Final Salary Pension Questions...

kinglewis

The company I work for is allowing existing final salary members to continue with their final salary but no more increases will occur in relation to my salary.

If we wish to continue with the plan increases will be at 2% or rpi whichever is the greater. (which I assume at present is zero growth)

This is obviously of concern and the pension is contributory at 5% so I am wondering if it is worth transferring to the works defined contribution scheme. If I continue to contribute but the fund cannot grow am I just throwing money at a scheme which is just trying to fill a whole?

I understand that cashing in a final salary is normally a massive no no but at age 27 with 9 years service and a fund with no growth is making me think.

Any opinions on this?????

Debt_Free_Chick

If you opt out of the FS scheme you will get the pension you've earned so far, plus RPI increases (capped at 5%) until retirement. You will get this even if you don't pay.

Are you sure you understand what the company is suggesting? It would be very unusual if you had to continue to contribute once pensionable service ended.

jamesd

kinglewis, please double-check how it works. Normally what would happen if a company wanted to stop funding a final salary scheme is that existing members of the final salary scheme would stop contributing to it and its value would increase at RPI until retirement, so that the value remained unchanged after inflation. Their ongoing contributions would go into a new defined contribution scheme.

It doesn't seem to make sense that you'd get the inflation-linked increases that the scheme is required by law to provide if you make no contributions and also have to make contributions, so I can only conclude that there's something wrong with the description somehow.

Andy_L

I think what they are doing is limiting future increases in salary that are pensionable to the higher of rpi or 2% eg if you retired in 10 years you could have ~20% of your final salary that isn't counted for calculating your pension. However, you would get the extra 10 years of service.
Where you to leave it would increase by the lower of rpi or 2.5% (I think 5% is the older legal minimum, although both could be higher if the scheme rules specify higher) but would not get the extra years service.

MrChips

To clarify, I agree with Andy L - this is something that more and more schemes are doing to limit costs. Pensionable service continues to accrue, but increases to pensionable salary are limited. Therefore (barring any further tinkering with the scheme in the future) you would have approximately 40 years of service at age 60, but your final salary for pension purposes may be significantly lower than your actual salary at the time.

You will need to assess what is better value for you - you may be better off leaving the scheme and getting higher increases on your deferred pension and accruing an alternative money purchase pension for future service. It will all depend on views of future RPI, your future salary prospects, the generosity of the alternative DC scheme etc.

Re deferred revaluation, your service to April 2009 will have to revalue (by law) at a minimum of RPI, or 5% pa compound if lower. For service since April 2009 (i.e. a small minority of your current accrued pension) the legal minimum is RPI or 2.5% pa compound if lower.

Therefore the vast majority of your current pension would have to revalue at the higher rate, and it may all revalue at this rate if the Scheme Rules haven't changed to incorporate the new minimum.

kinglewis

Thanks for the replies...

I think Andy L & Mr chips have it right...

The years will still accrue... so i could end up with 2/3 of my current salary + rpi / 2.5% after 40 years service. My concern is that a £15000 salary plus 2% per year may not be worth much in 33 years time.

I am unsure whether contributions will continue or not.. hopefully they won't then I can fund a seperate dc scheme... I will have to double check that.

I am almost sure the growth is rpi or 2% if higher I will need to double check that against your comments that the min is 2.5%.

To clarify this point..legally if inflation is running at say 8%.. the plan will grow at 8%.. but if it falls to say 1%.. the scheme must still provide 2.5% growth?

What is confusing me (these proposals are very early days it hasn't happened yet but it obviously will at some point next yr) is why they are almost selling the idea that we can choose to continue with our final salary pension ( as a fantastic benefit which will not grow in relation to my growing salary) or opt out and join the money purchase scheme.

It seems to me that it would be stupid not to join the DC scheme and leave your FS pension to accrue without contributions.

Why wouldn't they make this an automatic proposal? I suppose they will say that they cannot give advice??

Hope that has made sense!!

Andy_L

kinglewis wrote: »

I am almost sure the growth is rpi or 2% if higher I will need to double check that against your comments that the min is 2.5%.

To clarify this point..legally if inflation is running at say 8%.. the plan will grow at 8%.. but if it falls to say 1%.. the scheme must still provide 2.5% growth?

That 2.5/5% increase referes to defered members (ie you if you leave the scheme). If inflation is 8% the legal minimum increase they must give is 2.5 or 5% (depending on the date as per MrChips post).

From their point of view it makes more sense to limit it to the lower of 2% or RPI for calculating final salary (for active members)as that saves them the most

mark55man

thank you for this thread - very interesting. I had no idea some of these options were available. currently I am looking at my FS scheme ending, with benefits crystallised at current salary and years of service and subject to maximum annual revaluation of RPI, 5%. then move onto a DC scheme with less employee contribution now

jamesd

kinglewis, assuming that is right then there are at least three good reasons for them to encourage staying in the current salary (no longer final salary) scheme:

1. Final salary schemes tend to be a lot better as a deal for older members who are close to retirement.
2. Encouraging people to leave too strongly would potentially be very troublesome if subject to review by a regulator if it turned out not to be to the advantage of people leaving.
3. Final salary schemes are expensive in part because the salary increases, making a high extra payment by an employer necessary. If the salary increases can be limited then a sufficiently high employee contribution might even be enough to reduce scheme deficits, if any.

Money purchase schemes tend to be more likely to be better for younger employees and that's particularly true if the defined benefit scheme is no longer linked to final salary. There's a number called the critical yield that investments must achieve to be expected to match the benefits of the defined benefit scheme. Then the individual employee can consider whether their own tolerance for investment risks makes it more or less likely for them to get that growth of their investments. It's easier for younger investors because compounding has longer to work for them than older ones.

We can't really say which is best because the decision depends too much on the specifics, like how much the company is planning to pay into each scheme, which has a massive effect on the investment growth that is needed.

My personal bias in general is that for a younger employee like you it's likely to be a better idea to use a defined contribution scheme because those are quite easy to take with you as you move from job to job and can give you more control if you are watching and choosing investments. That means that you can more readily adjust investments or contribution levels to match your own targets for retirement income and retirement date. But even so, there are going to be some deals where this flexibility and control just doesn't make sense because of the alternative benefits on offer.

It's also worth remembering that regardless of what the work system does you're perfectly free to have another pension, or a hundred of them, outside work. So you can hedge your bets a bit if you do this in combination with one of the work choices.

If you do go for a defined contribution scheme at work, do try to pay in yourself enough to get all possible matching money that your employer is willing to put in. This is effectively free money and is one of the best deals there is in the pension world.

MikeJones_2

Hi kinglewis,

All excellent responses above from the regulars.

If I might add this. Don't forget too that the defined benefit scheme may provide other additional benefits that ought to be considered such as:

- a spouse's pension on death before retirement
- a spouse's pension on death after retirement
- the possibility that the spouse's/dependants' pension on death after retirement is pre-commutation (i.e. even if you take the maximum cash lump sum this wouldn't reduce the spouse's pension)
- dependants' benefits, such as childrens' (on death before and/or after retirment)
- ill-health provision
- pension escalation (increases to your pension in payment)
- the fact that the sponsoring employer is taking the risk of increased life expectancy (not you)
-the fact that the sponsoring employer is taking the investment risk (notb you)
- potentially, a degree of protection through the Pension Protection Fund if the sponsoring employer fails

Just some extra things to think about when you compare the defined benefit scheme with the money purchase alternative if you proceed to analyse which might be better for your future service.

Given such complexities, a trip to an IFA might be wise.

Food for thought...

Mike

I work in the field of Pension Education and Pension Guidance in the UK. I am a member of the Specialist Pensions Forum as well as being a Voluntary Adviser for The Pensions Advisory Service. I work with scheme members, employers, trustees, scheme administrators and advisers on most things to do with employer sponsored pension schemes. The views expressed by me in this thread are my personal opinions. You should seek professional advice from an appropriately experienced and qualified adviser. I am not an IFA.

kinglewis

I am certainly thinking of seeing an IFA when the full and final details are released. Previously the IFAs I have seen have worked by taking the relevant commission which I assume in this case as giving advice on an employers pension may not be applicable..

What is a resonable hourly / overall rate for this kind of advice or is that impossible to say without all of the detail??

Thanks once again for the replies.