Many people will be wondering what they should do when their company closes it’s final salary pension scheme. Of the 7,400 company pension schemes in the UK, over 90% of them are said to be in deficit to the tune of £94 billion. This has lead to them closing the scheme to new and existing employees, as they simply can’t fund them anymore. With people living longer, the bill for companies just gets bigger and bigger each year. Instead of offering final salary pension schemes, most employers offer alternatives such as so called money-purchase plans or career average revalued earnings, also called CARE.
The most common alternative to a final salary pension are called money purchase plans. Here both the company and the employee place money in a fund that is then used for investment in equities. On retirement an annuity is purchased in exchange for the lump sum. The amount you will receive depends on how well the investment has performed and current annuity rates. However, this incurs a certain level of risk, as those who have Barrett pensions found out – their pension income could be as much as one third lower as a result.
Experts say that an average 25-year-old paying into a money-purchase pension from 2009 should get a retirement income at 65 worth £16,024 a year. Contrast this to how much they would have got under a final salary scheme -£57,713.
The other option is what are known as cash balance schemes where the employer does make guarantees over the final size of the pension pot. However the fund is still turned into a pension annuity at the end, and there is no guarantee that retirement income will higher.
There are variations of the cash balance schemes, such as Barclays who provide a“hybrid cash balance scheme in which employees input 3% of salary into their pension, and in return they provide workers with a credit of 20% of yearly earnings. Barclays invests the fund in one pot, similar to a final-salary scheme, but workers get a lump sum amount on retirement which is an accumulation of the 20%. This must then be used to buy an annuity.
Career average revalued earnings or CARE schemes offer retirees an average salary income in retirement as opposed to a final salary. This can be better than a money purchase scheme as the income amount is guaranteed, but nowhere near as financially rewarding as an orthodox final salary pension scheme.
