right one, your new provider will handle everything. The only hard part is finding the best one for you! 

Transfer a pension to a SIPP

And that’s where we come in, we’ve already done the research to find the best options for you. We’ve outlined the best providers above – and you can see the full range with the best personal pensions.

By the way, you can invest regularly into your pension (and into specific investments) if you want to, or add a lump sum, or a payment whenever you like. It’s completely up to you with a personal pension.

What happens when you retire

When it comes time to retire, you’ve got a few options. You can first take 25% out as a tax-free lump sum if you want to. Sometimes people do this to pay off the rest of their mortgage if they have one.

Pension tax-free lump sum

You can then use the whole amount (or remaining amount) to buy an annuity – this gives you a guaranteed income every month for the rest of your life, or a set period of time, such as 20 years.

Or, you could simply keep your pension savings invested in your SIPP or other pensions and take a regular income out, or money out when you need it. This way it will keep going over time too. For instance, you could move it into low risk investments that provide a regular income.

The choice is yours! And most pension providers will explain all your options when the time comes, but you could also speak to a financial advisor too.

That’s it for SIPPs

Hopefully it’s not quite as complicated as you originally thought? Once you understand the basics of pensions, they’re quite simple really.

An SIPP could be a great option for you if you want to manage your own investments, or combine it with an expert-managed personal pension. It’s completely up to you!

We highly recommend opening a personal pension in general, in addition to your workplace pension and the State Pension – your future self will thank you a lot. Starting saving early and saving regularly can have a huge impact on your finances in the future.

That's it from us. If you need some help find the right provider for you, check out the best personal pensions – our favourite is PensionBee¹, they’re low cost, easy to use, and a great track record. Moneyfarm¹ is also a great option, and they’ll give you expert advice too.

Find the best pension for you

We've reviewed all the best personal pensions so that you don't have to.

Best personal pensionsBest personal pensions

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Find the best pension for you

We've reviewed all the best personal pensions so that you don't have to.

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