CARE pension vs Shares

andy013

Hey, I posted in another thread last week about the pension options available through my employer. A CARE scheme is one option. If I understand correctly, I contribute 5% of my annual salary and then when I retire I get 1.5% of my annual salary, every year.

People seemed to suggest that this was a good pension.


However, here are some quick calculations:

If I assume an annual salary of £10,000, a 5% contribution from me would be £500. This would then lead me to get £150 every year I'm retired.

If I were to put £500 into an index fund and assume 6% interest over 40 years until my retirement, then I would have roughly £4850

That would mean that in the CARE scheme I would need to live for at least 32 years in retirement to equal the index fund investment returns!


Am I doing something wrong in these calculations, or is it just that these schemes are generally not as good for people in their 20s?

taking_stock

the key thing your calculations are missing is inflation. in the CARE scheme your preserved benefit is uprated by inflation every year and in a typical fund or ISA, the inflation would reduce your real interest down (to something lower than 6%) every year.

even if inflation were to average 2.5%, the net result over 32 years is enormous - more than doubling the CARE amount and halving the real return in a fund.

CLAPTON

in addition to the enormous effect inflation has on the value of the pension, you might want to note that the cost of your pension contribution is actual net of tax so you only actually pay 80% of 500 i.e. 400

andy013

Some good points. However, as far as I know the pension scheme only matches inflation up to 2.5%, so it could actually lose value over a 40 year period as well. Assuming it rises by 2.5% every year then I would need to be alive for 10 years before it beat the index fund.

Linton

andy013 wrote: »

Some good points. However, as far as I know the pension scheme only matches inflation up to 2.5%, so it could actually lose value over a 40 year period as well. Assuming it rises by 2.5% every year then I would need to be alive for 10 years before it beat the index fund.

Which you almost certainly will. 20 years after retirement is closer to the average.

taking_stock

andy013 wrote: »

Some good points. However, as far as I know the pension scheme only matches inflation up to 2.5%, so it could actually lose value over a 40 year period as well. Assuming it rises by 2.5% every year then I would need to be alive for 10 years before it beat the index fund.

yep, great isn't it - you're expected to live much longer than that. also, you should factor in the tax relief mentioned by clapton. if you're still not convinced that's a good deal then maybe you were expecting magic beans...

andy013

lol, maybe I was expecting magic beans...the posters in the other thread made it sound like a total no brainer, I guess I expected a bigger difference.

By the time I reach it the retirement age will probably be 68-70. Average life expectancy for men where I live is 71. Not many people in my family have lived beyond 80.

Linton

andy013 wrote: »

lol, maybe I was expecting magic beans...the posters in the other thread made it sound like a total no brainer, I guess I expected a bigger difference.

By the time I reach it the retirement age will probably be 68-70. Average life expectancy for men where I live is 71.

But this is for men who have been working in presumably hard conditions and smoking for the past 50 years. The latest predictions are much higher. For a 25 year old now its around 90 (from the Government Actuary tables).

Also of course your 6% interest figure isnt guaranteed, your pension is. Guarantees are expensive.

CLAPTON

how reasonable is your assumption of 6% plus inflation per annum over the next 40 years... pretty impossible I would think