Teachers Pension Dilemma

Andy_L

hugheskevi wrote: »

That was based on investment returns of something like 6% p/a, calculating what the DB benefit would be for a particular career path, using market annuity rates to calculate the pot size needed to buy that pension, then working back using the career/salary path to calculate the required contribution rate.

As a slight aside, how did you come up for a value for a CPI annuity? Some sort of fraction of an RPI one?

BobQ

Snappy1983 wrote: »

My dilemma is that I'm not sure that at this moment in time I can really afford to have roughly £150 taken from my wages in pension contributions (as with a mortgage, young daughter in full-time childcare and another baby on the way, finances are tight as it is), but I don't want to have a significant adverse effect on my pension when I do retire.

Any advice gratefully received!

This is not a dilemma, its a stupid way thinking about the matter.

Assuming you remain a teacher how much do you think you might have to pay to recoup the impact of the decision you are contemplating. You gain your pension contributions for a year or two and lose 3 times as much as an employer contribution. In say 15 years will you buy added pension? Have you any idea how much that would cost? It will probably be much more than the combined employer/employee contributions you failed to benefit from. Do you even know that you will have the option to buy added pension on the same terms as is available now? Do you even know that there will be a public funded eductaion system?

hugheskevi

As a slight aside, how did you come up for a value for a CPI annuity? Some sort of fraction of an RPI one?

Numbers I mentioned earlier in the thread were done before the CPI change (although most private sector DB schemes remain linked to RPI for indexation).

It is a problem getting market-based CPI figures. Not only are there no CPI-linked annuities, last time I looked there wasn't any significant swap market to get pricing info from.

Hence the best estimate of a truly market-based CPI annuity is simply the RPI rate, as there is no way of hedging the RPI-CPI gap, and so the CPI annuity has to be based on RPI linked gilts.

To calculate a notional CPI annuity rate drawing on market values as closely as possible, I calculate cashflows under RPI and CPI uprating, assuming a 1% gap between RPI and CPI (less than the OBR forecast the gap to be, more than the historic average - if there are caps on indexation, eg, inflation capped at 5%, that would also change things, and I would use stochastic modelling or historic data to get the appropriate difference), and discount that back to get a Net Present Value of the two cashflows.

Then apply the ratio of the net present value of the two cashflows to the RPI annuity rate to calculate what a market-based CPI annuity should be, if a competitive market were to exist.

The result is very sensitive to the assumed gap between RPI and CPI, less sensitive to other assumptions.

With a 1% RPI/CPI gap, a 10 to 15% difference to the RPI rate seems about right (e.g, if an RPI linked annuity is 2.7%, a CPI one might be about 2.97% to 3.105%).

jackyann

I too, cannot number crunch, and neither do I know your exact T&Cs, and you need to look at those carefully.
What I can tell you is this: 33 years ago, we were in a similar position, and my husband was also obliged to pay a hefty insurance sum every month to cover his work should he become ill.
I know it sounds glib from this distance, but we paid out, in insurance & pension contributions, almost half of our income. We then simply lived our lives according to the money we had (and yea, mortgages were cheaper).
This did not make us paupers, but we did have to be careful.
If you mean, very seriously, that your children would be badly disadvantaged, then look at what else you can cut back, and only stop the pension as a last resort.
If however, you mean that you will be living a step or so down with regard to your lifestyle, then without doubt, keep the public service pension.
Our children were not disadvantaged by learning to be careful with money. To be clear about our lifestyle then: we had a camping holiday every year, and they had other "holidays" visiting family, their clothes, bikes etc. were handed down in the family. I could afford to send them to swimming lessons and to Woodcraft Folk. We took advantage of free or cheap community concerts & events, and usually managed a theatre trip once a year.
We are now, thanks to our pensions, comfortable enough to help them out when needed, and they don't need to worry about us.

I know this is a different generation - computers & electronic games were in their infancy back then, we just thought they were "too expensive" and most kids didn't have them anyway. I would wonder about consulting family to see if they could club together to buy major things for the kids if you can't afford them.

I don't know if this is too distant to be helpful, but just wanted to share our experience.

real1314

hugheskevi wrote: »

I've done calculations such as this in the past.

The calculations are very sensitive to how long an individual remains employed, what their salary increases are, and what you assume about investment returns.

Using reasonable assumptions, at the bottom end, a young person who only stays for a few years needs a contribution rate only a bit above 20% to fund their pension (combined - both employer and employee contributions), whereas at the upper end (long-stayer, with decent salary escalation) you are talking more like 40%. For everyone in-between, 30% is about right, perhaps even a bit low.

That was based on investment returns of something like 6% p/a, calculating what the DB benefit would be for a particular career path, using market annuity rates to calculate the pot size needed to buy that pension, then working back using the career/salary path to calculate the required contribution rate.

In particular, I'd argue the public service pension contribution rates, which are usually reported as being about 25% to provide a CPI linked pension from age 60, look quite optimistic.

Is the 6% pa above inflation, i.e assuming 0% inflation? Or does it include inflation?

hugheskevi

Is the 6% pa above inflation, i.e assuming 0% inflation? Or does it include inflation?

Including inflation.

The whole 'correct' rate to assume is fraught with difficulty, exacerbated by the low gilt yields we see now. A 6% rate of return for a DB scheme might be rather optimistic if they have a decent amount of gilts as many do. Against that, for an individual with a typical DC-default type investments, 6% is pretty normal. I tried to set it all up to be as close to a 'what would you have to put into a DC pension to replicate DB benefits' question as I could, varying individual characteristics (years of work, salary, etc).

As an aside, inflation makes private sector pension calculations more interesting, as they often have caps (commonly 5%, also 2.5%) and sometimes pre-1997 accruals might only have discretionary increases. So in the event of high inflation, the real value of private sector liabilities should fall.