How pensions work

A pension is a pot of money you build up for later life, with a big advantage over a normal savings account: the government tops up what you pay in through tax relief, and if it is a workplace pension your employer adds money too. You pay in over your working life, it is usually invested so it can grow, and you can start taking it from age 55 (rising to 57 from 2028). The State Pension, paid by the government from State Pension age, is separate and on top.

What a pension is

A pension is money set aside for retirement, held in a pot in your name. Most modern pensions are defined contribution: what you end up with depends on how much goes in and how the investments do, rather than a guaranteed amount. The money is usually invested in things like company shares and bonds, so it can grow over the years, though it can fall in value too.

Two things make a pension different from an ordinary savings account. First, the government adds tax relief on what you pay in. Second, you normally cannot touch it until at least age 55. That long lock-in is the trade-off for the top-ups and the time the money has to grow.

Workplace vs personal pensions

There are two main ways to save into a pension, and you can have both at once.

• A workplace pension is set up by your employer. Most employees are put into one automatically through auto-enrolment, the rule that means employers must enrol eligible staff and pay in. The big draw is the employer money, free money on top of your own.
• A personal pension is one you open yourself, usually with a pension provider, and pay into directly. A self-invested personal pension (SIPP) is a type of personal pension that lets you choose the investments yourself, with more control and a wider choice. There is no employer adding to a personal pension, but you still get tax relief.

Plenty of people use a workplace pension for the employer contributions and a SIPP alongside it for extra saving. To see how regular contributions and growth could build a pot over time, you can try our pension calculator.

How tax relief tops up what you pay in

Tax relief is the government handing back the income tax you already paid on the money you put into a pension. The most common method, used by personal pensions and most workplace schemes, is relief at source: your provider claims the basic-rate tax back from HMRC and adds it to your pot for you.

In practice your contribution is grossed up by 25%. Pay in £80 and the provider adds £20, so £100 lands in the pot. That £20 is the 20% basic-rate relief: £20 is 20% of the £100 gross figure, which works out as 25% on top of your £80. The maths is the same whatever the amount.

Here is the part people miss. Basic-rate relief lands in the pot automatically. If you pay tax at 40% or 45%, you only get the basic 20% in the pot to start with; the further relief is claimed through your Self Assessment tax return, and that money comes back to you directly, not into the pension. So a higher-rate taxpayer can effectively get £100 into a pot for a net cost of around £60 once the extra relief is claimed, but the £40 saving is in their own pocket, not the pension.

There is a different route called salary sacrifice, where you agree to take a lower salary and your employer pays the difference straight into your pension, which can save National Insurance too. We cover the mechanics in salary sacrifice explained.

Employer contributions

With a workplace pension, your employer pays in alongside you, and this is often the most valuable part. Under auto-enrolment the minimum total going in is 8% of your qualifying earnings, and your employer must pay at least 3% of that. You make up the rest, which usually means 4% from you with 1% added as tax relief.

Qualifying earnings are a band of your pay, from £6,240 to £50,270 a year in 2026/27, so the percentages apply to earnings inside that band rather than your whole salary. Many employers are more generous than the minimum, and some will match extra contributions you make, so it is worth checking what yours offers. Turning down the employer contribution by opting out is usually turning down free money.

The annual allowance

The annual allowance is the most you can pay into pensions in a tax year while still getting tax relief. For 2026/27 it is £60,000, or 100% of your earnings if that is lower. The allowance counts everything that goes in: your contributions, the tax relief on top, and anything your employer adds.

Most people pay in nowhere near £60,000, so the allowance is not a worry. If you do go over it you can face a tax charge that claws back the relief. Very high earners can have a reduced allowance, and there are rules that let you carry forward unused allowance from earlier years, but those are edge cases for most savers.

How a pot grows over time

Your pension pot grows in three ways: the money you pay in, the tax relief and employer money on top, and the investment growth on the lot. Because the pot is invested, any growth earns growth of its own the following year, and so on. That is compounding, and over decades it does much of the heavy lifting.

Starting early matters more than the amount, because the money has more years to compound. The same is true of any invested money, which is why a small monthly contribution in your twenties can outweigh a much larger one in your fifties. We explain the snowball effect in how compound interest works.

Two honest caveats. Growth is not guaranteed: investments can fall as well as rise, and a projection assumes a steady return that real markets do not deliver smoothly. And inflation eats into what the pot is worth in today's money. Any pension projection is an estimate to help you plan, not a promise of what you will have.

When you can access it

You can normally start taking money from a workplace or personal pension at age 55. From 6 April 2028 that minimum age rises to 57. You do not have to take it then; many people leave it invested for longer.

When you do access it, you can usually take 25% of the pot tax free, with the rest taxed as income when you draw it. How you take the money, as a flexible income, an annuity that pays a set amount for life, or lump sums, is a decision in its own right, and one where it is worth getting guidance or advice.

The State Pension

The State Pension is separate from any workplace or personal pension. It is paid by the government once you reach State Pension age, which is currently 66 and is set to rise further in the years ahead. The full new State Pension is £241.30 a week in 2026/27, though what you get depends on your National Insurance record, usually built up over about 35 qualifying years.

For most people the State Pension is a foundation rather than the whole plan, which is why a workplace or personal pension on top matters. Money you take from your own pension also counts as income on top of your take-home pay, so it is worth understanding how the two fit together. You can check your own State Pension forecast on gov.uk.

Common questions

How does pension tax relief work?

On a personal contribution, your provider claims back the 20% basic-rate tax you already paid and adds it to your pot. That is relief at source: pay in £80 and the provider adds £20, so £100 lands. If you pay 40% or 45% income tax you can claim the extra relief through Self Assessment, but that money goes back to you, not into the pot.

Is there a yearly limit on pension contributions?

You get tax relief on contributions up to the annual allowance, which is £60,000 in 2026/27, or 100% of your earnings if that is lower. The allowance counts everything paid in: your contributions, the tax relief and anything your employer adds. Very high earners can have a reduced allowance.

What is the difference between a workplace pension and a SIPP?

A workplace pension is set up by your employer, who also pays in. A self-invested personal pension (SIPP) is one you open yourself and choose the investments in, with no employer adding to it. You can hold both. A SIPP gives you more control; a workplace pension gives you free money from your employer.

Does my employer have to pay into my pension?

If you are automatically enrolled, yes. Under auto-enrolment the total going in must be at least 8% of your qualifying earnings, and your employer must pay at least 3% of that. You make up the rest. Some employers pay more than the minimum.

When can I take money out of my pension?

For a workplace or personal pension the normal minimum age is 55. From 6 April 2028 that rises to 57. The State Pension is separate and is paid from State Pension age, currently 66. You can usually take 25% of a pension pot tax free, with the rest taxed as income.

Is the money in my pension guaranteed to grow?

No. Most pensions are invested, so the value can go down as well as up and returns are not guaranteed. Over a long period investments have tended to grow, and contributions plus tax relief and any employer money add up, but a projection is an estimate, not a promise.

Is what I read here financial advice?

No. This is general information to help you understand how pensions work, not financial advice. Figures are estimates for the 2026/27 tax year. For your own situation, check with your pension provider, HMRC or a qualified financial adviser.

About this article

Written by the calcd team. We build UK money calculators and explain the numbers behind them in plain English. We checked the figures here against gov.uk and HMRC for the statutory rules, the annual allowance, the auto-enrolment minimums, the access ages and the State Pension, and corroborated the tax relief mechanics against MoneyHelper. Rates are for the 2026/27 tax year. The figures are estimates to help you plan and general information, not financial advice, and returns from an invested pension are not guaranteed. For your own situation, confirm with your pension provider, HMRC or a qualified financial adviser. Last updated June 2026.