Pension contributions

Contributing to a pension will soon be something you need to opt out of instead of opt into. At the moment, those who want to pay into a pension have to actively do something about it – whether it's through their own personal pension or through a company pension scheme.

However, over the next few years, all eligible workers will have to be auto-enrolled into a qualifying pension scheme instead.

The employer will be able to choose which pension scheme it uses, so it can be a pre-existing company scheme or a new scheme which the employer decides to use for this purpose. However, employers will also have the option of using the new National Employment Savings Trust (NEST) scheme. This is being introduced so that all employers have a pension scheme to offer their employees.

Each qualifying scheme must meet minimum standards regarding the benefits it provides or the amount of contributions paid in.

For employees auto-enrolled into a defined contribution or NEST scheme, the minimum level of contribution must be 8% of qualifying earnings (between £5,035 and £33,540), and of this, employers must pay at least 3%. If this minimum of 3% is paid, you as the employee will have to contribute 4%, while a further 1% is paid as tax relief by the government.

However, these minimum contribution levels will be phased in between October 2012 and October 2017 as follows:

• October 2012 to September 2016 – total minimum of 2% of qualifying earnings with at least 1% from the employer
• October 2016 to September 2017 – total minimum of 5% of qualifying earnings, with at least 2% from the employer
• From October 2018, total minimum of 8% of qualifying earnings, with at least 3% from the employer.

The requirement for auto-enrolment is also being staged so that larger employers (those that employ more than 120,000 people) will need to have started to introduce the scheme by October 2012, while others will follow suit over the next few years - employers with fewer than 30 employees have until January 2016 to start the process.

You will be able to opt out of auto-enrolment if you wish to but if you do, you won't benefit from any of the contributions from your employer.

Pension contribution allowances

The maximum amount you can pay into a pension – and on which you can receive tax relief – is 100% of your earnings or £3,600, whichever is greater.

This is capped at an annual allowance set by HM Revenue & Customs (HMRC). For the tax year 2011/12, this allowance is £50,000, inclusive of your own contribution and any other amounts (including those from your employer) that are paid into the scheme.

That said, any unused annual allowances from the three preceding tax years can sometimes be carried forward to the current year.

However, generally, if you pay in more than the annual allowance, there will be no tax relief on the excess.

The earlier you start contributing to a pension, the better off you will be in retirement. That's because you'll benefit from compound interest. This is where you earn interest on your interest.

For example, when you start contributing to your pension, you will earn interest on that money. The following year you will earn interest on both the amount initially invested as well as the interest from the previous year.  In the third year, you'll earn interest on the amount invested as well as interest from the previous two years – and so it goes on.

So the earlier you can start contributing, the more you will have to live off in retirement. Even if your retirement is years away and you can only make a small contribution, it's well worth doing so.