YOUR MONEY: A happy ending, courtesy of the boss
Employee perks: company pensions are a cheap and effective way of funding retirement. So why look a gift horse in the mouth?
Sunday 03 November 1996
Apart from pay, pension scheme membership may be the most valuable benefit of being a wage slave. If there is a scheme available at work, it is normally worth joining, even if it means putting in money yourself. Your employer will normally be putting in more on your behalf - only a few will contribute instead to a personal pension plan - and you also stand to benefit from lower costs. But you cannot assume you are automatically a member of your work pension scheme by dint of your employment, so you may need to sign up.
Of course, some people make their own retirement provision through a personal pension plan. But only 7 per cent of employers are willing to make a contribution to an employee's own plan.
"In general, though not exclusively, company schemes tend to be better because companies put more into them," says Donald Duval of Alexander Clay, a benefit consultant. "They believe pension schemes are valuable in attracting good staff and encouraging good staff to stay."
The employer's contribution can be easily measured in "money purchase" company schemes. These work in a similar way to personal pension plans. You build up a fund of money that is converted into an income stream at retirement. The eventual pension is uncertain, depending on how well the invested money grows and how much pension income the fund can purchase at retirement.
In general, company pension schemes cost a lot less than personal plans. As well as any direct cost subsidy from the employer this also reflects the lack of need to pay a salesman.
On top of that the employer will typically pay in twice as much as the employee. If compulsory contributions are 5 per cent of gross income, the employer may pay in 10 per cent. So not joining such a scheme in most cases means effectively kissing goodbye to this money.
The cash advantage of a different type of company pension, the "final pay" variety, is less easy to measure but no less real. A final pay scheme pays a guaranteed pension based on a formula linked to pay before you retire or leave the company. The performance of invested contributions is irrelevant since the employer guarantees to make up any shortfall (if any) in the pension fund.
As a general rule the pension guarantee of a final pay scheme is worth more to older employees than to younger ones. That is because, in the absence of a pension scheme, an employee nearer retirement would have to invest far more of his or her own money than a younger one to achieve the same level of income at retirement.
For that reason personal pension plans are often touted as being particularly suitable to younger employees who are likely to change jobs.
They are "portable" and can be taken from job to job. But such sales puff could be dangerously simplistic. A person in his or her twenties (or, indeed, of any age) needs to ask this sort of question: "I could pay 5 per cent of my pay to my employer's final pay pension scheme for, say, three years, or 5 per cent to a personal pension plan: which will produce the bigger pension when I retire?"
The answer requires making a number of assumptions. You would need to ask your employer's personnel or pension department to give a projection of the benefits you might build up during your relatively brief employment, assuming certain annual pay increases and possibly a promotion. Then use the same assumptions to ask two or three personal pensions advisers for their projections.
In practice, even short-term membership of a final pay scheme can give better value for money. Mr Duval says: "In the old days, company pensions tended to be much better if you stayed with the employer than if you left. But nowadays that may not be true, or true to a much lesser extent depending on how the scheme is set up."
With money purchase schemes, your money is simply left invested when you leave a job. With final pay schemes, so-called preserved pension entitlements are increased each year in line with inflation up to 5 per cent.
But if the typical employee is likely to have several jobs during a working life, isn't it messy to have lots of preserved pensions tied up with former employers? Isn't having just one personal plan much neater?
"Not really," says Mr Duval. "You are not continuing to pay into schemes you have left. The entitlements just sit there, although there is always the option of transferring the money.
"It's quite possible to end up with one or two life policies, one or two building society accounts and so on. Pensions are no different. Indeed, if you put all your eggs in one basket it may turn out to be a bad basket."
You just have to remember that a range of pensions schemes will owe you money when you get to retirement.
But a note of caution. Company schemes may generally be better than personal plans but you should always find out exactly how much pension entitlement you are building up. Many people have only a vague idea and, in some instances, will find it much less than expected. Other retirement provision, possibly through a tax-efficient additional voluntary contribution (AVC) scheme, is often to be recommended.
q Next week: childcare benefits.
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