Why it’s important to review your final salary pension
Final salary pension schemes provide guaranteed benefits to those lucky enough to have them. Guarantees are only as good as the organisation giving them and only worthwhile if they are relevant to you.
What do I need to know?
The basic bits you need to know are: when will I get my pension, how much income will I receive, how does it increase, and what happens if I die? This will help you understand any shortfall that might arise during your lifetime – and indeed how your family might be impacted if you die.
If you still work for the employer who provided you with this scheme then the chances are you will receive an annual statement projecting your benefits. You might also have been given access to a website that lets you get this information yourself.
It’s a little trickier if you have left and haven’t started drawing your pension – you will be called a ‘deferred member’. Your pension will normally be increased from the day you left until the day you take benefits. However different bits of your pension might be increased at different rates. As we don’t know what the future holds they might only be prepared to project your benefits to today.
Are increases worth it?
Many final salary pension schemes increase the income you receive in line with inflation. Inflation is low at the moment, but this has not always been the case. This feature is normally capped (often at 5% p.a.) but it does vary so check it out. Some schemes increase the income regardless.
If inflation were 2% p.a. (the Bank of England’s target) then it would take less than 15 years for the ‘buying power’ of your money to fall by a quarter. Put another way, £100 at age 65 would only be able to buy goods worth £75 at age 80. Inflation-proofing is valuable and expensive to provide yourself.
Providing for family
Many schemes include a spouse’s pension that is payable when you die. It might be half, two thirds, or more of your pension at that point. Would this be enough money? Do you need to make extra provision?
Only your legal spouse (i.e. married partner or civil partner) counts here. The scheme might be able to provide a dependant’s pension to an unmarried partner, but this isn’t guaranteed and they would need to demonstrate that they are financially dependent on you when you die.
If you are single you can’t swap the death benefit for more money while you are alive. Some schemes are more restrictive and only your spouse whilst you were working there can benefit.
Either way it makes sense to find out about this. Once you know what you have you can take action.
This is widely misunderstood for many reasons. Firstly, it is normal to see pension schemes showing a difference between the cost of providing benefits and the value of the fund. The size of the gap (and it is more likely to be a deficit) is the indicator of the problem.
Often the gap appears due to the way in which the liabilities have to be valued. It is quite complicated but the big factors tend to be (1) people living longer (2) gilt yields (interest you earn if you lend money to the government) falling. However, it could be a sign that you should take a closer look.
We recently looked at the final salary pension scheme of a multi-national UK bank. The company appears to be financially sound from their publicly available accounts, but the pension scheme only covered c80% of the liabilities. However, when we looked closer we saw there was a robust plan in place to resolve this and substantial additional contributions were already being made by the bank.
What should I do?
Most of the time the best thing to do is to leave the pension alone and make other provisions to fill the gaps in your financial planning.
In some circumstances, particularly if you are worried about the financial strength of the scheme, if could be worth exploring a transfer. This is exchanging the guarantees for transfer value to another pension. It is important you seek specialist financial advice if this is something you are considering; if the transfer value exceeds £30,000 you are legally required to take financial advice.
Dan Atkinson is head of technical & chartered financial planner at EQ Investors