Pensions: Five basic questions answered
- 29 July 2010
- From the section Business
A pension is an income for your retirement - and many people have worked for years, saving money into a pension pot.
They assume this will guarantee them a more comfortable old age.
Now, the BBC has become the first major public corporation to make big changes to its pension scheme for existing members.
It comes after many private businesses have closed their final-salary schemes for new and existing members.
But why are these "gold-plated" pensions under threat, and why is the whole process so complicated?
Here are some of the most basic questions about the pensions situation.
Is it worth saving in a pension scheme anymore?
There have been lots of headlines about companies closing their final-salary pension schemes. The value of pension funds also took a big hit during the recession.
One survey suggested that two-thirds of people aged under 30 and working are not saving for a pension. Some have considered property to be a better option to raise money for retirement.
But it is worth remembering that by joining a company pension, your employer will make a contribution to your pension pot.
So by ignoring the pension scheme, you are effectively ignoring extra long-term pay from your employer.
What are the different types of pensions?
An occupational scheme is one organised by an employer. Typically, an employee pays into the pension pot, and the employer pays a contribution too.
A final-salary scheme is a guaranteed pension based on your earnings at end of your career and length of service. It is also called defined benefits. There are still thousands of these schemes in existence, even though some are being closed.
A defined contribution scheme is an investment fund, determined by contributions and investment returns, used to buy an annual pension. This is also called a money purchase scheme.
So the amount you get on retirement is dependent on how well the investment has done. It is usually worth less than final-salary pensions.
What about if I am not in a company scheme?
You might want to consider a personal pension. While you obviously will not get a contribution from an employer, there is the incentive of tax relief from the government.
So generally, for every £80 you pay into your pension, you end up with £100 in your pension pot.
Personal pensions are purchased from a provider such as an insurance company, High Street bank, building society or most typically, a pension company.
When you invest in your personal pension, there are no guarantees of returns and the value of your investments can fall as well as rise. So advisers generally say you should move investments to somewhere safe in the run-up to retirement, even if the returns are not as good.
Is my state pension affected by all these changes?
No, this is a separate debate - although some of the fundamental issues are the same.
The pension age is the time when you can start collecting your state pension. This may come later than your retirement age - when you finish work and cash in your other pensions.
The government is to hold a formal consultation to set the date at which the state pension age starts to rise to 66. It will not be sooner than 2016 for men and 2020 for women.
The Labour government was planning to make the same change, but with a much longer timescale, starting in 2024.
The new coalition government also wants, by October 2011, to scrap a rule that means you can be told to retire at 65 by your employer, even if you do not want to.
All of this sounds as though my retirement years and income are shrinking. Why?
All this relates to the fundamental issues raised earlier - namely that we are all living for longer and the population is growing.
This means a smaller proportion of working people are supporting larger numbers of retired people - bearing in mind that they have been paying their taxes and National Insurance for years.
For companies, this means pension pots need to pay for more and more people. On top of this, the recession hit the value of these investments.
Many invest in big companies, and when their share price falls - as has been the case with BP - then the financial position of these pension funds are hit too.
Many people in the public sector have argued that they have accepted a smaller salary than they can get in the private sector, because of more generous pension schemes and the opportunity to retire earlier. So they will not be happy if, like the BBC, the terms of these pensions are altered.