Final Salary V Career Average

HGWmummy73

I know absolutely nothing about pensions except I have always paid into to what the company I work for offers.
However I now have a decision to make for the first time in this space.


I have been in the CARE scheme for 5 years. My company offers the opportunity at 5 years service to join the Final Salary scheme however this means you begin a brand new pension again (you can pay the funds from the CARE one into the FS as an AVC).


I started in the CARE scheme at a salary of 47K and it has gone up yearly. It will continue to do so whilst I am the company, realistically probably 1% per year. I intend to stay with them until I retire as I love my job and the people. (god willing barring redundancy).


Both schemes are defined benefit.


Final salary is pensionable service and my final average pay will be calculated in on Pensionable pay in last 12 months of service. Formula being 1/60 x FAP x PS


CARE is Pensionable pay in EACH year of membership and formula is 1/66 x PP


Should probably say I am 43 as age is usually relevant when considering pensionable service. I also would like to think as I get older - say 60 onwards that I would like to work part time in the hope I will have grandchildren to enjoy!


So in conclusion - what on earth is the right decision. Stay with CARE or move to FS. Am completely lost and anyone who can offer advice or places to help get answers would be appreciated.


Thanks for reading.


HGW :-)


(PS I tried the pensions service, they said get a Financial Advisor).

PensionTech

Usually, final salary is regarded to be more expensive (i.e. more generous) than CARE because inflation is usually assumed to increase more slowly than earnings. The accrual rates you've described, 1/66 for the CARE and 1/60 for the final salary, also indicate that the final salary is being offered on a more generous basis. Would your pension contributions have to increase?

But if everything you've said is correct, a simple spreadsheet calculation would give you the answer.

I've assumed that your salary has gone up by 1% in each of the 5 years to reach the £47,000 it stands at currently, and I've used your assumption that your salary will go up by 1%pa from now on as well. I've also assumed that CPI inflation will be around 1.9% per year - based on the Bank of England's long-term inflation target of 2%, minus 0.1% to account for the fact that CPI revaluation on pension benefits is capped to 2.5%.

On those assumptions, if you changed to FS, your FS pension at age 60 plus your CARE pension from the last five years would come to about £16,200pa. If you stuck with CARE, it would come to about £15,700pa. So it's a pretty close call. But that's relying too heavily on the validity of all the assumptions we've made.

If you really do expect your earnings, on average, to increase more slowly than inflation over the next 17 years, then CARE is usually the best bet. The only reason it doesn't necessarily work out that way for you is that your accrual rate under CARE is worse than under FS.

You also have to think about how likely your scheme is to actually stay open. A defined benefit scheme - particularly a final salary one - that is still accepting contributions is a rare thing indeed. Unless this is public sector (and I don't know of any public sector schemes that allow you to move from CARE to FS), I think it optimistic in the extreme to assume that you'll still be accruing benefits in it by the time you reach age 60.

The accepted wisdom would be to go with FS. These are generally believed to be better than CARE schemes, and in the majority of cases where increases in earnings over a long career outstrip inflation, they are. FS is even more likely to be better than CARE if the accrual rate is higher, as you suggest. And imagine how gutted you'd be if you got a massive payrise five years before retirement (or leaving), but your pension barely saw any benefit from it.

However, nobody here knows exactly how accurate your assessment of your future circumstances, or my guess at future inflation, might be. So although I'm trying to give you an idea of the kind of figures you might be looking at and what you might want to take into account, in the end, we can't tell you whether one option will definitely work out better than another.

Edit: Oh - by the way - if you do move, there's no need to transfer your CARE benefits into an AVC with the FS scheme. I'm guessing that this would require converting it into a "defined contribution" fund. That's usually a bad idea. You can leave it where it is if you want, and it will continue to rise in line with inflation until you retire. That's what I have assumed you would do when running my calcs.

PeacefulWaters

Pay, longer term, tends to rise faster than inflation.

Why do you think this won't happen?

HGWmummy73

Pension Tech - thank you. Definitely given me food for thought & I didn't realise I could leave the CARE one where it is.
Also just realised a typo...CARE is 1/60 not 66. Sorry.


Peaceful Waters - for at least the next 10 years or so I would be very surprised if salary increased more than 1% given the current circumstances of the sector we are in.

LXdaddy

The figures look strange to me if both alternatives give you 1/60th per year. In the CARE alternative you get 1/60 of each individual year's salary but in the FS alternative you get 1/60 of your last year's salary multiplied by the number of years.

So you would compare your final year's salary against the average of all your individual years. Most likely your salary will increase by some percentage each year. Possibly 0% in challenging years but unlikely to be a decrease. So the salary in the last year you work is likely to be the highest - that is certainly higher than the average of every year in your career.

The only way that the final year's salary would be lower is if you reduce your hours and work part time or perhaps take a demotion to a less stressed position in that last year.

To me the FS alternative seems much more likely to pay more. and the comparison doesn't have anything to do with the rate of inflation - only the rate of salary increase.


My employer's DB scheme uses the average of three consecutive years in the last ten years of employment to protect from the potential down shift at the end of the career.

kidmugsy

Which scheme does the senior management tend to belong to?

mania112

It's perhaps oversimplifying, but if your employer offers CARE from Day 1 and FS from Year 6 it goes to show the FS must be a better benefit, as you gain the privilege as a result of your loyalty.

Happier_Me

I think there are other future factors to consider when making this decision.

You say you expect your salary to rise year on year but do you see yourself actively pursuing a promotion in the same sector which would see a bigger pay increase? If so, then the FS scheme would be the way to go as this higher salary would be used to calculate your pension benefits for all years paid into the FS scheme.

Alternatively what is the risk of a restructure resulting in a reduction in pay in future years. I work for Local Government and I have seen a number of people take redundancy or move jobs after a restructure simply to avoid a forced pay cut significantly impacting their future FS benefits.

maxie014

A few people i know have been downgraded in salary towards retirement and had their pension reduced on a final salary,bad really when they spent 35 years on higher pay then some restructuring crap ruins their pension.

hyubh

Happier_Me wrote: »

I work for Local Government and I have seen a number of people take redundancy or move jobs after a restructure simply to avoid a forced pay cut significantly impacting their future FS benefits.

Such people are misinformed, because the LGPS did (and for pre-CARE scheme benefits, still does) have special protections for that sort of thing (http://www.lgps2014.org/content/final-pay). Whether other schemes do or not will dependant on the scheme however.