Defined Benefit Cash Balance vs defined contribution pension

Cottage_Economy

My DH has a Royal Mail pension and I am finally starting to get my head around the proposed changes to it in preparation for section B and C of the RMPP closing at the end of March.

Can I check my understanding of this and get your thoughts on building the maximum pension possible?

I understand that there are two options on the table: a Defined Benefit Cash Balance scheme or a Defined Contribution scheme.

Defined Benefit Cash Balance scheme
I understand that a Defined Benefit Cash Balance scheme means DH would get a guaranteed minimum lump sum (not yet specified what the minimum will be) on retirement. It has a higher RM company contribution of 12.6% of pay while he continues to pay his usual amount (6%). There are discretionary increases dependent on investment returns. If the lump sum has not built up enough to cover the required 25% when he retires then the outstanding sum would come from his Final Salary/Career Salary Defined Benefit pension fund. Anything left over in the Cash Balance 'account' has to be used to buy an annuity (I think?) so presumably if he decides not to take the lump sum he can arrange an annuity for the whole amount (no information available on this yet).

Defined Contribution scheme
DH pays in his usual 6% and the company pay in 10%. Presumably he is expected to buy an annuity when he retires (or can he transfer out?). No idea whether there will be a set of 'lifestyle' or 'risk profile' type fund options to invest the money, as there are with the AVCs.


DH is 56, has 13 years in the RM final salary scheme and a further 9 years in the Career Salary Defined Benefit scheme. He also has a SIPP with about £12k in it, which we add to, and around £4000 of RM shares (current value). We don't want to take the 25% lump sum but build the pension to its maximum possible. He was going to retire at 60 but we decided to buy a smallholding and take on a larger mortgage last year, so he will work on although we might consider part-time after 60 if finances allow.

I've never come across the Cash Balance Scheme before so have very little idea of the sorts of advantages and disadvantages it may have over a Defined Contribution. The illustrations sent to us are based on examples of people who are younger than my husband, with 30 years pensionable service and earning at least £8k more (so more like a manager than a postie), so while the figures look good I am concerned they may have been manipulated to look that way and it is a poor option for my husband.

Can I get your thoughts please on the best way to tackle this change (if it goes ahead) to build the maximum pension possible?

Cottage_Economy

Hmmmm....tumbleweed! Oh well, I'll carry on and put down some thoughts anyway, as it is helpful for me to be able to write things down.

I did some figures this morning that seemed to suggest that cash balance would be better for him (but only just) as he is close to retirement, and there are still a lot of unanswered questions.

If he went at 60, the higher contributions from RM + targeted returns of 2% above CPI (I took an average CPI of 1.35% over the last five years) would bring back a pot of about £15,500. I haven't factored in any discretionary bonuses and I do not know what the 'promised' guaranteed minimum amount would be. It could be higher than £15,500.

A defined contribution pension with the lower contributions from RM would bring back about £13,250 working on 5% growth (taking into account inflation) but obviously this could be much lower.

If he retires at 65, the figures come out at about £38,190 vs £33,900.

One of the things I'm not entirely happy with is if he is forced to buy an annuity with any outstanding amount of the cash balance, which to be honest isn't likely to be a large amount given the short timescales left to build it up. We would prefer to have the cash, and pay tax on the remaining, as the few piddling quid a month that an annuity would bring in would be more useful to us for upgrading the house if required.

LHW99

One thought is that amounts of £13000 - £15000 could come under the "Triviality" rules. If these were regarded as separate pots, then in theory they may be payable after age 55 (presumably subject to tax on 75%).
However there are things like whether the scheme allows it and if the pot would be linked in some way to the rest of the pensions so that everything has to be taken at the same time.
There will be someone along who has a better knowledge on this and can correct me if I'm wrong.

xylophone

https://www.ftadviser.com/pensions/2017/07/14/royal-mail-offers-staff-new-defined-benefit-scheme/

may be worth a look.

Presumably the union will be offering assistance?

dasherman

As an employee of Royal Mail myself I will also be affected by the closure to future accrual of the RMPP from 1st April 2018. I have noticed you seem to be reading some of the information given out incorrectly. Here are a couple of things you need to be aware of:

1. The proposed employer contribution for current employees in the RMPP is 13.6% of pensionable pay for both the Cash Balance and the DC alternative.
2. The 10% rate only applies to those posties in the current Royal Mail Defined Contribution Plan.

With both the Cash Balance & the DC scheme he will just be building up a pot of money with which he’ll have a number of different options:

Cash Balance

1. Use to fund the tax free lump sum at retirement and with anything left over he could transfer out to buy an annuity or drawdown.
2. Transfer out independently of his main scheme benefits to buy an annuity or drawdown.
3. His pot will be worth a minimum amount based on total contributions with the addition of investment growth of which CPI+2% is the aim. But currently no info on where money will be invested.
4. Normal retirement age of 65, so possible reductions if taken early.
5. The ability to transfer to the DC option if desired.

Defined Contribution

Points 1 & 2 as above.
1. I would assume investment choice will be similar to the current AVC’s which has 6 options or the current RMDCP which has 11 options, plus both have a ‘lifestyle’ choice. But again no firm info has been forthcoming.
2. No normal retirement age other than the legal minimum, currently 55.
3. Cannot transfer to CB.

So as the proposed contribution levels are the same, the real choice you have is an investment one. Do you want the certainty of Cash Balance or want to try your luck with DC.

There's more info on the schemes here: https://www.myroyalmail.com/pensions/rm-pension-plan

Bear in mind that things could still change pending the current ongoing discussions between Royal Mail and the CWU.

kidmugsy

dasherman wrote: »

Cash Balance ....

5. The ability to transfer to the DC option if desired.

Defined Contribution...

3. Cannot transfer to CB.

If it were me, I'd note that transfer can happen in only one direction and therefore be tempted to start with the Cash Balance option because it's the one I can change if I change my mind. (Unless perhaps there is a salutary stock market crash by April.)

Cottage_Economy

xylophone wrote: »

https://www.ftadviser.com/pensions/2017/07/14/royal-mail-offers-staff-new-defined-benefit-scheme/

may be worth a look.

Presumably the union will be offering assistance?

Yes, in the form of a strike and therefore loss of two days pay All kidding aside, one of the proposals the union put forward was for Royal Mail to pool all the money and start investing in equities, because at the moment the pension fund is in mostly gilts and bonds, but that was rebuffed and the Cash Balance proposal put forward.

My concern is that given its track record, the cash balance option will be poorly invested but I don't have the timescale to do anything significant with a DC pension unless I take much bigger risks than I am comfortable with.

Cottage_Economy

dasherman wrote: »

As an employee of Royal Mail myself I will also be affected by the closure to future accrual of the RMPP from 1st April 2018. I have noticed you seem to be reading some of the information given out incorrectly. Here are a couple of things you need to be aware of:

1. The proposed employer contribution for current employees in the RMPP is 13.6% of pensionable pay for both the Cash Balance and the DC alternative.
2. The 10% rate only applies to those posties in the current Royal Mail Defined Contribution Plan.

With both the Cash Balance & the DC scheme he will just be building up a pot of money with which he’ll have a number of different options:

Cash Balance

1. Use to fund the tax free lump sum at retirement and with anything left over he could transfer out to buy an annuity or drawdown.
2. Transfer out independently of his main scheme benefits to buy an annuity or drawdown.
3. His pot will be worth a minimum amount based on total contributions with the addition of investment growth of which CPI+2% is the aim. But currently no info on where money will be invested.
4. Normal retirement age of 65, so possible reductions if taken early.
5. The ability to transfer to the DC option if desired.

Defined Contribution

Points 1 & 2 as above.
1. I would assume investment choice will be similar to the current AVC’s which has 6 options or the current RMDCP which has 11 options, plus both have a ‘lifestyle’ choice. But again no firm info has been forthcoming.
2. No normal retirement age other than the legal minimum, currently 55.
3. Cannot transfer to CB.

So as the proposed contribution levels are the same, the real choice you have is an investment one. Do you want the certainty of Cash Balance or want to try your luck with DC.

There's more info on the schemes here: https://www.myroyalmail.com/pensions/rm-pension-plan

Bear in mind that things could still change pending the current ongoing discussions between Royal Mail and the CWU.

Thanks for alerting me to the inaccuracies dasherman. Much appreciated. Some of your figures were different to the document I was working from so I started asking my DH questions and have discovered an additional document that he glanced at, chucked on a 'pile of stuff' and didn't tell me he had. It is the latest proposed illustrative retirement benefits specifically for him. I could kill him sometimes :mad::D

Apart from noting that my husband will lose a fifth of his NRA 65 pension (no lump sum taken) after the change, I was surprised to see the maximum tax free lump sum under the cash balance scheme for him at NRA 60 would be £37,465. That's vastly different from the £15,500 I worked out so presumably the 'minimum guaranteed lump sum' is in there? The assumed CPI used was 1.5, so slightly higher than what I was using.

It's the lack of firm information that's driving me crazy...I mean, I appreciate that you often have to make decisions with incomplete information but Royal Mail makes it an art form and fiddles around the edges of things all the time. It's like death by a thousand cuts - every month, every year tiny, tiny, tiny changes here there and everywhere that slide past unchallenged but add to up to a lot of money and employment benefits in the end. DH has to watch his payslip like a hawk and every 'casually' mentioned change by a manager has to be examined carefully to see if DH will be disadvantaged. It's exhausting having to have your defences up all the time.

It is not beyond the realms of possibility that all of this ambiguity will be capitalised on in the future by it and DH's pension will slide back further.

Cottage_Economy

I'm now facing the uncomfortable thought of having to do something more adventurous with the savings and investments we have to try and plug the predicted £2k annual income shortfall caused by the switch to the new pension scheme.

He has some RM shares, so considering whether to sell them, take the tax and NI hit and put them in his SIPP pension now rather than wait another couple of years and get them tax and NI free. We'd get tax back so just the NI at 12%.

dasherman

The illustrations are poorly done in my opinion and make certain assumptions that may not turn out to be the case. Personally I think they need to be taken with a pinch of salt and instead base your calculations on how much main scheme benefits he’s likely to accrue up to 31st April 2018, and then work out roughly what he might get from the Cash Balance/DC contributions plus possible growth. Basically what you did in your earlier post.

I agree, Royal Mail are terrible at communicating simple things to their employees and are forever trying to introduce things by stealth. It’s the case on a day to day basis in mine and probably other sorting offices around the country, and it’s also the case with pensions.

Cottage_Economy

There's a pinch of salt and then there's away with the fairies, dasherman!

I cannot fathom how they got £37k for NRA 60. That's only three years contributions for DH? What on earth got stuck in that calculation to go from about £15,500 (and that's optimistic) to £37k?

I've not got that wrong have I?

The illustration stated around £47k for the NRA 65 figure, I came out at about £38k, so approaching the ballpark.