Is this any good?

jono_greenwood

Just done some working out on the calculator

For staying in the scheme 1 year and then retiring for someone earning £50kpa

Core contribution £2500 - benefit £5906
Enhanced Contribution £3500 - benefit £8000

for someone staying in 30 years then retiring

Core £2500 pa - benefit £330695 or £11023 for each year
Enhanced £3500 pa - benefit £399850 or £13328 for each year

of course the contributions are salary sacrifice so it doesn't actually cost that much to make the contributions

bigmatt1174

The benefits accrue at 16% of salary to me is as follows: If you are earning £30k then your pot will be worth 16% of £30k each year, i.e. £30,000 x 16% = £4800.

The defined cash benefit is just that - it defines how much cash benefit you will get and therfore the size of your pension pot - the only thing you cannot control is what the annuity rate will be.

Not sure on the other bits, i.e. 2.5% and also looking at what I have said above re this being 16% of salary then why have two different levels if you get the same benefit, so it is a bit confusing!

jamesd

Those numbers help to clarify it. The one year numbers show that the value in the pot is 15.962% - close enough to 16% - of the £37,000 banded salary at the core level and 16% of the whole salary at the enhanced level. So that's where the 16% comes from. That's also the general way I expected it to work so your next step is finding out if you can transfer the pot out from time to time.

I think that they aren't going to let you transfer it out at the specified value. They are probably relying on the investment growth over the years to greatly reduce the cost to them.

jono_greenwood

OK so it is essentially money for nothing I contribute 7% of my gross salary and they give me 16% + 2.5% a year interest. If I can take it out and put it into my stakeholder thats good, if not its probably still worth doing as its a 9% pay increase.

jamesd

Probably not worth doing it at your age if you can't transfer it. The problem is the investment growth rate. Over the last hundred or so years the UK stock market grew by an average of 5.2% a year plus inflation, about 9% a year total. You're getting just 2.5% instead of that 9%. So you're losing out on about 6.5% growth a year on average, but starting out at a higher level.

Say you pay in on year and it's 20 years before retirement. In the work scheme that year's money increases in value to 1.639 times the starting value over those 20 years. In a scheme outside work that got 9% instead it'd increase to 5.604 times the initial value. But the starting values are different. In the work scheme you'd start at 16% of salary (enhanced version) and end up with 16 x 1.639 = 26.224% of that year's salary. Outside the work scheme you'd start at about 7% less the NI gain from salary sacrifice, so about 6.9%. 6.9% of salary x 5.604 = 38.64% of salary. So for money paid in 20 years from retirement you'd probably be better off in your own scheme instead. even though that loses the employer contribution you're still better off with 38.64% of salary than 26.224%.

Now for money paid in 30 years from retirement. The 2.5% work increase takes it to 16% x 2.098 = 33.568% of salary. The outside one takes it to 6.9% x 12.268 = 91.549% of salary. Not quite three times as much money from using your own pension instead of the work one.

Moving closer to retirement, at 15 years to go the work one ends up at 16% x 1.448 = 23.168% of salary. The non-work one ends up at 6.9% x 3.642 = 25.123% of salary.

That's close enough to the break even point: for money paid in fifteen or less years from retirement this scheme is likely to be a good deal. For money paid in more than that before retirement it's likely to be a deal that changes from less good to bad then very bad as the time until retirement increases.

I tend to wonder whether scheme administrators think that none of their employees who aren't close to retirement can run the numbers and work out just how bad a deal the scheme is for the younger employees.

In those calculations I've ignored the fees associated with the non-work investment and ignored the high chance that you'd use lots of non-UK investment and get better results than the UK. Essentially assuming that the two either cancel each other out or leave you ahead. For rough calculations like this you can put 1.025 or 1.09 into Windows calculator and use the x^y button then type in the number of years to go to get the increase in value for that year's money.

kidmugsy

That's an enlightening calculation, jamesd, but it does turn on the assumption that his stakeholder can earn "5.2% a year plus inflation".

If the markets are overvalued at the moment, that's unlikely (and if undervalued, much likelier). The only useful guide I know to guessing whether the share markets are good value are the writings of Andrew Smithers. http://www.smithers.co.uk/about.php

kidmugsy

Here's what Smithers has to say on equities in the US:
"Both q and CAPE include data for the year ending 30th June, 2012. At that date the S&P 500 was at 1362 and US non-financials were overvalued by 43% according to q and quoted shares, including financials, were overvalued by 48% according to CAPE."

So he thinks US equities were poor value at 30th June. How confident does that make you that UK equities are good value?

xylophone

It's a DC/salary sacrifice "cash balance scheme"?
http://www.annuity-rates.org/what-should-you-do-when-your-final-salary-scheme-closes-403/

Why should his stakeholder do any better?

jamesd

I think that current values are far from being the whole picture for someone who is perhaps 35 years from retirement. I also think that looking at non-US investments is a good idea at the moment. I don't think that they are in the sort of bubble territory that gilts are in but they do seem to be towards the higher part of their historic value range.

xylophone wrote: »

Why should his stakeholder do any better?

Because it can benefit from three decades plus of investment growth and I've illustrated how horrendously bad the work scheme is compared to the sort of growth that might reasonably be expected from a range of international investments. For those who are more than fifteen or so years from retirement. For those closer it's decent and gradually becomes excellent as they get closer.

Linton

I disagree with James argument on 3 counts:

1) In my view working on the basis of a 9% annual return is dangerously optimistic, certainly for the level of expertise of most of the scheme members. My retirement plans have been on the basis of a return of 1% above inflation - hopefully wildly pessimistic but plenty of leeway for the occasional large scale collapse.

2) We still dont know what happens if you leave the scheme early. This is key. If for example many people change employers every 10 years, and the 16% accruel rated pot can be taken out in full then being a member of the scheme is obviously much more advantageous then making other arrangements.

3) I fear most employees reading James argument would conclude that the pension is bad value and so would not take part. They would forget the bit about taking out a private pension.