Occupational Pensions

What are occupational pension schemes'?

Occupational pension schemes are schemes offered by employers. So, if you're lucky enough when you start a job that your employer offers you a scheme, it can often be a good idea to join one because it may be what's called a final salary scheme. That basically means there's no risk to your pension simply based on how long you work for that company for. The other option is what is called a money purchase scheme, or defined benefit. That basically means that the employer may put some money into the pension for you. Often, you'll match that with some contribution yourself. That would be invested and built up into, hopefully, a nice big pot when you retire.

How is an occupational pension calculated?

There are two types of occupational pensions, there's final salary and what's called money purchase. Starting with final salary the pension is basically based on how many years you worked for that company. So a common scheme is what is called a sixtieth scheme. For every year you work for them you get one sixtieth of your final salary in the pension. So if you work for thirty years that is thirty sixtieths, that is one half, you get half of your final salary, retirement salary as an income. Now money purchase is a little different. That is based on how much is paid in at the offset. So the employer might put some money in for you and you typically would put some in yourself, that gets invested and hopefully when you retire that's grown into a nice big investment pot and that can then be used to by an income in retirement.

What is defined benefit or 'final salary' pension?

Whereas with some pensions schemes the employer puts some money in and that you entirely invest yourself, which is the subject to the vagaries of stock markets. For example, the investment can go down as well as up. A defined benefit pension means you know exactly what you're going to get when you get to retirement. Another name for this is a final salary pension. So very simply, you work for a company and they give you a fraction of your final retirement salary as a pension income for every year you work, typically maybe 1/60th. So if you work for a company for say 30 years, you'll get 30/60ths, i.e. 1/2, of your final retirement salary as a pension income.

What is a defined contribution' or money purchase' scheme?

Defined contribution schemes are also called money purchase schemes, and basically mean that the employer will often put some money into a pension pot for you. It's quite common for you to either match that or put in more yourself. That money gets invested, so there is some risk involved. It would typically be invested, maybe in stock markets in the early days, but possibly go into safer investments just before you retire. And when you do retire, that money has hopefully grown into a nice big pension pot, and the money's used to buy an income for life, often what's called an annuity, when you retire.

What is a career-average salary scheme?

Most of the salary schemes offered by many companies struggle because they are very expensive schemes to run. When the stock market falls it affects these companies pension funds, in turn resulting in a deficit. Career-averaging is a way for these companies to cut cost by fixing an average pension scheme over your career rather than evaluating the pension on the salary that you get when you retire. Even though you get a low pension at the end, this scheme is a trustworthy one.

What is a cash-balancing scheme?

Cash balancing schemes aren't particularly common, but in effect they are a combination of defined benefit and defined contribution. And what that means in English is that when you put money into the pension, whereas normally on defined contribution you're subject to the variances of stock markets, there's quite a lot of risk involved, a cash balancing scheme tries to actually reduce that risk. Sometimes it guarantees that the investment can't fall below a certain level. So it's really trying to smooth returns, trying to make it a safer option and a straight forward, defined contribution money purchase scheme, but it's not as expensive for companies to offer as a final salary scheme.

What is a lump-sum benefit?

When you eventually retire, you can normally take a chunk of your pension, typically 25%, as a tax free lump sum. So this is a really good way to kick start retirement, because you can use that money to maybe do up the house or go on a big holiday, and then have the rest of the pension paid as an income for the rest of your life.

What is a Free Standing Additional Voluntary Contribution FSAVC?

When you have an occupational pension scheme, often you might decide that you actually want to put in more money to try and boost retirement income. For example, you make a projection and it's not quite as attractive as you thought; you're worried that you want a bigger pension in retirement, so you want to top up the scheme. You can put money into the in-house pension scheme, that's called an AVC, an Additional Voluntary Contribution, or you can actually move outside the main scheme and go to a third party what's called a Free Standing Additional Voluntary Contribution, FSAVC. The reason for doing that might be that if you want a bigger investment choice, for example you want to access a particular investment manager, then going outside of the main scheme via the Free Standing option just gives you the flexibility to do that.

What is a transfer'?

If you change employers over the course of your career, you could well find that you want to move your pension with you. It might be for example that the new employer has a far more attractive scheme than the one you were with. If you move the scheme that is what is called a transfer. It doesn't always make sense because sometimes you may have a big penalty if you transfer. Or you may be going into not as an attractive scheme. But it's something certainly worth looking at every time you change jobs.

What happens to my occupational pension if I change jobs?

If you change jobs, the first option is simply to leave your existing pension where it is. You can no longer put money into it, but whatever is there will stay there, so that can often be quite sensible for most people. However, sometimes you might find that you've moved to a new employer and they have a really attractive pension scheme. You want to actually move what you've already got into their scheme. You can do that fairly straight forwardly - it's done by what's called a 'transfer'.

Can I leave an employer but stay in my occupational pension scheme?

When you leave an employer you can actually remain a member of that pensional scheme, i.e. it will still stay there in situ until you retire. But you can't actually put any new money into it. So you basically leave it where it is. It can remain untouched, it will still provide pension benefits when you retire. But you can't actually put any new money into it.

What happens to my occupational pension if I take early retirement?

For most people, they view retirement age as being maybe 60 or 65, and you can actually access the pension before that if you want to, if you take early retirement. But there are government rules that say you can't actually touch that money before age 50, although this is going to increase to 55 in 2010. So you can get your hands on it, provided you're at least 50 at the moment, but you may actually find yourself getting a lower pension than if you had waited till 65.

What happens to my occupational pension if I retire due to ill-health?

If you have to retire early for ill health, then you can potentially get your hands on the money. Occupational pension are allowed to give you your pension if you retire early. What you have to obviously check is how much you're going to get. Some schemes are more generous than others. Some will give you your full pension if you retire with ill health. Others may give you a reduced pension.

Will my occupational pension always be secure?

You'd like to think that it would be secure because the company has to ringfence the pension from their own investments but, nonetheless, if the company goes bust then it's not unheard of for the pension fund to go bust as well. And that's a real danger because it means, in theory, you could lose everything. Now fortunately there's been a lot of publicity surrounding this and the government has got their act together and launched what's called a pension protection fund. There are limitations but you should find, in the most part that if your product goes bust, you will get some pension.